-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Ol9o9bsZuBCM3mpY4A7W0lSi/pkXUaeqUX8mGYgS4zYku/BRcnyr0GGWXdN8hMSo AejbVZQ+tgT+XTibUInTnA== 0000890566-98-001688.txt : 19981014 0000890566-98-001688.hdr.sgml : 19981014 ACCESSION NUMBER: 0000890566-98-001688 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 10 CONFORMED PERIOD OF REPORT: 19980628 FILED AS OF DATE: 19981013 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: WATERMARC FOOD MANAGEMENT CO CENTRAL INDEX KEY: 0000884131 STANDARD INDUSTRIAL CLASSIFICATION: RETAIL-EATING PLACES [5812] IRS NUMBER: 742605598 STATE OF INCORPORATION: TX FISCAL YEAR END: 0630 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-20143 FILM NUMBER: 98724352 BUSINESS ADDRESS: STREET 1: C/O BILLY BLUES STREET 2: 11111 WILCREST GREEN, SUITE 350 CITY: HOUSTON STATE: TX ZIP: 77042 BUSINESS PHONE: 7137830500 MAIL ADDRESS: STREET 1: C/O BILLY BLUES STREET 2: 11111 WILCREST GREEN, SUITE 350 CITY: HOUSTON STATE: TX ZIP: 77042 FORMER COMPANY: FORMER CONFORMED NAME: BILLY BLUES FOOD CORP DATE OF NAME CHANGE: 19930328 10-K 1 U.S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-K ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED JUNE 28, 1998 Commission File No. 0-20143 WATERMARC FOOD MANAGEMENT CO. (Name of Registrant in Its Charter) TEXAS 74-2605598 (State or Other Jurisdiction of (I.R.S. Employer Identification No.) Incorporation or Organization) 11111 WILCREST GREEN, SUITE 350 HOUSTON, TEXAS 77042 (Address of Principal Executive Offices) (Zip Code) Issuer's Telephone Number, Including Area Code: (713) 783-0500 Securities registered under Section 12(b) of the Exchange Act: None Securities registered under Section 12(g) of the Exchange Act: COMMON STOCK, $.05 PAR VALUE PER SHARE (Title of Class) 9% CUMULATIVE PREFERRED STOCK, $1.00 PAR VALUE PER SHARE (Title of Class) Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] As of September 11, 1998, the aggregate market value of the Common Stock held by non-affiliates of the issuer was approximately $2,087,902 based on the average bid and ask prices of $.085 per share of Common Stock as quoted on the Over the Counter Bulletin Board. As of September 11, 1998, 24,563,564 shares of the issuer's Common Stock and 329,540 shares of the issuer's Preferred Stock were outstanding, respectively. DOCUMENTS INCORPORATED BY REFERENCE No documents, other than certain exhibits, have been incorporated by reference in this report. ================================================================================ ITEM 1. DESCRIPTION OF BUSINESS. GENERAL As of June 28, 1998, Watermarc Food Management Co., a Texas corporation, (the "Company"), owned and operated, both directly and through subsidiaries, full-service restaurants under the names Marco's Mexican Restaurants (the "Marco's Restaurants"), The Original Pasta Co. Restaurants (the "Pasta Co. Restaurants") and Billy Blues Barbecue Bar & Grill (the "Billy Blues Restaurant"). During the first quarter 1998, the Company's Longhorn Cafe was sold to an unaffiliated party. See "Concepts and Menus". The Company was organized as Billy Blues Food Corporation, a Texas corporation, on June 17, 1991 to develop, own and operate restaurants and to produce and market a uniquely flavored barbecue sauce. In March of 1995, the name was changed to Watermarc Food Management Co. In the fourth quarter of fiscal 1994, the Company acquired twenty one Marco's Restaurants. Two Marco's Restaurants were subsequently built. In the third quarter of fiscal 1994, the Company acquired Chris' & Pitt's Bar-B-Q Sauce, a medium priced barbecue sauce product line. In the third quarter of fiscal 1996, the Company acquired ten Pasta Co. Restaurants. Furthermore, the Company opened three new Pasta Co. restaurants in fiscal 1996, four new restaurants in fiscal 1997, and one new restaurant during the first quarter of fiscal 1998. Unless the context requires otherwise, references to the "Company" refer to Watermarc Food Management Co., its predecessors and subsidiaries. CONCEPTS AND MENUS MARCO'S RESTAURANTS. Marco's Restaurants are full service restaurants that feature high quality, moderately priced Mexican food. The style and decor of Marco's Restaurants are distinctive and colorful and are designed to present a Mexican style motif in a family oriented environment. Marco's Restaurants have a standardized menu with a variety of offerings, including Black Angus beef fajitas, tacos, enchiladas and numerous appetizers. Entrees range in price from $4.99 to $12.99. Marco's Restaurants also offer a full service bar specializing in various flavored margaritas, as well as numerous brands of Mexican and domestic beer and wine. The restaurants are open for lunch and dinner seven days a week. A typical Marco's Restaurant consists of 4,000 to 6,000 square feet for dining and bar facilities, and has a seating capacity for 175 to 300 patrons. The decorative scheme in each restaurant incorporates a centrally located Tortilla Room where tortillas are prepared and served fresh to the customer. The exterior design of the Marco's Restaurants normally conforms to the shopping center in which it is located, with the restaurant's name and logo prominantly displayed. The restaurants have varying floor plans and configurations. During the third quarter of fiscal 1998, the Company closed its Marco's Mexican Restaurant in College Station, Texas. As of June 28, 1998, the Company had a total of twenty-one Marco's Restaurants in operation in Southeast Texas, including the Houston metropolitan area, Victoria, and Lake Jackson, Texas. During the first quarter of fiscal 1999, the Company closed its Lake Jackson Marco's Mexican Restaurant. PASTA CO. RESTAURANTS. Pasta Co. Restaurants are distinctive, colorful, Italian-style, family oriented restaurants that feature full-service and offer moderately priced food and beverages. The restaurants include a brick oven for the preparation of pizzas, as well as a cooking area where entrees are produced. Both the oven and the cooking area are visible to customers. The Pasta Co. Restaurants offer a wide variety of appetizers, soups, salads, pasta and other entrees, pizzas, desserts and beverages. The restaurants specialize in generous portions at reasonable prices, with any item on the menu available for $8.69 or less. A children's menu is also available. Beverages sold consist of coffee, tea, sodas, bottled water, espresso, cappuccino, beer and wine. Most menu items are available for take-out. The exterior of each of the locations generally conforms to that of the center of which it is located, with the restaurant's name and logo prominently displayed. In addition, numerous windows make the restaurants more inviting from the outside and lighter and brighter on the inside. Decor items, ingredients and produce displayed on shelves and cases throughout the restaurants give the impression of an open-air Italian marketplace. Typical units are approximately 3,600 to 4,000 square feet each, and most have an outside patio of approximately 400 additional square feet. The units have seating capacities of 160 to 200 persons. The restaurants are open for lunch and dinner seven days a week. As of June 28, 1998, the Company had a total of eighteen Pasta Co. Restaurants in operation, all of which were located in Southeast Texas. -2- BILLY BLUES RESTAURANT. The Billy Blues Restaurant generates an exciting and vibrant "Texas Roadhouse" ambiance enhanced by recorded and live music, Texas artifacts, neon signage and other memorabilia. The Billy Blues Restaurant consists of approximately 8,000 square feet for dining and bar/entertainment facilities. The restaurant has dining and bar seating capacity for 240 customers and features a night club called the "Blues Room" which seats an additional 200 customers. A section of the restaurant is used for the display and retail sale of novelty items featuring the Billy Blues name and logo, including T-shirts, caps and sweat shirts. The decorative scheme incorporates memorabilia associated with blues music, focusing on legendary blues figures, photographs, musical instruments and framed newspaper and other articles relating to the blues musical culture. The Billy Blues Restaurant serves dinner with full bar service, featuring a moderately priced, limited menu of high quality smoked barbecue and other entrees. Entrees range in price from $7.95 to $16.95. In the Blues Room, full bar service is provided and patrons can enjoy a light snack or an entire meal with cocktails while being entertained by a blues band or recorded blues music. FOOD PRODUCTS. The Company also produces two brands of barbecue sauce products and a spice rub, Billy Blues Barbecue Sauce, Chris' & Pitt's Bar-B-Q Sauce and Chris' & Pitt's Spice Rub. Billy Blues Barbecue Sauce is a tangy, coffee-spiked formulation packaged in three different flavors. Billy Blues Barbecue Sauce is sold on a special order basis, primarily to restaurants. Chris' & Pitt's Bar-B-Q Sauce is packaged in six different flavors and is available in supermarkets and other retail outlets located primarily in the State of California. The Company also markets and packages its Chris' & Pitt's Bar-B-Q Sauce products for food service distribution to restaurant chains and commissaries. The Company periodically engages in advertising campaigns to enhance customer awareness of barbecue sauce products in the areas where they are currently available in supermarkets and other retail outlets. The Company currently engages, on an order to order basis, an unaffiliated food processor and packaging company (the "Co-Packer") in Riverside, California for the processing and packaging of its food product lines. Under its production arrangement with the Co-Packer, the Co-Packer procures all ingredients and packaging materials, and performs product preparation and packing at an agreed upon price. The Company engages food brokers to assist in selling its products to regional and national supermarket chains. The Company generally pays its food brokers a 5% commission on the amount they sell. To date, the Company's food brokers have accounted for most of the Company's sales to supermarket chains. To achieve greater market penetration, the Company has expanded its food broker network. The Company utilizes a distribution warehouse in California for storage of products. The Company pays handling and storage fees based on the actual monthly volume shipped to the warehouse. The Company contracts with independent freight carriers for the delivery of its product lines, or provides special pricing for customers who pick up the product at a storage warehouse. The Company's product lines are distributed to supermarkets either through: (1) direct shipment to a supermarket chain warehouse which then distributes to its individual supermarkets from the warehouse; (2) direct shipment to an independent grocery warehouse, which performs the same function as a supermarket chain warehouse for a fee; or (3) an independent food distributor who picks up the products at the storage warehouse and delivers directly to the supermarkets. A fee is paid to the food distributor based on volume. The Company generally sells its food products pursuant to customer purchase orders and usually fills the orders within approximately ten days of receipt. Because orders are filled shortly after receipt, backlog is not material to the Company's business. Food product revenues, as a percent of total revenues, for the last three fiscal years ended June 28, 1998, June 29, 1997 and June 30, 1996 were 6.6%, 4.9% and 7.2% respectively. Even though the Company believes it has achieved limited consumer awareness and market acceptance of its food products, there can be no assurance that the Company's product lines will ever achieve significant consumer acceptance or that supermarket and other retail chains will re-order the Company's food products. BUSINESS STRATEGY Historically, the Company's primary business strategy has been to expand its restaurant and barbecue sauce operations through internal growth and by acquiring businesses with concepts and themes compatible with the Company's operations. This strategy was evidenced by the Company's acquisition in March 1994 of the Chris & Pitts Bar-B-Q Sauce line, in July 1994 of Marco's Mexican Restaurants, Inc., which owned and operated twenty one Marco's Restaurants, and in January 1996 of The Original Pasta Co., which owned and operated ten Pasta Co. Restaurants. -3- During the fourth quarter of fiscal 1997, management was reorganized. Previously successful management was engaged to restore the Company to profitability. Ghulam M. Bombaywala, Chairman of the Board and Chief Executive Officer, was elected President and Chief Operating Officer of the Company. Future growth by acquisition or restaurant expansion is not planned at this time until the Company is restored to profitability. The Company's plan to return to profitability for fiscal 1999 includes the following: o Increasing revenues from the sale of food products by reinforcing existing markets, expanding distribution to new market areas, introducing more aggressive marketing programs,adding methods of distribution and developing new products. o Further reductions in operating expenses through improved cost controls. o Further reductions in general and administrative expenses. o Increasing revenues in existing restaurants by improving marketing programs and customer service. o Selling or closing its Billy Blues Restaurant and non-performing Marco's and Pasta Co. Restaurants. o Renegotiating and extending the terms of the Company's existing indebtedness o Obtaining additional equity capital or debt financing. MARCO'S RESTAURANTS. During fiscal 1998, the Company closed its restaurant located in College Station, Texas due to poor operating performance. During the first quarter of fiscal 1999, the Company closed its Lake Jackson restaurant, also due to poor operating performance. During fiscal 1999, the Company will continue to monitor the performance of each restaurant and, if necessary, close or sell those which are not profitable. No new restaurant construction is planned at this time. PASTA CO. RESTAURANTS. One new Pasta Co. restaurant was opened in the first quarter of fiscal 1998. Growth in the Pasta Co. concept should be achieved by concentrating on increasing customer satisfaction, focusing on controlling food costs and outsourcing labor intensive food preparation processes as a measure to reduce costs and maximize revenue. Outsourcing products will also aid in achieving product consistency from restaurant to restaurant. No new restaurant construction is planned at this time. BARBECUE RESTAURANTS. The Company does not plan to expand its Billy Blues Restaurant concept. As a measure to reduce costs and maximize revenues, the Billy Blues Restaurant no longer serves lunch. It is now open exclusively for dinner and evening entertainment. The Company anticipates selling the Billy Blues Restaurant in fiscal 1999. During the first quarter of fiscal 1998, the Longhorn Cafe was sold to an unaffiliated party. FRANCHISING. To date, no restaurants have been franchised. The Company does not intend to emphasize a franchise program for Marco's Restaurants and Pasta Co. Restaurants during fiscal 1999 unless or until the Company's profitability is restored. Management believes that franchising could provide significant growth for the Company in upcoming years. FOOD PRODUCTS. The Company currently produces two brands of barbecue sauce products and a spice rub. The Company's strategy to increase food product sales is focused on its Chris' & Pitt's product line and includes reinforcing existing markets, including recapturing lost commercial customers, expanding distribution to new market areas (primarily in the Sun Belt states), introducing more aggressive marketing programs, adding methods of distribution and developing new products. POSSIBLE SALE OF COMPANY OR ASSETS. If the Company cannot achieve profitable operations during fiscal 1999 or 2000 it will consider a sale or merger of all or part of the Company, its divisions or assets. The Company has discontinued its strategy of pursuing acquisition candidates in the restaurant industry at this time, except where any such acquisition or business combination could enhance the Company's ability to continue as a going concern. -4- RESTAURANT LOCATIONS AND SITE SELECTION The Company believes that the locations of its restaurants are critical to its long-term success. Senior management devotes significant time and resources to analyzing each respective site. The Company utilizes, and continually enhances, specific site selection criteria which focuses on local demographics such as target population, density and household income levels; specific site characteristics such as visibility, accessibility and traffic volume; proximity to activity centers; parking availability; and potential competition in the area. Currently, all restaurants are located in Texas. The Company periodically reevaluates restaurant sites to ensure that site selection attributes have not deteriorated below minimum standards. In the event site deterioration occurs, the Company makes a concerted effort to improve the restaurant's performance by providing physical, operating and marketing enhancements unique to each restaurant's situation. If efforts to restore the restaurant's performance to acceptable minimum standards are unsuccessful, the Company considers relocation to a proximate, more desirable site, or evaluates closing the restaurant if the Company's criteria, such as return on investment and area demographic data, do not support a relocation. Since inception through June 28, 1998, the Company has closed or sold eleven restaurants, including two in fiscal 1998, which were performing below the Company's standards primarily due to declining trade area demographics. These and future closings will be key to a successful rehabilitation of the Company. With each restaurant closing, the Company incurs losses from the disposal of fixed assets and must negotiate a lease settlement with the landlord for the restaurant location involving the settlement of future payment obligations. The Company has limited resources to make these payments. (See "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" (hereinafter referred to as "MD&A".)) The following table provides information with respect to the restaurants which were owned and operated by the Company as of June 28, 1998: NO. OF APPROXIMATE CONCEPT UNITS SQUARE FOOTAGE ------- ----- -------------- Marco's Mexican Restaurants 21 3,850 - 6,900 The Original Pasta Co. 18 3,600 - 4,200 Billy Blues Bar & Grill 1 8,000 UNIT ECONOMICS The average initial cash investment (including leasehold improvements, furniture and fixtures, equipment, food and beverage inventory, and other pre-opening expenses) for each Marco's Restaurant and Pasta Co. Restaurant is approximately $350,000 to $500,000 with pre-opening expenses projected to be approximately $50,000 for each future restaurant. All of the Company's restaurants are leased. RESTAURANT MANAGEMENT AND OPERATIONS MANAGEMENT AND EMPLOYEES. The management staff of the Company's restaurants consists of a general manager and assistant managers. Each Marco's and Pasta Co. Restaurant employs 30 to 40 hourly employees. The Billy Blues Restaurant employs approximately 30 hourly employees. At all of the restaurants, the general manager has the primary responsibility for the day to day operations of the restaurant and is required to comply with Company established operating standards. Many of the hourly employees work part-time. SUPERVISION AND TRAINING. The Company employs general managers with significant experience in the food service industry. Executive management of the Company regularly visits the restaurants to insure that the Company's concept, strategy and standards of quality are being adhered to in all aspects of restaurant operations. The restaurant general manager and designated personnel of the Company are responsible for selecting and training the employees for each restaurant. The training period for new employees lasts approximately five days and is characterized by on the job supervision by an in store trainer. Ongoing employee training remains the responsibility of the restaurant general manager. Written tests and physical observation are used to evaluate each employee's performance. In addition, training coordinators have been hired to focus on improving customer satisfaction through better employee training for both the Marco's Restaurant and Pasta Co. Restaurant concepts. -5- PURCHASING AND SUPPLIES. Management negotiates directly with suppliers for food and beverage products to insure uniform quality and adequate supplies and to obtain competitive prices. The Company purchases substantially all food and beverage products and novelty items from local or national suppliers. The Company does not anticipate any difficulty in continuing to obtain food and beverage products within the localities in which the Company currently operates. ADVERTISING AND PROMOTION. The Company pursues advertising and promotional opportunities within each of its restaurant's geographic locales, relying principally on the direct mailing of coupons, newspaper, and radio. In addition, the Company has instituted an intense, targeted marketing effort focusing on individual locations with poor operating performance. Location specific research and targeted marketing efforts are being implemented. RESTAURANT REPORTING. Each restaurant has a stand-alone point of sales system monitored by its management. The restaurant's staff prepares daily cash and other reports regarding sales, inventory, sales mix, labor cost and the number of customers. Daily reports are forwarded to the Company's corporate offices in Houston, Texas where weekly summaries of all reported data are analyzed by the Company's key management. COMPETITION The restaurant industry is intensely competitive with respect to price, service, location and food quality. There are many well established competitors with substantially greater financial and other resources than the Company. Most of the Company's competitors have been in existence for substantially longer periods than the Company and are more established in the markets where the Company's restaurants are located. The Company's competitors have achieved significant national, regional and local brand name and product recognition and engage in extensive advertising and promotional programs, both generally and in response to efforts by additional competitors to enter new markets or introduce new products. The restaurant business is often characterized by a high failure rate and affected by changes in consumer tastes and discretionary spending, national, regional and local economic conditions, demographic trends, traffic patterns, and the type, number and location of competing restaurants. Any change in these factors could adversely affect the Company's restaurant operations. Multi-unit foodservice operations such as those of the Company can also be substantially affected by adverse publicity resulting from food quality, illness, injury, health concerns, or operating issues stemming from a single restaurant. The Company attempts to manage these factors, but the occurrence of any one of these factors could cause the Company to be adversely affected. Competition in the Houston geographic area is particularly acute which may partially explain the Company's declining restaurant sales for the past three years. (See "MD&A".) TRADEMARKS The mark "Marco's Mexican Restaurants" was registered in the U.S. Patent and Trademark Office on January 15, 1991 and in the State of Texas in 1987. The mark "The Original Pasta Co." was registered in the U.S. Patent and Trademark Office on October 8, 1996 and in the State of Texas in 1998. The Billy Blues Barbecue Bar & Grill and Billy Blues Barbecue Sauce logos were registered in the State of Texas in 1991. The Chris' & Pitt's mark and logo were registered prior to the Company's acquisition of the Chris' & Pitt's product line. The mark "Billy Blues" was registered in the U.S. Patent and Trademark Office on November 17, 1992 as a service mark for restaurant and bar services. The mark "Billy Blues" as a trademark for the Company's barbecue sauce was registered in the U.S. Patent and Trademark Office on October 13, 1992. The Company has no reason to believe that there are any conflicting rights which might impair the Company's use of its marks; however, there can be no assurance that such conflicting rights do not exist. The Company believes that these trademarks are valuable to the operation of its restaurants and marketing of its food products. The Company's policy is to pursue registration of its marks whenever possible and to vigorously oppose any infringement of its marks. -6- GOVERNMENT REGULATION RESTAURANT OPERATIONS. The Company is subject to various federal, state and local laws and regulations and administrative policies affecting its business and must comply with provisions regulating health and sanitation, equal employment, minimum wages and licensing for the sale of food and alcoholic beverages. Difficulties or failures in obtaining or maintaining the required licenses or approvals could adversely affect the operations of existing restaurants. Approximately 15% of the revenues generated by the Marco's Restaurants are attributable to the sale of alcoholic beverages, while approximately 6% of the revenues generated by the Pasta Co. Restaurant and approximately 40% of the revenues generated by the Billy Blues Restaurant are the result of the sale of alcoholic beverages. The service of alcoholic beverages is material to the business of the Company. Alcoholic beverage control regulations require each of the Company's restaurants to apply to a state authority and, in certain locations, county or municipal authorities, for a license or permit to sell alcoholic beverages on the premises and to provide service for extended hours and on Sundays. Typically, licenses must be renewed annually and may be revoked or suspended for cause at any time. The Company does not anticipate experiencing any delays or other problems in obtaining or renewing licenses or permits to sell alcoholic beverages; however, the failure to receive or retain, or a delay in obtaining, a liquor license in a particular location could adversely affect the Company's operations in that location. The Company may be subject in certain states to "dram-shop" statutes or common laws, which generally provide a person injured by an intoxicated person the right to recover damages from an establishment which wrongfully served alcoholic beverages to the intoxicated person. The Company carries liquor liability insurance. The Company's restaurant operations are also subject to federal and state minimum wage laws governing such matters as working conditions, overtime and tip credits; the Immigration and Naturalization Act, which governs employee citizenship requirements; and the Americans with Disabilities Act, which governs non-discriminating employment practices and reasonable accommodations for disabled persons, both employees and customers. Significant numbers of the Company's food service and preparation personnel are paid at rates related to the federal minimum wage and, accordingly, future increases in the minimum wage or decreases in the allowable tip credit will increase the Company's labor costs. The Company has experienced an increase in its labor costs on an absolute basis and as a percentage of declining sales which significantly affects the Company's profitability. Increasing labor costs may continue due to relatively tight labor market conditions. (See "MD&A".) FOOD PRODUCT OPERATIONS. The Company's and the Co-Packer's food processing activities are subject to extensive regulation by the United States Food and Drug Administration, and by other state and local authorities. The Company believes that it is currently in compliance with all governmental laws and regulations and that the Company has all material permits and licenses relating to its food processing operations. The Company has no reason to believe that the Co-Packer is not in substantial compliance with all material governmental laws and regulations and believes that the Co-Packer has all material permits and licenses relating to its food processing operations. Nevertheless, there can be no assurance that the Company or the Co-Packer will continue to be in substantial compliance with current laws and regulations or that the Company or the Co-Packer will be able to comply with any future laws and regulations. Failure by the Company or the Co-Packer to comply with applicable laws and regulations could subject the Company to civil remedies, including fines, injunctions, recalls or seizures which could have a material adverse effect on the Company. Federal, state and local environmental regulations are not expected to have a material effect on the Company's operations, but more stringent and varied requirements of local governmental bodies with respect to zoning, land use and environmental factors may restrict the Company's site selection for new restaurants. WORKERS' COMPENSATION. The Company has elected to be a non-subscriber under the Texas Workers' Compensation Act. The Company offers, at no cost to the employees, a Voluntary Employee Injury Benefit Plan ("Benefit Plan") which provides certain benefits to employees injured during the course and scope of their employment. The Benefit Plan is funded out of the general assets of the Company. Management believes that the Benefit Plan will decrease the Company's overall net cost in future periods. Management intends to review this election on an annual basis. The Company does not believe it would encounter any impediments if it elected in the future to become a subscriber under the Texas Workers' Compensation Act. The Company does not believe that personal injury claims by current or former employees of the Company, either individually or in the -7- aggregate, will have a material adverse effect on the Company, its properties or business. The Company does not maintain a reserve fund for potential claims, but carries catastrophic loss coverage with a limit of $1,000,000 and a deductible of $150,000 per incident. EMPLOYEES At September 11, 1998, the Company employed 1,370 persons of whom 30 are management and administrative personnel, 90 are restaurant management personnel, with the remainder serving as hourly restaurant employees. The Company intends to increase its management and clerical staff as needed. The Company is not a party to a collective bargaining agreement and considers its relationship with its employees to be satisfactory. ITEM 2. DESCRIPTION OF PROPERTY. As of June 28, 1998, the Company leases all of its Marco's Restaurants, Pasta Co. Restaurants and the Billy Blues Restaurant. The leases have terms that expire between 1999 and 2012 and have an average remaining term of approximately six years. The Company obtains real estate and develops its restaurants using two methods: (i) leasing the land and building (a "land/building lease"); or (ii) leasing a "shell" where the landlord may or may not contribute to the construction of the improvements (a "shell lease"). The method the Company pursues is determined on an individual site basis, depending on the cost and location of the property and the negotiations between the Company and the owner of the desired property. Of the Company's restaurants, four are land/building leases, and thirty-six are shell leases. The leases generally provide for rental rates based upon a stated minimum rental and percentage rent payments based upon a certain sales base. The Company's monthly lease cost for its restaurants ranges from approximately $4,000 to $9,000 per month. Under substantially all of its leases, the Company is required to pay real estate taxes, insurance, and maintenance expenses. The Company's leases usually contain a renewal right for terms ranging from 5 to 15 years at then prevailing market rates. The equipment located at most of the Company's restaurants has been pledged as collateral to secure various loans, notes, and leases of the Company, including landlord liens. The Company's executive office is located in approximately 6,300 square feet of leased space in Houston, Texas. The Company considers that its properties are suitable, adequate, well-maintained and sufficient for the operations contemplated. ITEM 3. LEGAL PROCEEDINGS. The Company is a party to a lawsuit filed by one of its vendors arising out of goods sold to Pete's Hospitality Co., Inc., ("Pete's") formerly a subsidiary of the Company. The Company had guaranteed an open account of Pete's. Pete's filed for bankrupcy and failed to pay the account. The vendor filed suit against the Company on the guarantee. Except as stated above, in management's opinion, the Company is not a party to any litigation other than ordinary routine matters which are incidental to the Company's business, including employee personal injury claims and disputes with vendors and suppliers. The Company believes that no current legal proceedings, individually, will have a material adverse effect upon the Company or its business. However, in the view of the Company's overall financial condition including a negative working capital position of $9.7 million at June 28, 1998, one or more of such litigation matters, or such matters in the aggregate, could have a material adverse effect on the Company if such matters are not settled on favorable terms or result in unfavorable judgments. (See "MD&A" and "Note 1 of Notes to Consolidated Financial Statements.") ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. No matter was submitted to a vote of security holders of the Company during the fourth quarter of fiscal 1998. -8- PART II ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. The Company's Common Stock is traded on the Over The Counter Bulletin Board under the symbol of WAMA. The following table sets forth the range of low and high closing bid prices for the Company's Common Stock for the periods indicated as reported by the National Quotation Bureau, Incorporated. These prices represent inter-dealer prices, without adjustment for retail mark-ups, mark-downs or commissions and do not necessarily represent actual transactions. COMMON STOCK BID PRICE ------------ FISCAL YEAR 1997 LOW HIGH ---------------- --- ---- First Quarter..................... .50 1.06 Second Quarter.................... .47 1.31 Third Quarter..................... .28 .75 Fourth Quarter.................... .22 .50 FISCAL YEAR 1998 LOW HIGH ---------------- --- ---- First Quarter..................... .22 .38 Second Quarter.................... .05 .31 Third Quarter..................... .05 .18 Fourth Quarter.................... .14 .32 On September 11, 1998, the closing bid price for the Company's Common Stock was $.08 per share. As of September 11, 1998, 24,563,564 shares of the Company's Common Stock were outstanding. The Company believes that the actual number of security holders of the Company's Common Stock is approximately 2,200, including beneficial owners. The Company has neither paid nor declared any cash dividends on its shares of Common Stock since inception. The current policy of the Board of Directors is to retain all available earnings of the Company for use in the operation of the Company's business. The payment of cash dividends in the future will depend upon such factors as earnings levels, capital requirements, the Company's financial condition and other factors deemed relevant by the Board of Directors. Due to its negative shareholders' equity, the Company is precluded by law from paying cash dividends at this time. The Company is required to pay dividends on its Preferred Stock before any dividends can be paid on the Common Stock. With respect to sales of unregistered securities and a description therof, reference is made to Note 11 - "Related Party Transactions" to the Consolidated Financial Statements. On March 27, 1998, 7,500,000 shares of the Company's Common Stock were issued to Ghulam M. Bombaywala, Chief Executive Officer and director of the Company, in a private transaction based on exemption 4(2) under the Securities Act of 1933, as amended, pursuant to a Conversion and Offset Agreement in exchange for the conversion by him of $3,750,000 owed to him by the Company at a conversion price of $.50 per share. (See "Item 13. Certain Relationships and Related Transactions.") Amendments adopted to the listing requirements for NASDAQ Small Cap companies resulted in the delisting of the Company's Common Stock, Preferred Stock and Warrants from NASDAQ during the second quarter of fiscal 1998. To remain listed on NASDAQ, the Company's shares must trade at $1.00 or above and the Company must have a tangible net worth of $2,000,000. The Company was unable to meet the new requirements without substantial equity capital. Shareholders may find it more difficult to dispose of or obtain accurate quotations as to the value of the Company's securities. -9- ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA.
FISCAL YEAR -------------------------------------------------------- 1998 1997 1996 1995 1994 ---- ---- ---- ---- ---- (in thousands, except per share data) OPERATING DATA: Revenues $ 40,172 $ 49,125 $ 40,129 $ 37,652 $ 37,008 Net Income (Loss) $ (6,964) $(10,913) $ 49 $ (7,037) $ (8,360) Net Income (Loss) Per Common Share* - Basic $ (0.42) $ (0.83) $ (0.02) $ (0.82) $ (1.10) BALANCE SHEET DATA (end of period) Total Assets $ 12,683 $ 16,715 $ 25,865 $ 17,672 $ 20,133 Long-term Debt $ 7,230 $ 4,985 $ 10,768 $ 1,709 $ 1,507
* After giving effect to preferred stock dividends. NOTE: Cash dividends have never been paid on Common Stock. The following lists significant items that may affect the comparability of the above selected financial data: o The comparability of the information presented above is predicated upon the Company's ability to continue as a going concern of which there is substantial doubt without immediate additional financing - (See "MD&A" and "Note 1 to Notes to the Consolidated Financial Statements.") o In the third quarter of fiscal 1998 the Marco's Mexican Restaurant in College Station, Texas was closed. o In the first quarter of fiscal 1998 the Longhorn Cafe Restaurant - Downtown was sold. o In the fourth quarter of fiscal 1997 Pete's Hospitality and Marco's Mexican Restaurant in Texas City, Texas were sold. o Early in the third quarter of fiscal 1996, ten Pasta Co. restaurants were acquired (See "Item 13. Certain Relationships and Related Transactions".) The Pasta Co. contributed approximately $5 million in revenues in fiscal 1996 and approximately $14 million in revenues in fiscal 1997. o In the fourth quarter of fiscal 1995 and during fiscal 1996 four Billy Blues Restaurants and one Longhorn Cafe Restaurant were closed or sold reducing revenues for 1996 by approximately $2.5 million. o In the fourth quarter of fiscal 1994 the Marco's Restaurants were acquired. Marco's contributed approximately $22 million in revenues in fiscal 1994 and approximately $23 million in revenues in fiscal 1995. o Notwithstanding the restaurant acquisitions and closings described above, it should be noted that the Company's comparable store revenues have shown significant adverse declines in the past two years, 14% and 7.4% in fiscal 1998 and 1997, respectively. These declines, combined with an increase in certain costs, have negatively impacted the Company's operating and net income irrespective of any asset impairment charges or writedowns in any particular year. (See "MD&A" and "Note 1 to Notes to the Consolidated Financial Statements.") -10- ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. GENERAL The Company acquired The Original Pasta Co. on January 26, 1996. The acquisition was accounted for under the purchase method and, accordingly, the Company's Consolidated Financial Statements include the results of operations of Pasta Co. from its acquisition date. During fiscal 1998 the general economy was positive. Southeast Texas also has been rebounding from depressed times. The restaurant industry in general is supported by a positive economy yet the average failure rate in the restaurant business is approximately one in ten in part due to changing customer tastes, trade demographics and fierce competition. The Company has once again focused its marketing strategy around direct mail and newspaper coupons which have traditionally been successful in an effort to combat declining sales. The Company believes its restaurant concepts offer a strong price to value relationship in their markets. The Company continues to attempt to enhance and develop its concepts by offering the consumer more health conscious alternatives and daily dinner/lunch specials at an attractive price. However, as discussed below, the Company continues to suffer comparable restaurant sales declines with respect to many of its Marco's and Pasta Co. Restaurants and with respect to overall comparable restaurant sales. The Company utilizes a 52-53 week fiscal year which ends on the Sunday closest to June 30. References to 1998, 1997 and 1996 are all 52 week periods ended June 28, 1998, June 29, 1997 and June 30, 1996, respectively. At the end of each fiscal year, the Company had the following restaurants in operation: RESTAURANTS: 1998 1997 1996 - ----------- ---- ---- ---- Marco's Mexican Restaurants 21 22 23 Pasta Co. Restaurants 18 17 13 Billy Blues Restaurant 1 1 1 Longhorn Cafe 0 1 1 Pete's Restaurants 0 0 2 Hotspurs 0 0 1 ---- ---- ---- Total 40 41 41 ==== ==== ==== (This space intentionally left blank.) -11- RESULTS OF OPERATIONS The following table sets forth for the periods indicated (i) operating results as a percentage of total revenues and (ii) selected operating data for its restaurant and food product divisions. The Company's revenues are derived from restaurant sales and food product sales to third party retail outlets. Certain costs and expenses relate only to restaurant sales (food and beverage, restaurant labor and other operations) or food products (cost of food products), while other operating costs and expenses relate to both restaurant and food products (general and administrative and depreciation and amortization).
FISCAL YEAR ENDED ----------------- JUNE 28, 1998 JUNE 29, 1997 JUNE 30,1996 ------------- ------------- ------------ STATEMENTS OF OPERATIONS DATA: ------------------------------ Revenues Restaurants 93.4% 95.1% 92.8% Food products 6.6 4.9 7.2 ----- ----- ----- Total revenues 100.0% 100.0% 100.0 Costs and expenses: Cost of restaurant revenues: (1) Cost of food and beverage 29.9 26.8 29.4 Labor and other operations 70.3 68.5 58.0 ----- ----- ----- 100.2 95.3 87.4 Cost of food product revenues: (2) Cost of food products 44.7 93.5 52.3 General and administrative 7.4 8.9 6.9 Depreciation and amortization 11.8 12.3 5.4 Provision for restaurant closings 1.3 2.4 -- Interest income .3 .3 .4 Interest (expense) (2.4) (2.5) (2.1) Other non-operating income (expense) 1.8 .3 1.8 Income tax provision (benefit) -- -- -- Net income (loss) (17.3)% (22.2)% .1% OPERATING DATA: - --------------- Restaurants open at end of period 40 41 41 Change in comparable restaurant revenues (3) (14.0)% (7.4)% (.8)%
(1) As a percentage of restaurant revenues. (2) As a percentage of food product sales. (3) Includes only restaurants open during the entire periods under comparison. For the fiscal years ended June 28, 1998, June 29, 1997 and June 30, 1996 the Company recorded revenues of $40.2, $49.1 million and $40.1 million, respectively. Before extraordinary items and the effect of preferred stock dividends, the Company recorded a net loss of $7.0 million, a net loss of $10.9 million, and net income of $49,000 for these same years, respectively. As of June 28, 1998, the Company had total current assets of $765 thousand and total current liabilities of $10.5 million, resulting in a working capital deficit of $9.7 million. The Company has funded its operating losses and expansion costs primarily through a combination of public and private offerings of debt and equity and extended payment terms, allowances and write-downs with respect to vendor payables and certain indebtedness. During the first quarter of fiscal 1998, the Company sold its Longhorn Cafe Downtown Restaurant. The Company closed its Marco's Mexican Restaurants in College Station and Lake -12- Jackson, Texas during the third quarter of fiscal 1998 and the first quarter of fiscal 1999, respectively, in an effort to decrease its losses. As discussed in more detail below, the ability of the Company to alleviate its working capital deficit, and to obtain the necessary capital resources to fund future costs associated with its operations and to continue as a going concern is dependent primarily upon, among other things: (i) its ability to generate sufficient cash flow to meet its obligations on a timely basis; (ii) obtaining additional equity capital or debt financing and renegotiating the terms of existing indebtedness; and (iii) ultimately to attain profitable operations. However, even if the Company achieves some success with its operational strategy, there can be no assurance that it will be able to generate sufficient cash flow to continue as a going concern without substantial additional capital in the short-term. The Company had negative cash flow from operations during fiscal 1998 and did not generate sufficient cash flow to meet its needs, primarily as a result of declining sales and rising labor costs and costs of food and beverage revenues. During fiscal 1997 and 1998, the Company experienced significant operating losses. These losses raise doubt about the Company's ability to continue as a going concern. In an effort to decrease its losses, the Company took the actions listed below: o In June 1997, the Company reorganized its top management in an attempt to return the Company to profitability and has substantially reduced general and administrative expenses in the past year. o In September 1997, the Company sold its remaining Longhorn Cafe Restaurants to an unrelated party in an asset purchase transaction. The Company recorded income of approximately $138,000 reflected in other income in the first quarter of fiscal 1998. The Longhorn Cafe contributed approximately $220 thousand in revenues in fiscal 1998. o In February 1998, the Company closed its Marco's Mexican Restaurant located in College Station, Texas because the location was performing below the Company's standards primarily due to declining trade area demographics. The Company recorded a loss of approximately $49,000 on this transaction in the third quarter of fiscal 1998. The College Station, Texas location contributed approximately $359,000 in revenues in fiscal 1998. o In August 1998, the Company closed its Marco's Mexican Restaurant located in Lake Jackson, Texas because the location was performing below the Company's standards primarily due to declining trade area demographics. The Company recorded a loss of approximately $82,500 on this transaction in the fourth quarter of fiscal 1998. The Lake Jackson, Texas location contributed approximately $558,000 in revenues in fiscal 1998. Until the Company is able to obtain profitable operations and cash flow from its core restaurant concepts, the Marco's Restaurants and the Pasta Co. Restaurants, the Company intends to postpone restaurant expansion from new restaurant construction. The Company plans to sell or close its non-performing Marco's and Pasta Co. Restaurants and its Billy Blues Restaurant in fiscal 1999. The Billy Blues Restaurant contributed $1.5 million in revenues in fiscal 1998 and had an operating loss of $343,000. The Company will consider material restaurant acquisitions or combinations if they could significantly enhance the projected revenues and profitability of the Company on a consolidated basis and/or allow the Company to continue as a going concern. Any material acquisition or business combination by the Company could substantially change the Company's business structure, capitalization and operating performance. As of June 28, 1998 the Company had no agreements or understandings regarding any material restaurant acquisitions or combinations. Any acquisition or combination, if unsuccessful, could materially and adversely affect the Company's ability to continue as a going concern. The Company may consider the sale of all or part of the assets of the Company if it continues to incur substantial operating losses and the terms of any such sale may be detrimental to overall shareholder value. -13- FISCAL YEAR 1998 COMPARED TO FISCAL YEAR 1997 RESTAURANT REVENUES. Revenues decreased $9,194,169 or 19.7% to $37,540,093 in 1998 as compared to $46,734,262 in 1997. Revenue decreases are primarily due to (i) the closing or sale of Pete's Hospitality Restaurants and the sale of one Marco's Mexican Restaurant partially offset by the opening of one Original Pasta Co. Restaurant during 1998, and (ii) a decline in comparable restaurant revenues of 14%. For fiscal 1997, comparable restaurant revenues had declined by 7.4%. Management is working to improve same store sales in fiscal 1999 by changing marketing strategies to concentrate on local store marketing and improving quality and service. The decline in comparable restaurant revenues could be attributable to increased competition, the age of the Marco's and Pasta Co. Restaurants, previously unsuccessful advertising strategies, the core restaurant concepts being less compatible with changing consumer tastes or other factors. Management cannot predict whether the decline in comparable store restaurant sales will continue, but such declines are likely if management is unable to determine the cause of such declines and implement substantial remedial steps. In view of the Company's financial condition, it may not have the resources to fund changes in advertising strategy, improvements in quality and service or changes to the restaurant concepts, including their trade dress and menu items. Approximately 12% of restaurant revenues were derived from the sale of alcoholic beverages for fiscal 1998 and 20% in fiscal 1997. FOOD PRODUCTS REVENUES. Revenues increased by $240,957 due to an aggressive marketing program. COST OF RESTAURANT REVENUES. Costs of food and beverage revenues as a percentage of restaurant sales increased from 26.8% in 1997 to 29.9% in 1998. The increase is due in part to increases in prices of certain high volume products used in menu item preparation. In addition, due to the Company's financial condition and payment terms with suppliers, the Company is unable to obtain the most favorable pricing. Significant changes in this percentage are not anticipated for fiscal 1999. However, management is unable to predict future product costs or the impact of any increases in such costs on the Company's future results of operations. Labor and other restaurant operating costs include all other unit-level operating expenses, comprised principally of labor and benefits, operating supplies, rent, utilities, repair and maintenance, pre-opening expenses, advertising and other costs. A substantial portion of these expenses are fixed or indirectly variable. These costs increased as a percentage of restaurant revenues from 68.5% in 1997 to 70.3% in 1998 due to lower sales and increased labor costs associated with the federal minimum wage rate increase in September 1997 and a tightening labor market. These factors are expected to continue to put upward pressure on the Company's labor costs. COST OF FOOD PRODUCTS REVENUES. The cost of food products as a percentage of food product revenues decreased from 93.5% in 1997 to 44.7% in 1998 due to operational efficiencies and an agressive marketing strategy implemented in 1998. GENERAL AND ADMINISTRATIVE EXPENSE. These expenses decreased by $1,381,786 from $4,364,147 in 1997, to $2,982,361 in 1998 due to the reorganization of corporate and management personnel and decreases in management and corporate office personnel. DEPRECIATION AND AMORTIZATION. Depreciation and amortization decreased from $6,035,811 in 1997 to $4,755,760 in 1998. The decline is due primarily to the sale of Pete's Hospitality in fiscal year 1997 offset by an impairment of Pasta Co. goodwill of $2,600,000. PROVISION FOR CLOSED RESTAURANTS. In fiscal 1997, the Company recorded a provision for restaurant closings of approximately $1.2 million as a result of management's decision to either close or sell its interest in the Billy Blues Restaurant. The provision included the write-down of assets to net realizable value. In 1998, the Company recorded an additional $115,084 for the closing of its Marco's Mexican Restaurant in Texas City, Texas. The assets of this restaurant were sold in the fourth quarter of fiscal 1997. The buyer defaulted on the loan agreement. Therefore, the location was repossessed and an additional provision established. INTEREST INCOME. Interest income of $120,186 in fiscal 1998 and $121,260 in fiscal 1997 resulted primarily from a note receivable from Mr. Bombaywala. INTEREST EXPENSE. Interest expense decreased from $1,220,666 in 1997 to $997,609 in 1998 due primarily to the principal payment of $1,250,000 on the 12% subordinated notes as well as conversion of debt to equity owed to Mr. Bombaywala. (See "Item 13. Certain Relationships and Related Transactions.") OTHER INCOME, NET. Other income, net, increased by $571,896 from 1997 to 1998 due to a gain of approximately $138,000 on the sale of a Longhorn Cafe restaurant and recovery of a previously written-off note from a former related party of approximately $454,000. (See "Item 13. Certain Relationships and Related Transactions".) -14- INCOME TAXES. The Company had no income tax provision nor benefit in fiscal 1998 or fiscal 1997. NET INCOME (LOSS). As a result of the changes in the relationships between revenues and costs and expenses described above (decreasing revenues and increasing labor and costs of food and beverage), the Company recorded a net loss of $10,912,775 in 1997 and a net loss of $6,964,084 in fiscal 1998. The losses in fiscal 1997 included the asset writedowns of approximately $4.5 million for the Chris & Pitt's Barbecue Sauce line and restaurant closings and losses in fiscal 1998 include the asset writedowns of $2,600,000 for Pasta Co. MANAGEMENT'S PLANS. Management's plans to return to profitability include the following: o Increasing revenues from the sale of food products by reinforcing existing markets, expanding distribution to new market areas, introducing more aggressive marketing programs, adding methods of distribution and developing new products. o Further reductions in operating expenses through improved cost controls. o Further reductions in general and administrative expenses. o Increasing revenues in existing restaurants by improving marketing programs and customer service. o Selling or closing its Billy Blues Restaurant and non-performing Marco's and Pasta Co. Restaurants. o Renegotiating and extending the terms of the Company's existing indebtedness. o Obtaining additional equity capital or debt financing. FISCAL YEAR 1997 COMPARED TO FISCAL YEAR 1996 REVENUES. Total revenues increased 22.4% or $9.0 million in fiscal 1997 over fiscal 1996. Revenues increased approximately $9.3 million due to having owned the Pasta Co. Restaurants for a full year in fiscal 1997 versus approximately half of fiscal 1996. This increase includes revenues contributed by four new Pasta Co. Restaurants opened in fiscal 1997, two opened late in the second quarter and two opened late in the fourth quarter. Revenues related to these new stores were approximately $1.8 million. Conversely, comparable restaurant revenues declined 7.4% compared to a decline of .8% in fiscal 1996, which the Company believes was a result of, among other things, extremely competitive conditions and a general softness in restaurant sales in the Company's Houston, Texas market and the factors discussed for fiscal 1998. Furthermore, fiscal 1996 contained approximately $390,000 of revenue related to a fair in the State of Washington that was not included in fiscal 1997. The sale of one of the Longhorn Cafes during fiscal 1996 further reduced revenues. The remaining Longhorn Cafe contributed $.9 million in revenues in fiscal 1997. Approximately 20% of restaurant revenues were derived from the sale of alcoholic beverages in fiscal 1997 versus 16% from fiscal 1996. OPERATING COSTS AND EXPENSES. Generally, all restaurant related and administrative costs increased due to an overall increase in revenue by 22.4% primarily as a result of incorporating the Pasta Co. Restaurants operations for a full year versus one-half year in fiscal 1996. Furthermore, these costs increased due to the opening of four new Pasta Co. Restaurants in fiscal 1997. Food and beverage costs increased 14.5% overall (but declined as a percentage of revenue from 29.4% to 26.8%). Labor costs increased 26.2% overall additionally due to an increase in the minimum wage in October 1996, a tightening labor market, increased restaurant staff coverage to meet customers needs and as a result of the additional Pasta Co. Restaurants which are more labor intensive than the Marco's Restaurants. Costs of other restaurant operations increased 72.9% and include remodeling costs for Marco's Restaurants, preopening costs for four Pasta Co. Restaurants, research and development costs for Marco's and Pasta Co. menus, and advertising and marketing for the restaurant concepts. Advertising and marketing increased by approximately $987,000 due to new television and radio promotions undertaken in fiscal 1997. During fiscal 1997 provisions of $1.1 million for the anticipated losses on the sale or closure of the Billy Blues Restaurant and $75,000 for the sale of the Texas City, Texas Marco's location were recorded as provisions for restaurant closings. Management intended, but was unable, to sell or close the Billy Blues Restaurant in fiscal 1998, which contributed $1.9 million in revenues in fiscal 1997. -15- General and administrative costs increased 58.6% or $1.6 million over fiscal 1996 and include corporate salaries and wages, legal fees and settlements and professional fees. Legal fees included approximately $200,000 for settlement of various claims. Additional expenses included costs to develop and market the Company's franchise program which was put on hold in fiscal 1998. Corporate salaries for fiscal 1997 included $120,000 of deferred salary and bonus for Ghulam Bombaywala, Chairman of the Board and Chief Executive Officer. No salary or bonus was taken by Mr. Bombaywala in the previous two years. In the fourth quarter of fiscal 1997, the Company made a decision to sell the remaining Billy Blues Restaurant. Accordingly, the assets were deemed to be impaired and written down to their estimated fair value. An impairment expense of $1.1 million was recognized during 1997. Additionally, the Company sold one Marco's Restaurant in the fourth quarter for a loss of approximately $75,000. In 1997, an impairment expense was recorded to reflect the loss on sale. In the fourth quarter of fiscal 1997, the Company deemed the intangible assets associated with Chris' & Pitt's Barbecue Sauce to be impaired. Management estimated the fair value and, accordingly, an impairment expense of approximately $3.45 million was recorded during 1997 and is included in depreciation and amortization expense. NON-OPERATING INCOME (EXPENSE) Interest expense increased 43.6% primarily due to interest on debt related to the acquisition of Pasta Co. in January 1996. (See "Item 13. Certain Relationships and Related Transactions.") INCOME TAX The Company had no income tax provision nor benefit in fiscal 1997 or fiscal 1996. NON-OPERATING INCOME (EXPENSE) A loss of approximately $750,000 was recorded on the sale of Pete's Hospitality concept sold in June 1997. LIQUIDITY AND CAPITAL RESOURCES Since inception, the Company has primarily incurred losses from operations and, as of June 28, 1998, has an accumulated deficit of $37,277,169. During fiscal 1998, net cash flow used in operating activities totaled $845,623 primarily due to depreciation and amortization of $4,755,760 added back to net income, offset by an increase in accrued liabilities and accounts payable of $535,175. Investing activities utilized $354,613 of cash, principally resulting from purchases of property and equipment. Financing activities provided $1,027,469 of cash, due to additional borrowings. -16- During fiscal 1997, net cash provided by operating activities of $385,783 was primarily due to adding back of non-cash deductions from depreciation and amortization of $6,035,811, provision for restaurant closings of $1,175,434, and increase in accounts payable and accrued liabilities of $2,027,007. Net cash of $606,131 used in investing activities was primarily due to cash outflow for purchases of restaurant property and equipment in excess of proceeds from the sale of property and equipment. Net cash provided by financing activities totaling $20,724 was due to proceeds from borrowings in excess of repayments of borrowings, and purchase of treasury stock. During fiscal 1996, net cash flow from operating activities totaled $1,346,354 primarily due to depreciation and amortization added back to net income, offset by a reduction in accrued liabilities. Investing activities utilized $1,616,660 of cash, principally resulting from purchases of property and equipment. Financing activities utilized $1,368,257 of cash, primarily due to net payments on borrowings. In March of 1996, the Company received proceeds from a $1.2 million bank loan, of which approximately $860,000 was used to pay off an existing loan. The Company has a working capital deficit of approximately $9.7 million at June 28, 1998. The Company's continuation as a going concern is dependent upon its ability to generate sufficient cash flow to meet its obligations on a timely basis, to obtain additional financing or capital, refinance its debt and to ultimately attain profitable operations. (See "MD&A - Results of Operations" above) The Company did not generate adequate cash flow to meet its needs in fiscal 1998. The Company needs immediate capital in the short-term and additional capital in the long-term to meet its needs which are identified below. The Company cannot generate positive cash flow from operations unless it can increase its sales and achieve further cost reductions. Even if profitable operations can be achieved by the Company in the short-term, it will not have sufficient cash flow to cover general and administrative expenses, materially reduce its payables and accrued liabilities and meet its debt service requirements. Management's plans include the following: o Decreasing food and labor costs while increasing revenues. o Increasing revenues in existing restaurants by improving marketing programs and customer service. o Increasing revenues from the sale of food products by reinforcing existing markets, expanding distribution to new market areas, introducing more aggressive marketing programs, adding methods of distribution and developing new products. o Obtaining additional equity capital or debt financing. o Selling or closing its Billy Blues Restaurant. o Selling or closing its other non-performing restaurants. The material capital commitments of the Company for fiscal 1999 are as follows: o Reduction of the Company's working capital deficit, including payments on notes, accounts payable and accrued liabilities. o Accumulation of funds for the payment of the principal balance of $1.25 million currently owed on the $3 Million 12% Subordinated Notes. The notes were due July 10, 1998, but have been extended to December 31, 1999. A principal payment of $100,000 was made on September 1, 1998, with a principal payment of $150,000 due December 31, 1998. o Accumulation of funds for the payment of the principal balance of $1 million owed on the note payable to an unaffiliated foreign investor due June 1999. Unless a settlement agreement can be reached, the Company is in default on this note and received a notice of acceleration and default on September 11, 1998. o Funding of negative cash flow from operations if operating results are not improved. Increasing sales (or preventing further sales declines) and controlling or reducing operating costs will be critical for the Company to generate positive operating cash flow. In the first quarter of fiscal 1998, the Company opened one new Pasta Co. Restaurant. Pasta Co. Restaurants require an initial capital investment of approximately $400,000. Of this amount, the Company financed approximately half of the investment using the acquired assets as collateral. The Company financed the balance through cash flow from operations. There are no further plans to open new restaurants during fiscal 1999 due to capital restraints and overall operating results at existing restaurants. -17- The Company may achieve positive cash flow from operations in fiscal 1999, principally from its Marco's and Pasta Co. Restaurants, only if it can increase its restaurant sales and reduce its labor and other operating costs. As discussed in "Results of Operations", the Company has been unable to reverse the 21.4% decline in comparable restaurant sales over the last two fiscal years. The Company may experience further sales declines in fiscal 1999 which could have a material adverse effect on the Company's liquidity if additional financing is not available. During the first quarter of fiscal 1998, the Company sold its remaining Longhorn Cafe Restaurant to raise additional cash. The Company also plans to supplement cash flow from operations by selling its last barbecue restaurant, Billy Blues. However, cash generated from operations, if any, will not be sufficient to meet all of the Company's fiscal 1999 capital commitments set forth above. Without debt refinancing or additional debt or equity financing in the short-term, the Company will not be able to (i) reduce its current working capital deficit (ii) repay the $1.25 million balance of the Subordinated Notes due December 31, 1999,(iii) repay the $1 million note due June 1999, or (iv) fund negative cash flow from operations if the Company's negative operating cash flow continues. There is no assurance that the Company will be able to refinance its debt or obtain additional debt or equity financing in the short term or long-term. The Company has not been successful in raising debt or equity financing in fiscal 1998. For fiscal 1998 the Company had negative cash flow from operations of $845,623. The Company did not have sufficient cash flow during fiscal 1998 to satisfy its direct operating expenses and pay its substantial indebtedness and reduce its accounts payable and short-term liabilities which increased $2,027,007 in fiscal 1997 and $535,175 in fiscal 1998. The Company cannot continue to fund negative cash flow from operations and meet its other obligations by increasing its payables to vendors in the short or long-term. In order to meet its liabilities and obligations, the Company was required to obtain additional debt financings and borrowings as discussed above, renegotiate and extend the terms of various borrowings and renegotiate and extend the amounts and the timing of payment to various vendors. The Company may experience further losses or negative cash flow from operations in fiscal 1999. Continued losses raise doubt about the Company's ability to continue as a going concern. The financial statements do not reflect any adjustments that might result from the outcome of this uncertainty. If the substantial losses continue, the value of the Company's long-lived assets may become further impaired resulting in further write-downs to such assets to their estimated fair value. The inability of the Company to obtain additional financing and achieve profitable operations and positive cash flow has resulted in the curtailment of the Company's expansion activities which may continue indefinitely. Cash generated from operations will not be sufficient to allow the Company to timely meet all of its obligations and commitments. Since it has been unable to obtain profitable operations and positive cash flow from operations, or additional financing, the Company has curtailed its expansion, is selling non-core assets and is seeking further financings on terms which may prove unfavorable to the Company and its shareholders. If operating results do not improve or if additional financing is not available, the Company may be forced to further curtail or reduce its operations or sell all or part of its core assets on terms unfavorable to its shareholders. The Company has not been able to raise any material debt or equity financing in fiscal 1998 although it has renegotiated, consolidated and/or extended certain indebtedness. YEAR 2000 ISSUES. The Company is working to resolve the potential impact of the year 2000 on the ability of the Company's computerized information systems to accurately process information that may be date-sensitive. Any of the Company's programs that recognize a date using "00" as the year 1900 rather than the year 2000 could result in errors or systems failures. The Company utilizes a number of computer programs in its operations. The Company has retained a consultant to assess the potential impact of the year 2000 on its own operations. In addition, the Company is also evaluating the year 2000 readiness of those third parties, including vendors and suppliers, with whom the Company does business, and the potential impact on the Company if these third parties are unable to address this issue in a timely manner. The Company has not completed its assessment, but currently believes that the costs of addressing this issue will not have a material adverse impact on the Company's financial position. However, if the Company and third parties upon which it relies are unable to address this issue in a timely manner, it could result in a material financial risk to the Company. In order to assure that this does not occur, the Company plans to devote all resources necessary to resolve any significant year 2000 issues in a timely manner. The Company is presently evaluating its estimated costs for the year 2000 conversion. NEW ACCOUNTING STANDARDS. In May 1997, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 128 "Earnings Per Share", which changes the manner in which earnings per share (EPS) amounts are calculated and presented. Basic earnings per common share is calculated by dividing net income by the weighted average number of common shares outstanding during the period presented. Fully diluted earnings per common share is calculated by dividing net income by the weighted average number of common shares and common share equivalents. Stock options are regarded as common stock equivalents and are computed using the treasury stock method. Stock options will have a dilutive effect under the treasury stock method when the average market price of the common stock during the period exceeds the exercise price of the options. In February 1997, the FASB issued SFAS No. 129, "Disclosure of Information About Capital Structure", which establishes standards for disclosing information about the Company's capital structure. This statement does not change any previous disclosures but consolidates them in this statement for ease of retrieval and greater visibility. In June 1997, the FASB issued SFAS No. 130 "Reporting Comprehensive Income" which established standards for reporting and displaying comprehensive income and its components in the financial statements. SFAS No. 130 is effective for fiscal years beginning after December 15, 1997. The adoption of this statement requires incremental financial statement disclosure, and thus will have no effect on the Company's financial position or results of operations. FORWARD-LOOKING INFORMATION. Information in this Annual Report and Form 10-K contains forward-looking statements and information relating to the Company that are based on the beliefs of the Company's management, as well as assumptions made by, and information currently available to the Company's management. When used in this Annual Report and Form 10-K, words such as "anticipate," "believe," "estimate," "expect," "intend," "may," "probably" and similar expressions, as they relate to the Company, its operations or management, identify forward-looking statements. Such statements reflect the current views of the Company with respect to future events, and are subject to certain risks, uncertainties, and assumptions relating to the operations and results of operations of the Company, competitive factors and pricing pressures, shifts in consumer demand, the costs of -18- products and services, general economic conditions, and the acts of third parties, as well as other factors described in this Annual Report and Form 10-K, and, from time to time, in the Company's periodic earnings releases and reports filed with the Securities and Exchange Commission. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results or outcomes may vary materially from those described herein as anticipated, believed, estimated, expected, or intended, or the like. ITEM 8. FINANCIAL STATEMENTS. The financial information required by this Item is found beginning at page F-1. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. As previously reported in a Form 8-K filing dated August 20, 1997, incorporated herein by reference, the Company changed its principal independent accountant. (See "Item 10. Directors and Executive Officers of the Registrant - Committees and Fees.) (This space is intentionally left blank.) -19- PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. EXECUTIVE OFFICERS AND DIRECTORS The following table sets forth the names, ages, titles and dates of employment of the members of the Board of Directors and the executive officers of the Company. TERM OF OFFICE NAME AGE POSITION SINCE ---- --- -------- ------- Ghulam Bombaywala(1) 43 Chairman of the Board, Chief Executive 1994 Officer President, Chief Operating Officer and Director Sarosh J. Collector(2)(3) 50 Director 1995 Michael S. Chadwick(2) 46 Director 1994 Nico B. Letschert(3) 43 Director 1994 Philip M. Mount 40 Director 1994 Darrin Straughan 37 Director 1998 (1) The principal financial and accounting officer resigned in July 1997 and has not been replaced. Mr. Bombaywala is currently signing in these capacities. (2) Member of the Audit Committee of the Board of Directors. (3) Member of the Compensation Committee of the Board of Directors. GHULAM BOMBAYWALA was elected as a director of the Company on August 5, 1994. Effective September 21, 1994, Mr. Bombaywala was elected Chairman of the Board of Directors and Chief Executive Officer of the Company. Since 1984, Mr. Bombaywala has served as sole director of Marco's. Mr. Bombaywala also served as President and Chairman of the Board of Directors of the publicly traded Two Pesos, Inc. from April 1990 to June 1993 when it was sold to Taco Cabana, Inc. Mr. Bombaywala is also a shareholder and President of James Original Coney Island, Inc., the corporation owning the James Coney Island restaurants which serve hot dogs and chili. Mr. Bombaywala serves on the Board of Directors of the Sam Houston Area Boy Scouts of America, the National Conference of Christians and Jews, and the United Way of Texas Gulf Coast. MICHAEL S. CHADWICK has served as a director of the Company since August 1994. Mr. Chadwick serves on the Audit Committee of the Board of Directors. Mr. Chadwick is Senior Vice President and a Managing Director of the Corporate Finance Department of Sanders Morris Mundy Inc., a Houston-based financial services and investment banking firm. From 1988 to August 1994, Mr. Chadwick served as President and Co-Owner of Chadwick, Chambers & Associates, Inc., an investment and merchant banking firm specializing in corporate finance services. From 1984 to 1988, Mr. Chadwick served as Vice President, Corporate Finance at Lovett Mitchell Webb & Garrison, Inc., a Houston-based investment banking firm. Mr. Chadwick has been engaged in investment banking since 1978. Mr. Chadwick presently serves on the Board of Directors of Blue Dolphin Energy Company and Brazos Sportswear, Inc., both publicly traded corporations, and Moody-Price, Inc., a privately held concern. Mr. Chadwick received an M.B.A. in finance from Southern Methodist University and a B.A. degree in economics from the University of Texas. -20- NICO B. LETSCHERT was elected to the Board of Directors in September 1994 and serves as a member of the Compensation Committee of the Board of Directors. Mr. Letschert is the CEO of Noesis Capital Corp., a Florida-based investment banking and money management firm. From 1984 until July 1995, Mr. Letschert was President of Noble Investment Co. of Palm Beach. A native of The Netherlands, Mr. Letschert began his career on the Amsterdam Stock Exchange before relocating to the U.S. and becoming involved with venture capital and corporate finance. Mr. Letschert received his degree from the Dutch Institute for Banking and Finance and is a Certified Financial Planner. He also serves on the Board of Directors of the following publicly traded corporations: Futuremedia PLC and PSI Industries, Inc. PHILIP M. MOUNT has been a director of the Company since August 5, 1994 and is a partner with the law firm of Kelly, Sutter, Mount & Kendrick. Mr. Mount has engaged in the practice of law in Houston, Texas since 1983. Mr. Mount's principal areas of practice are corporate finance and securities. Mr. Mount received his B.B.A. with honors from the University of Texas at Austin in 1980 and a J.D. from the University of Houston College of Law in 1983. From August 1990 until its acquisition in 1993, Mr. Mount served as a director and a member of the Compensation and Executive Committees of Two Pesos, Inc., a publicly traded Houston, Texas based restaurant company. Mr. Mount is also a member of the Board of Directos of Star Resources Corporation, a corporation organized under the laws of British Columbia, which is public company traded on the Vancouver and Toronto Stock Exchanges in Canada and the OTC Bulletin Board in the United States. SAROSH J. COLLECTOR has been a director of the Company since March 17, 1995 and currently serves as a member of the Audit and Compensation Committees of the Board of Directors. Mr. Collector is a certified public accountant and has served as President of the accounting firm of Collector, Dart & Moore P.C. since 1987. From 1986 to 1987, Mr. Collector was a manager with the accounting firm of Spicer & Oppenheim, and from 1981 to 1986 served as a partner with the accounting firm of Malow Cohen & Co. Mr. Collector's principal areas of practice are taxation, business consulting and business valuation. Mr. Collector also served as a director of Two Pesos, Inc., a publicly traded corporation, from April 1990 to August 1993. DARRIN STRAUGHAN has been a director of the Company since April 2, 1998. Mr. Straughan has served as Vice President of James Original Coney Island, Inc., the corporation which owns the James Coney Island restaurant chain, since 1993. From 1986 to 1993, Mr. Straughan was Director of Marketing for Kettle Restaurants. Mr. Straughan also provides operational consulting services to the Company pursuant to a Professional Services Agreement under which he has received options to purchase 100,000 shares of the Company's Common Stock, vesting over a period of three years, at an exercise price of $.14 per share. Such compensation is not in consideration for any service provided by Mr. Straughan as director of the Company. COMMITTEES AND FEES The Board of Directors of the Company has established an Audit Committee and a Compensation Committee. The purpose of the Audit Committee is to review and make recommendations to the Board of Directors with respect to the engagement of the Company's independent public accountants, reviewing with such accountants the plans for and the results and scope of the auditing engagement and certain other matters relating to the services provided to the Company, including the independence of such accountants. The Audit Committee met in August 1997 and approved a change of principal independent accountants for the fiscal year 1997 audited financial statements. Mann, Frankfort, Stein & Lipp, P.C. was engaged as the Company's principal independent accountant to replace PricewaterhouseCoopers LLP (formerly Coopers & Lybrand L.L.P.) who resigned on August 20, 1997. The Compensation Committee reviews on behalf of, and makes recommendations to, the Board of Directors with respect to compensation of executive officers and key employees of the Company and administers the Company's Stock Compensation Plan (the "Stock Compensation Plan"). The Compensation Committee held two meetings during the fiscal year ended June 28, 1998. -21- Each director who is not an employee of the Company is entitled to be paid $250 for each meeting of the Board of Directors attended (exclusive of telephonic meetings) and $250 for each meeting of a Committee of the Board of Directors attended (exclusive of committee meetings occurring on the same day as Board Meetings), and are reimbursed for expenses incurred in attending such meetings. Directors who are employees of the Company are not paid any additional compensation for attendance at Board of Directors or Committee meetings. During fiscal 1998 the Directors chose to forego any compensation for attending meetings. During fiscal 1998, the Board of Directors conducted nine meetings, and approved actions undertaken by management of the Company by unanimous written consent. SECTION 16(a) - BENEFICIAL OWNERSHIP REPORTING COMPLIANCE Section 16(a) of the Securities Exchange Act of 1934, as amended (the "Exchange Act") requires the Company's officers and directors, and persons who own more than 10% of a registered class of the Company's equity securities, to file reports of ownership and changes in ownership of the Company's securities with the Securities and Exchange Commission (the "Commission"). Based solely on its review of the copies of such report forms received by it with respect to fiscal year 1998, or written representations from certain reporting persons, the Company believes that filing requirements applicable to its directors, officers and persons who own more than 10% of a registered class of the Company's equity securities have been timely complied with in accordance with Section 16(a) of the Exchange Act. ITEM 11. EXECUTIVE COMPENSATION. SUMMARY COMPENSATION INFORMATION The following table sets forth certain information regarding all cash compensation paid or to be paid by the Company or any of its subsidiaries, as well as other compensation paid or accrued, during the Company's fiscal year ended June 28, 1998, to the Company's Chief Executive officer and to those other executive officers who received salary and bonus compensation in excess of $100,000 during the fiscal year (the "named executive officers"). SUMMARY COMPENSATION TABLE
LONG-TERM COMPENSATION ANNUAL COMPENSATION AWARDS PAYOUTS ----------------------------------- ------------------------- ------- RESTRICTED SECURITIES OTHER ANNUAL STOCK UNDERLYING LTIP ALL OTHER COMPENSATION(2) AWARD(S) OPTIONS/SARS(3) PAYOUTS COMPENSATION NAME AND PRINCIPAL POSITION YEAR SALARY($) BONUS($) ($) ($) (#) ($) ($) --------------------------- ---- --------- -------- --- --- --- --- --- Ghulam Bombaywala, Chairman of 1998 $120,000(1) $-0- $-0- $-0- $-0- $-0- $-0- the Board and Chief Executive 1997 $ 60,000(1) $ 60,000(1) -0- -0- -0- -0- -0- Officer 1996 -0- -0- -0- -0- -0- -0- -0-
(1) Includes salary or bonus amounts earned but deferred at the officer's election. (2) Excludes certain incidental perquisites, the total of which did not exceed the lesser of $50,000 or 10% of cash compensation for any named individual. -22- OPTION GRANTS AND EXERCISES DURING FISCAL YEAR 1998 There were no options to acquire shares of Common Stock granted to the Chief Executive Officer, nor were any options exercised by the Chief Executive Officer during fiscal year 1998. The Company does not have any outstanding Stock Appreciation Rights ("SARs"). COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION The Compensation Committee of the Company is currently comprised of two persons selected by the Board of Directors. Throughout fiscal 1998, Nico B. Letschert and Sarosh J. Collector served on the Compensation Committee. Nico B. Letschert was the President of Noble Investment Co. of Palm Beach ("Noble") and is the Chief Executive Officer of Noesis Capital Corp. ("Noesis"). Sarosh J. Collector is a certified public accountant and President of the Houston based accounting firm of Collector, Dart & Moore, P.C. Darrin Straughan, a director of the Company, is the Vice President of James Original Coney Island, Inc., a privately-held corporation which owns the James Coney Island restaurants. Mr. Bombaywala, Chief Executive Officer and a director of the Company, is a shareholder and director of James Original Coney Island, Inc. and also serves as its President. (See "Item 13. Certain Relationships and Related Transactions"). EMPLOYMENT CONTRACTS Effective July 1, 1994, the Company entered into an employment agreement (the "Bombaywala Agreement") with Ghulam Bombaywala, Chairman of the Board, Chief Executive Officer and a director of the Company. Under the terms of the Bombaywala Agreement, Mr. Bombaywala is entitled to receive an annual salary of $60,000 plus annual cost of living increases. In addition, Mr. Bombaywala is entitled to receive a bonus in an amount based on such factors as the Board of Directors of the Company may elect to consider. The Bombaywala Agreement expired April 30, 1997, however, during the second quarter of fiscal 1998, the Board of Directors approved a one year extension of the Bombaywala Agreement, increased Mr. Bombaywala's base salary to $120,000 and awarded Mr. Bombaywala a bonus of $60,000 for fiscal 1997. During the fourth quarter of fiscal 1998, the Board of Directors approved a second extension of the Bombaywala Agreement to April 30, 1999 with the same base salary of $120,000. No bonus was awarded to Mr. Bombaywala for fiscal 1998. Mr. Bombaywala has elected to defer any salary or bonus due and owing to him under his employment agreement for fiscal 1998 and all prior years for an indefinite period of time. The Bombaywala Agreement also provides for health, medical and life insurance benefits and allows participation in the Company's employee benefit plans. The Bombaywala Agreement contains provisions for employment on a full time basis, as well as payments upon termination and payment of bonuses. The non-competition provisions of the Bombaywala Agreement provide that upon termination, Mr. Bombaywala will not engage or participate in a barbecue or Mexican restaurant business within a radius of ten miles of any existing or proposed barbecue or Mexican restaurant owned, licensed, managed or operated by the Company for a period of twelve months beginning on the date of termination of the Bombaywala Agreement. All amounts due to Mr. Bombaywala have been accrued. -23- BOARD COMPENSATION COMMITTEE REPORT ON EXECUTIVE COMPENSATION The Compensation Committee, currently consisting of Messrs. Collector and Letschert, determines the compensation of the Company's sole executive officer, Mr. Bombaywala. Mr. Bombaywala decided to waive any salary or bonus in fiscal 1995 and fiscal 1996 due to the fact that the Company has been and is in the process of a "turnaround." For fiscal 1997, Mr. Bombaywala deferred a salary of $60,000 per year and a bonus of $60,000 for an indefinite period of time. For fiscal 1998, Mr. Bombaywala deferred a salary of $120,000 for an indefinite period of time. The Compensation Committee agreed with Mr. Bombaywala's decision to forego any salary or bonus during fiscal 1995, 1996, 1997 and 1998. The compensation which would have been payable to Mr. Bombaywala through fiscal 1998 was determined by the original Bombaywala Agreement, which was negotiated between the Company and Mr. Bombaywala when Marco's was acquired in fiscal 1994. As discussed above, the Board of Directors elected to amend the Bombaywala Agreement in fiscal 1998. Mr. Bombaywala owns 13,458,889 shares of the Company's Common Stock or approximately 53.7% of the outstanding shares. Included in this calculation is the following: Mr. Bombaywala received warrants with the right to purchase 222,222 shares of the Company's common stock at a price of $1.00 per share, which were subsequently repriced to $.25 per share, issued in connection with the issue of the 12% Subordinated Notes in December 1994. When Mr. Bombaywala converted his 12% Subordinated Note to the 11% Convertible Subordinated Note he received warrants with the right to purchase 50,000 shares of the Company's Common Stock at $1.50 per share. As an incentive to Mr. Bombaywala for converting his note, his 222,222 warrants were not canceled. On March 27, 1998 pursuant to the Conversion and Offset Agreement, Mr. Bombaywala received 7,500,000 shares of Common Stock. (See "Item 13. Certain Relationships and Related Transactions".) In April 1998, the Compensation Committee considered the terms of compensation to Mr. Bombaywala for the extension of personal guarantees and other consideration made or provided by Mr. Bombaywala on behalf of the Company. The Committee received and evaluated information received from Mr. Bombaywala and the Company and determined that Mr. Bombaywala had personally guaranteed at least $10.5 million in debt and lease obligations of the Company. Mr. Bombaywala also committed to guarantee up to $5,000,000 of additional Company obligations if requested or necessary. The Compensation Committee reported and referred the matter to the full Board of Directors for consideration. On May 1, 1998 the Board of Directors approved the issuance to Mr. Bombaywala of warrants to purchase 10,000,000 pre-reverse stock split shares of the Company's Common Stock at the pre-reverse stock split exercise price of $.14 per share. The Board decided to seek approval prior to the issuance of the warrants from the Company's independent shareholders (all shareholders excluding Mr. Bombaywala) and received a fairness opinion for the transaction from a third-party. However, at this time the Board has decided to defer the issuance of the warrants to Mr. Bombaywala for an indefinite period of time. If in the future the Board decides that it is in the best interests of the Company to issue the warrants to Mr. Bombaywala, the Board will seek shareholder approval at the next annual meeting or at a special meeting. The Compensation Committee believes that Mr. Bombaywala is very motivated due to his stock ownership and warrant rights and financial commitment to the Company to represent the interests of all stockholders and maximize the performance of the Company. The Compensation Committee believes the salary payable to Mr. Bombaywala pursuant to his employment agreement to be less than the amount a CEO of a public company of comparable size would receive. The Compensation Committee agrees with Mr. Bombaywala's decision, as stated above, to defer all cash compensation payable to him as salary and bonuses since 1995 until the Company's operating performance improves. -24- ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. The following table sets forth certain information with respect to the beneficial ownership of the Company's Common Stock as of September 11, 1998, by (i) each person who is known by the Company to beneficially own 5% or more of the Common Stock, (ii) each director and named executive officer of the Company, and (iii) all officers and directors of the Company as a group. Unless otherwise noted, the persons and entities named below have sole voting and investment power with respect to such shares. SHARES BENEFICIALLY OWNED ------------------------- NAME OF BENEFICIAL OWNER NUMBER PERCENT - ------------------------ ------ ------- Ghulam Bombaywala(1) 23,458,889 67.3% Michael S. Chadwick(2)(6) 155,444 * Nico B. Letschert(3)(6) 82,054 * Philip M. Mount(4)(6) 65,222 * Sarosh J. Collector(5)(6) 29,000 * Darrin Straughan (7) 100,000 * GTI Partners, LLC (8) 9,500,000 27.8% All officers and directors as a group (6 persons) 23,890,609 69.0% - ------------- * Indicates ownership of less than or equal to one percent of the outstanding Common Stock of the Company. (1) Mr. Bombaywala's address is 11111 Wilcrest Green, Suite 350, Houston, Texas 77042. Includes warrants to purchase 222,222 shares of Common Stock issued in connection with the Company's 12% Subordinated Notes. Includes warrants to purchase 50,000 shares of Common Stock issued in connection with the Company's 11% Convertible Subordinated Notes. Includes the warrants to purchase 10,000,000 shares of Common Stock if the Company's independent shareholders approve the issuance of 10,000,000 warrants to Mr. Bombaywala at the Company's next Annual Meeting of Shareholders. Mr. Bombaywala holds the voting rights to 9,500,000 shares represented by the warrants issued or issuable to GTI Partners, LLC. Mr. Bombaywala disclaims beneficial ownership to the shares issuable to GTI and such shares are not included as shares beneficially owned by Mr. Bombaywala in the table above. (See "Item 13. Certain Relationships and Related Transactions.") (2) Mr. Chadwick's address is 3100 Chase Tower, Houston, Texas 77002. Includes warrants to purchase 135,444 shares of Common Stock issued in connection with the Company's 12% Subordinated Notes. (See "Item 13. Certain Relationships and Related Transactions.") (3) Includes warrants to purchase 45,000 shares of Common Stock originally issued to Noble Investment Co. under the terms of the 1993 Regulation S offering and subsequently assigned to Mr. Letschert. Includes 21,000 shares of Common Stock issuable to Mr. Letschert upon the conversion of $105,000 in 9% Debenture principal, at a conversion ratio of one share of Common Stock for each $5.00 in principal converted. Mr. Letschert may acquire the 9% Debentures in the principal amount of $105,000 upon the exercise of warrants originally granted to Noble as placement agent for the Company's offering of 9% Debentures and subsequently assigned to Mr. Letschert. Mr. Letschert's address is 1801 Clint Moore Road, Suite 100, Boca Raton, Florida 33487. (4) Mr. Mount's address is 1600 Smith, Suite 3700, Houston, Texas 77002. Includes warrants to purchase 45,222 shares of Common Stock issued in connection with the Company's 12% Subordinated Notes. (5) Mr. Collector's address is 3000 Richmond Avenue, Suite 270, Houston, Texas 77002. (6) Includes options to purchase 20,000 shares of Common Stock granted under the Company's Stock Compensation Plan. (7) Mr. Straughan's address is 11111 Katy Frwy., Suite 700, Houston, Texas 77079. Includes options to purchase 100,000 shares of the Company's Common Stock, which options are exercisable as to 33,000 shares after April 2, 1999, as to an additional 33,000 shares after April 2, 2000, and as to the remaining 34,000 shares after April 2, 2001. (See "Item 13. Certain Relationships and Related Transactions.") (8) All beneficial ownership is derived from warrants, 8,500,000 of which is contingent and 1,000,000 of which is not. (See "Item 13. Certain Relationships and Related Transactions.") -25- ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. In the fourth quarter of fiscal 1997 the Company sold Pete's Hospitality Co., Inc., ("Pete's") a wholly-owned subsidiary, pursuant to a Stock Purchase Agreement, to Angelo Pitillo, former President, Chief Operating Officer and director of the Company. Mr. Pitillo acquired all of the issued and outstanding shares of Pete's in exchange for a promissory note of Pete's payable to the Company in the principal amount of $300,000 (the "Pete's Note"). The Pete's Note accrues interest at the rate of 10% per annum over approximately five years. The Pete's Note is secured by the assets of Pete's. The Company recorded a loss of approximately $750,000 on the transaction. On December 18, 1997, Pete's Hospitality Co., Inc. filed for bankruptcy. Therefore, the Company wrote off the note receivable balance of $294,904 in fiscal 1998. The Company is a secured creditor of the bankrupt estate, however, there is no assurance that there will be sufficient assets in the estate to fully satisfy the claims of all creditors, including the Company's, in whole or in part. Ghulam M. Bombaywala, the Company's Chief Executive Officer and director, has an ownership interest in and participates in the management of other businesses, including James Original Coney Island, Inc., the Houston-based corporation which owns the James Coney Island restaurant chain. On April 2, 1998 the Company entered into a Professional Services Agreement with Darrin Straughan to provide operational consulting services to the Company and its subsidiaries. As compensation for his services, Mr. Straughan was issued stock options to purchase 100,000 shares of the Company's Common Stock at an exercise price of $.14 per share. The stock options vest pro rata over a period of three years. Mr. Straughan is a director of the Company and the Vice President of James Original Coney Island, Inc., the corporation which owns the James Coney Island restaurant chain. Mr. Bombaywala has an employment contract with the Company providing for annual compensation of $120,000. (See "Item 11. Executive Compensation - Employment Contracts.") On May 1, 1998 the Board of Directors of the Company adopted a resolution approving the issuance to Mr. Bombaywala of warrants to purchase 10,000,000 pre-reverse stock split shares of the Company's Common Stock at the pre-reverse stock split exercise price of $.14 per share, which was the market price of the stock on April 2, 1998 when the Board of Directors first considered a proposal to compensate Mr. Bombaywala for the bank loans, notes, accounts payable, taxes, contracts and leases that he had personally guaranteed on behalf of the Company in order for the Company to continue to do business. In approving the issuance of the warrants to Mr. Bombaywala, the Board considered, among other things, (i) its prior commitment to Mr. Bombaywala to compensate him for his personal guarantees of Company obligations and his loans and advances to the Company (collectively the "Guarantees"), (ii) the importance of the Guarantees to the Company's financial survival and the aggregate amount of such Guarantees, particularly in the past year, (iii) the personal risk of the Guarantees to Mr. Bombaywala and the pledge of his personal assets to partially collateralize certain of the Guarantees, (iv) the fact that the market price of the Company's Common Stock was equal to the exercise price of the warrants at the time of the request by Mr. Bombaywala, (v) the short- and long-term value to the Company of the commitment of Mr. Bombaywala to guarantee up to $5 million of future obligations of the Company if requested by the Company for additional financing or the renewal of existing leasehold or debt obligations of the Company, (vi) the waiver and/or accrual and nonpayment of all prior compensation payable to Mr. Bombaywala as an executive officer of the Company, (vii) the lock-up agreement with respect to the shares underlying the warrants, and (viii) the fact that the Company will pursue a fairness opinion with respect to the warrants and approval of the independent shareholders of the Company with respect to the issuance of the warrants. The warrants will have a four year term and the underlying shares will be subject to a two year lock-up agreement which will expire if a total of $5 million in debt or equity financing is raised by the Company within the two year period. At this time the Board has decided to defer the issuance of the warrants to Mr. Bombaywala for an indefinite period of time. If in the future the Board decides that it is in the best interests of the Company to issue the warrants to Mr. Bombaywala, the Board will seek shareholder approval at the next annual meeting or at a special meeting. On May 13, 1998 the Company entered into a Consulting Agreement with GTI Partners, L.L.C. ("GTI") to seek sources of financing for the Company. In consideration for the performance of these services, the Company agreed to issue to GTI warrants to purchase up to 9,500,000 shares of pre-reverse stock split shares of the Company's Common Stock at a pre-reverse stock split exercise price of $.09 per share, which was the average -26- market price of the Common Stock during the period of negotiations with GTI. The Board of Directors, in making its decision to approve the Consulting Agreement, considered the following factors, among others, (i) the Company's immediate and substantial need for working capital, (ii) the lack of other financing alternatives available to the Company, (iii) the fact that approximately 90% of the consideration payable to GTI is based on the closing of a $2,500,000 financing, (iv) the fact that the terms of the financing may be accepted or rejected by the Company in its discretion, (v) the nonexclusive arrangement with GTI, (vi) the fact that the exercise price of the GTI warrants was non-dilutive to the market price when initial negotiations were undertaken, (vii) representations of GTI that the financing is not expected to be materially dilutive to the market price of the Company's stock at the time the financing is consummated, (viii) the fact that the shares issued to GTI are subject to a two (2) year Lock-Up Agreement subject to early termination if the Company receives $5,000,000 in GTI arranged financings within such two (2) year period, and (ix) the financing track record of GTI and its affiliates. Warrants to purchase 1,000,000 pre-reverse stock split shares of the Company's Common stock were issued upon the execution of the GTI Consulting Agreement. The remaining warrants for 8,500,000 pre-reverse stock split shares will be issued to GTI upon the completion of at least $2,500,000 of initial financing. The shares underlying the warrants are subject to a lock-up agreement prohibiting resale thereof for a period of two years from the date of the issuance of the respective warrants subject to the Company's consent to any proposed public or private resales, or the expiration of the lock-up agreement upon GTI arranging a total of $5,000,000 of financing on terms acceptable to the Company. The warrant shares are subject to a voting agreement and proxy in favor of Mr. Bombaywala, the Company's Chief Executive Officer, which shall expire as to 250,000 post-reverse stock split shares every ninety days from the date of exercise of the warrants. The warrants may be exercised in whole, but not in part, and are not transferable except to entities affiliated with GTI or with the Company's consent. On May 15, 1997, Mr. Bombaywala and the Company entered into a Conversion and Offset Agreement whereby the $3,750,000 of debt evidenced by certain promissory notes issued to Mr. Bombaywala by the Company in connection with the acquisition of Pasta Co. from Mr. Bombaywala in 1996 were converted to 7,500,000 Common Stock Rights (the "Rights"). Each of the Rights automatically converted to one share of the Company's Common Stock at a later date, without further action or consideration by Mr. Bombaywala when the Company amended its Articles of Incorporation to increase its authorized shares. In exchange for the Rights, Mr. Bombaywala forgave the Notes. A value of $.50 per share was determined by the Board of Directors in connection with the conversion. The Company's shareholders approved the increase in the Company's authorized shares on January 23, 1998, and the shares were issued to Mr. Bombaywala. The Company also agreed with Mr. Bombaywala to offset $819,202 represented by certain Pasta Co. promissory notes payable to Mr. Bombaywala in connection with the acquisition of Pasta Co. against a note receivable from Mr. Bombaywala payable to Marco's. During fiscal 1998 the Company utilized the law firm of Kelly, Sutter, Mount & Kendrick, P.C. ("KSMK") to perform certain legal services for the Company. Philip M. Mount, a director of the Company, is a principal of KSMK. The amount of fees paid to KSMK during fiscal 1998 did not exceed five percent of the law firm's gross revenues during the fiscal year. In December 1994, in connection with the offering of the Company's $3 million 12% Subordinated Notes, Sanders Morris Mundy, Inc. ("SMM") received approximately $250,000 as a placement fee. Also in connection with the offering, the Company entered into an eighteen month advisory agreement with SMM calling for payments of $10,000 per month and issued warrants to purchase 150,000 shares of common stock at an exercise price of $2.50 per share which currently expire on August 31, 2002. Michael S. Chadwick, a director of the Company, is Senior Vice President and a Managing Director of Corporate Finance of SMM. Mr. Chadwick was assigned 45,000 of the warrants by SMM. In July 1998, the payment terms of the 12% Subordinated Notes were extended and the exercise price of the warrants was reduced to $.09 per share. In consideration for the extension of the note term, an additional 1,150,000 warrants exercisable at $0.25 per share and expiring on August 31, 2003 unless the note is paid at its maturity date, were issued to the noteholders. In December 1997, the advisory agreement was extended to July 1998, after which it expired. However, the amount owing under the advisory agreement ($75,000) is due on December 31, 1999 pursuant to a non-interest bearing note. -27- ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K. (a) DOCUMENTS FILED AS PART OF THIS REPORT. (1) The Consolidated Financial Statements listed in the Index to the Consolidated Financial Statements on page F-1 are filed as part of this report and are incorporated by reference. (2) No financial statement schedules are filed as part of this report. (3) The Exhibits filed as part of this report are listed on the Exhibit Index appearing on page E-1 which is incorporated herein by reference. (b) REPORTS ON FORM 8-K During the fourth quarter of fiscal 1998, the Company filed Form 8-K, dated May 13, 1998, reporting under "Item 5. Other Events", the Consulting Agreement entered into with GTI Partners, L.L.C. to seek sources of financing for the Company, and the approval by the Board of Directors, subject to shareholder ratification, of the issuance to Mr. Bombaywala of 10,000,000 shares of the Company's Common Stock in consideration for his guarantees of the Company's present and future indebtedness. (c) EXHIBITS REQUIRED BY ITEM 601 OF REGULATION S-K The Exhibits required by Item 601 of Regulation S-K and listed in the Exhibit Index on page E-1 are filed as part of this report. (d) FINANCIAL STATEMENT SCHEDULES None. [This space is intentionally left blank.] -28- SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. WATERMARC FOOD MANAGEMENT CO. (Registrant) Date: October 12, 1998 By:/s/ GHULAM BOMBAYWALA Ghulam Bombaywala, Chairman of the Board, Chief Executive Officer and Director Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. NAME TITLE DATE ---- ----- ---- /s/ GHULAM BOMBAYWALA Chairman of the Board, Chief October 12, Ghulam Bombaywala Executive Officer and Director 1998 (Principal Executive Officer and acting as Principal Financial and Accounting Officer) (1) /s/ PHILIP M. MOUNT Director October 12 Philip M. Mount 1998 /s/ MICHAEL S. CHADWICK Director October 12 Michael S. Chadwick 1998 /s/ NICO B. LETSCHERT Director October 12 Nico B. Letschert 1998 /s/ SAROSH J. COLLECTOR Director October 12 Sarosh J. Collector 1998 /s/ DARRIN STRAUGHAN Director October 12 Darrin Straughan 1998 (1) The principal financial and accounting officer resigned in July 1997 and has not been replaced as of the date of this filing. Mr. Bombaywala is signing in these capacities. -29- WATERMARC FOOD MANAGEMENT CO. SUBSIDIARIES INDEX TO AUDITED FINANCIAL STATEMENTS Reports to Independent Accountants............................F-2; F-3 Consolidated Balance Sheets...................................F-4 Consolidated Statements of Operations.........................F-5 Consolidated Statements of Stockholders' Equity...............F-6 Consolidated Statements of Cash Flows.........................F-7 Notes to Consolidated Financial Statements....................F-8 F-1 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholders of Watermarc Food Management Co. We have audited the consolidated balance sheets of Watermarc Food Management Co. and subsidiaries (the "Company") as of June 28, 1998 and June 29, 1997 and the related consolidated statements of operations, stockholders' equity, and cash flows for the fiscal years then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. As more fully described Note 1, the Company recorded an adjustment of $2,600,000 relating to the impairment of intangible assets associated with the acquisition of a subsidiary. The Company's estimate of undiscounted cash flows related to such assets indicates that the remaining carrying value of intangible assets was expected to be recovered. Nonetheless, it is possible given the Company's financial condition, as explained below, that the estimate of undiscounted cash flow may change in the future, resulting in the need to adjust the carrying value of intangible assets and related long-lived assets. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Watermarc Food Management Co. and subsidiaries as of June 28, 1998 and June 29, 1997 and the consolidated results of their operations and their cash flows for the fiscal years then ended, in conformity with generally accepted accounting principles. The Accompanying Financial Statements have been prepared assuming that the Company will continue as a going concern. As shown in the Financial Statements, the Company incurred a net loss of $6,964,084 for 1998 and has incurred substantial net losses for each of the past two years. At June 28, 1998, current liabilities exceeed current assets by $9,729,502 and total liabilities exceed total assets by $5,644,422. These factors and others discussed in Note 1, raise substantial doubt about the Company's ability to continue as a going concern. The Financial Statements do not include any adjustments relating to the recoverability and classification of recorded assets, or the amounts and classifications of liabilities that might be necessary in the event the Company cannot continue in existence. MANN, FRANKFORT, STEIN & LIPP, P.C. Houston, Texas October 12, 1998 F-2 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholders of Watermarc Food Management Co. We have audited the consolidated balance sheet of Watermarc Food Management Co. and subsidiaries (the "Company") as of June 30, 1996 and the related consolidated statements of operations, stockholders' equity, and cash flows for the fiscal years ended June 30, 1996 and July 2, 1995. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Watermarc Food Management Co. and subsidiaries as of June 30, 1996 and the consolidated results of their operations and their cash flows for the fiscal years ended June 30, 1996 and July 2, 1995, in conformity with generally accepted accounting principles. PRICEWATERHOUSECOOPERS LLP Houston, Texas September 27, 1996 F-3 WATERMARC FOOD MANAGEMENT CO. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
ASSETS JUNE 28, 1998 JUNE 29, 1997 ------------- ------------- Current assets: Cash and cash equivalents ..................................... $ 90,775 $ 263,542 Accounts receivable, trade .................................... 204,106 540,406 Accounts receivable from affiliates ........................... 115,244 299,518 Inventories ................................................... 316,334 483,302 Prepaid expenses and other current assets ..................... 38,872 73,217 ------------- ------------- Total current assets ....................................... 765,331 1,659,985 Property and equipment, net .......................................... 6,213,441 6,050,631 Notes and other receivables from affiliate ........................... 1,398,583 1,679,374 Intangible assets, net ............................................... 4,041,433 7,213,457 Other assets ......................................................... 264,382 111,381 ------------- ------------- $ 12,683,170 $ 16,714,828 ============= ============= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable, trade ....................................... $ 4,969,793 $ 4,780,931 Accrued liabilities ........................................... 2,605,392 2,263,821 Current portion of long-term debt ............................. 2,919,648 2,787,814 ------------- ------------- Total current liabilities .................................. 10,494,833 9,832,566 Long-term debt, less current portion ................................. 7,230,348 4,484,539 Notes payable to stockholder ......................................... -- 500,000 Deferred rent ........................................................ 602,411 577,976 Commitments and contingencies Stockholders' equity: Preferred stock, $1 par value, 5,000,000 shares authorized, 329,540 shares issued and outstanding as of June 28, 1998 and June 29, 1997; $10 liquidation preference............. 329,540 329,540 Common stock, $.05 par value, 100,000,000 shares authorized, 23,783,114 issued and outstanding as of June 28, 1998, and 14,263,230 issued and 14,163,230 outstanding as of June 29, 1997 .......................................... 1,189,155 713,161 Additional paid-in capital .................................... 30,114,052 30,740,131 Accumulated deficit ........................................... (37,277,169) (30,313,085) ------------- ------------- (5,644,422) 1,469,747 Less treasury stock, cost method ........................... -- (150,000) ------------- ------------- Total stockholders' equity ................................. (5,644,422) 1,319,747 ------------- ------------- $ 12,683,170 $ 16,714,828 ============= =============
The accompanying notes are an integral part of the consolidated financial statements. F-4 WATERMARC FOOD MANAGEMENT CO. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS
52 WEEKS ENDED ----------------------------------------------- JUNE 28, 1998 JUNE 29, 1997 JUNE 30, 1996 ------------- ------------- ------------- Revenue: Restaurants ...................................... $ 37,540,093 $ 46,734,262 $ 37,227,201 Food products .................................... 2,632,056 2,391,099 2,902,242 ------------- ------------- ------------- Total revenues: .............................. 40,172,149 49,125,361 40,129,443 Costs and expenses: Cost of restaurant revenues: Cost of food and beverage .................. 11,224,209 12,539,192 10,956,113 Labor and benefits ......................... 13,030,787 14,326,414 11,348,823 Other restaurant operations ................ 13,342,796 17,678,805 10,222,633 Cost of food product revenues .................... 1,177,684 2,235,076 2,643,594 General and administrative ....................... 2,982,361 4,364,147 2,752,539 Depreciation and amortization .................... 4,755,760 6,035,811 2,178,218 Provision for restaurant closings ................ 209,968 1,175,434 -- Provision of Bad Debt for Pete's Hospitality ..... 294,904 751,614 -- ------------- ------------- ------------- Total costs and expenses ................... 47,018,469 59,106,493 40,101,920 ------------- ------------- ------------- Income (loss) from operations .......................... (6,846,320) (9,981,132) 27,523 Non-operating income (expenses): Interest income .................................. 120,186 121,260 166,566 Interest expense ................................. (977,609) (1,220,666) (850,224) Other, net ....................................... 739,659 167,763 704,831 ------------- ------------- ------------- Total non-operating income (expenses) ...... (117,764) (931,643) 21,173 ------------- ------------- ------------- Income (loss) before income taxes ...................... (6,964,084) (10,912,775) 48,696 Income tax provision (benefit) ......................... -- -- -- ------------- ------------- ------------- Net income (loss) ...................................... (6,964,084) (10,912,775) 48,696 Preferred stock dividends .............................. 296,586 296,586 296,586 ------------- ------------- ------------- Net income (loss) less preferred stock dividends ....... $ (7,260,670) $ (11,209,361) $ (247,890) ============= ============= ============= Loss per common share - Basic and Fully Diluted......... $ (0.42) $(0.83) $ (0.02) ============= ============= ============= Weighted average common and common equivalent shares ... 17,190,810 13,451,487 12,040,163 ============= ============= =============
The accompanying notes are an integral part of the consolidated financial statements. F-5 WATERMARC FOOD MANAGEMENT CO. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
PREFERRED STOCK COMMON STOCK TREASURY STOCK SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT ------- -------- ----------- ----------- -------- --------- Balance, July 2, 1995 ................. 329,540 $329,540 11,112,026 $ 555,601 -- -- Issuance of common stock ....... -- -- 2,003,667 $ 100,183 -- -- Preferred stock dividends: Cash ...................... -- -- -- -- -- -- Common stock .............. -- -- 317,965 $ 15,898 -- -- Net income ..................... -- -- -- -- -- -- ------- -------- ----------- ----------- -------- --------- Balance, June 30, 1996 ................ 329,540 $329,540 13,433,658 $ 671,682 -- -- Conversion of stockholder's debt -- -- -- -- -- -- Conversion of interest on on stockholder's debt ..... -- -- -- -- -- -- Repurchase of common stock ..... -- -- -- -- 100,000 $(150,000) Preferred stock dividends: Cash ...................... -- -- -- -- -- -- Common stock .............. -- -- 829,572 $ 41,479 -- -- Net loss ....................... -- -- -- -- -- -- ------- -------- ----------- ----------- -------- --------- Balance, June 29, 1997 ................ 329,540 $329,540 14,263,230 $ 713,161 100,000 $(150,000) Preferred stock dividends: Cash ...................... -- -- -- -- -- -- Common stock .............. -- -- 2,119,884 $ 105,994 -- -- Conversion of stockholder's debt . -- -- 7,500,000 $ 375,000 -- -- Cancel treasury stock ............ -- -- (100,000) $ (5,000) (100,000) $ 150,000 Net loss ....................... -- -- -- -- -- -- ------- -------- ----------- ----------- -------- --------- Balance, June 28, 1998 ................ $ 329,540 $329,540 $ 23,783,114 $ 1,189,155 0 $ 0 ======= ======== ============ =========== ======== ========= PAID-IN EARNINGS STOCKHOLDERS' CAPITAL (DEFICIT) EQUITY ------------ ------------ ------------ Balance, July 2, 1995 ................. $ 23,442,645 $(19,449,006) $ 4,878,780 Issuance of common stock ....... $ 3,214,388 -- $ 3,314,571 Preferred stock dividends: Cash ...................... $ (750) -- $ (750) Common stock .............. $ (15,898) -- -- Net income ..................... -- $ 48,696 $ 48,696 ------------ ------------ ------------ Balance, June 30, 1996 ................ $ 26,640,385 $(19,400,310) $ 8,241,297 Conversion of stockholder's debt $ 3,750,000 -- $ 3,750,000 Conversion of interest on on stockholder's debt ..... $ 392,337 -- $ 392,337 Repurchase of common stock ..... -- -- $ (150,000) Preferred stock dividends: Cash ...................... $ (1,112) -- $ (1,112) Common stock .............. $ (41,479) -- -- Net loss ....................... -- $(10,912,775) $(10,912,775) ------------ ------------ ------------ Balance, June 29, 1997 ................ $ 30,740,131 $(30,313,085) $ 1,319,747 Preferred stock dividends: Cash ...................... $ (85) -- $ (85) Common stock .............. $ (105,994) -- -- Conversion of stockholder's debt . $ (375,000) -- -- Cancel treasury stock ............ $ (145,000) -- -- Net loss ....................... -- $ (6,964,084) $ (6,964,084) ------------ ------------ ------------ Balance, June 28, 1998 ................ $ 30,114,052 $(37,277,169) $ (5,644,422) ============ ============ ============
The accompanying notes are an integral part of the consolidated financial statements. F-6 WATERMARC FOOD MANAGEMENT CO. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS
52 WEEKS ENDED ----------------------------------------------- JUNE 28, 1998 JUNE 29, 1997 JUNE 30, 1996 ------------- ------------- ------------- Operating activities: Net income (loss) ......................................................... $ (6,964,084) $ (10,912,775) $ 48,696 Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: Depreciation and amortization ......................................... 4,755,760 6,035,811 2,178,217 Provision for restaurant closings ..................................... 94,884 1,175,434 -- (Gain)/loss on disposal of assets ..................................... 153,171 726,399 (163,175) Changes in operating assets and liabilities, net of effects of acquisitions: Accounts receivable, trade ........................................... 336,300 (142,662) (292,209) Accounts receivable from affiliates .................................. 184,274 (47,078) 37,542 Inventories .......................................................... 166,968 232,236 (192,446) Prepaid expenses and other current assets ............................ 34,345 32,562 255,759 Accounts payable and accrued liabilities ............................. 530,433 2,027,007 (673,405) Other assets and intangible assets ................................... (162,109) 1,116,822 (6,031) Noncurrent liabilities ............................................... 24,435 142,027 153,406 ------------- ------------- ------------- Net cash provided by (used in) operating activities ............. (845,623) 385,783 1,346,354 ------------- ------------- ------------- Investing activities: Purchases of property and equipment ....................................... (635,404) (1,535,684) (1,642,333) Proceeds from sale of assets .............................................. -- 1,210,345 197,027 Collection of note receivable ............................................. -- -- 60,391 Investments in receivables from affiliates ................................ -- (280,792) -- Collection of receivables from affiliates ................................. 280,791 -- -- Cost of acquisitions, net of cash acquired ................................ -- -- (231,745) ------------- ------------- ------------- Net cash used in investing activities ........................... (354,613) (606,131) (1,616,660) ------------- ------------- ------------- Financing activities: Repayment of affiliate borrowings ......................................... -- -- (150,000) Proceeds from other borrowings and warrants ............................... 5,036,587 1,591,572 1,221,790 Repayment of other borrowings ............................................. (4,009,033) (1,419,736) (2,439,297) Cash dividends ............................................................ (85) (1,112) (750) Purchase of treasury stock ................................................ (150,000) ------------- ------------- ------------- Net cash provided by financing activities ....................... 1,027,469 20,724 (1,368,257) ------------- ------------- ------------- Net increase (decrease) in cash and cash equivalents ............................ (172,767) (199,624) (1,638,563) Cash and cash equivalents, beginning of period .................................. 263,542 463,166 2,101,729 ------------- ------------- ------------- Cash and cash equivalents, end of period ........................................ $ 90,775 $ 263,542 $ 463,166 ============= ============= =============
The accompanying notes are an integral part of the consolidated financial statements. F-7 WATERMARC FOOD MANAGEMENT CO. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES: ORGANIZATION As of June 28, 1998, Watermarc Food Management Co. (the "Company"), owned and operated 40 restaurants, primarily in the Houston Metropolitan area, under the names "Marco's Mexican Restaurants" ("Marco's Restaurants"); "The Original Pasta Co." ("Pasta Co."); and Billy Blues Barbecue Bar & Grill ("Billy Blues"). The Company also produces two brands of barbecue sauce and a spice rub, "Billy Blues Barbecue Sauce", "Chris' & Pitt's Bar-B-Que Sauce" and Chris' & Pitt's Spice Rub. Billy Blues Barbecue Sauce is sold on a special order basis, primarily to restaurants. The Chris' & Pitt's products are marketed to supermarkets, other retail stores and food service outlets. PRINCIPLES OF CONSOLIDATION The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated. BASIS OF PRESENTATION The accompanying financial statements have been prepared assuming the Company will be able to continue as a going concern. The Company has a working capital deficit of approximately $9.7 million at June 28, 1998 and experienced significant losses in fiscal 1998 which raise doubts about the Company's ability to continue as a going concern. The Company's continuation as a going concern is dependent upon its ability to generate sufficient cash flow to meet its obligations on a timely basis, to obtain additional financing or capital and to refinance its debt and ultimately attain profitable operations. Management's plans include the following: o Further reductions in general and administrative expenses. o Further reductions in operating expenses through improved cost controls. o Increasing revenues in existing restaurants by improving marketing programs and customer service at Marco's and Pasta Co. Restaurants. o Increasing revenues from the sale of food products by reinforcing existing markets, expanding distribution to new market areas, introducing more aggressive marketing programs, adding methods of distribution and developing new products. o Selling or closing its non-performing Marco's and/or Pasta Co. Restaurants and the Billy Blues Restaurant. o Obtaining additional equity capital or debt financing. o Renegotiating and extending the terms of the Company's existing indebtedness. FISCAL YEAR The Company utilizes a 52-53 week fiscal year which ends on the Sunday closest to June 30. References to 1998, 1997 and 1996 are all 52 week periods ended June 28, 1998, June 29, 1997 and June 30, 1996, respectively. CASH AND CASH EQUIVALENTS The Company considers all highly liquid debt instruments purchased with an original maturity of three months or less to be cash equivalents. The Company places substantially all of its cash and cash equivalents with nationally recognized financial institutions and money market mutual funds. INVENTORIES Inventories are stated at the lower of cost (first-in, first-out method) or market and consist primarily of restaurant food, beverages, supplies, and food products (primarily barbecue sauce) held for sale. F-8 1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES CONT'D: PROPERTY AND EQUIPMENT Property and equipment is stated at cost. Leasehold improvements are amortized on a straight-line basis over the lesser of the life of the lease (ranging from approximately ten to fifteen years) or the estimated useful lives of the improvements. Building, furniture, fixtures and equipment are depreciated using straight-line and accelerated methods over the estimated useful life of the assets, which range from five to thirty years. Major additions which extend service lives are charged to the property accounts as incurred, whereas minor amounts are expensed. Disposals are removed at cost less accumulated depreciation with the resulting gain or loss reflected in current operations. OTHER ASSETS Debt issue costs are included in other assets and are being amortized on a straight-line basis over five years. INTANGIBLE ASSETS Intangible assets are associated with the purchase of Pasta Co. and Chris' and Pitt's Barbecue Sauce. These assets are being amortized using the straight-line method over the expected period to be benefited (fifteen years for The Pasta Co.). The Company's management periodically assesses the recorded balances of its intangible assets in light of historic and projected operating trends and profitability and general economic conditions. Management's assessment includes projecting cash flows from each intangible asset over the estimated remaining life. Should this undiscounted amount not equal the unamortized balance related to the asset, an impairment would be indicated and the asset would be written down to fair value. In the fourth quarter of fiscal year ended June 29, 1997, management deemed the intangible assets associated with Chris' and Pitt's Barbecue Sauce to be impaired and charged off $3.45 million to reduce the assets to an estimated fair value of $250,000. In the fourth quarter of fiscal year ended June 28, 1998, management deemed the intangible assets associated with Pasta Co. to be impaired and charged off $2.6 million to reduce the asset to an estimated fair value of $4,167,706. Management will continue to evaluate the fair value of the intangible asset of Pasta Co. quarterly based on its cash flow. PREOPENING COSTS Certain expenses incurred in connection with the opening of a restaurant (principally the costs of food products and staff training) are accumulated and then expensed at the date of opening. INCOME TAXES Income taxes are provided for using the liability method. Under this method, deferred income taxes are recorded to reflect the tax consequences on future years, of temporary differences between the tax basis of the assets and the liabilities and their financial statement amounts. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. REVENUE RECOGNITION Revenues from food product sales are recognized when the order is shipped and ownership passes to the buyer. F-9 1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES CONT'D: IMPACT OF NEW ACCOUNTING STANDARDS In May 1997, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 128 "Earnings Per Share", which changes the manner in which earnings per share (EPS) amounts are calculated and presented. Basic earnings per common share is calculated by dividing net income by the weighted average number of common shares outstanding during the period presented. Fully diluted earnings per common share is calculated by dividing net income by the weighted average number of common shares and common share equivalents. Stock options are regarded as common stock equivalents and are computed using the treasury stock method. Stock options will have a dilutive effect under the treasury stock method when the average market price of the common stock during the period exceeds the exercise price of the options. In February 1997, the FASB issued SFAS No. 129, "Disclosure of Information About Capital Structure", which establishes standards for disclosing information about the Company's capital structure. This statement does not change any previous disclosures but consolidates them in this statement for ease of retrieval and greater visibility. In June 1997, the FASB issued SFAS No. 130 "Reporting Comprehensive Income" which established standards for reporting and displaying comprehensive income and its components in the financial statements. SFAS No. 130 is effective for fiscal years beginning after December 15, 1997. The adoption of this statement requires incremental financial statement disclosure, and thus will have no effect on the Company's financial position or results of operations. MANAGEMENT'S ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of income and expenses during the reporting periods. Actual results could differ from those estimated. 2. BUSINESS COMBINATIONS: THE ORIGINAL PASTA CO. Effective January 26, 1996, the Company acquired all of the outstanding common stock of The Pasta Co. from the Company's largest shareholder. The purchase price was $6,716,667, consisting of $3,750,000 of notes and the issuance of 1,666,667 shares of the Company's common stock valued at $2,966,667. The acquisition has been accounted for as a purchase and, accordingly, the assets and liabilities of Pasta Co. have been recorded at their fair value at the date of acquisition. The excess of the purchase price including related acquisition costs of approximately $280,000, over the fair values of the net identifiable assets acquired less liabilities assumed, is reported as goodwill and is being amortized over 15 years. The statement of operations includes the results of Pasta Co. from the date of acquisition. The following table summarizes the unaudited pro forma results of operations of the Company as if the acquisition had occurred at the beginning of the period presented: 1996 ----------- Revenues $46,086,307 Net loss (679,509) Net loss per common share (.08) The allocation of the total purchase price, including related expenses, for Pasta Co. based on the estimated fair value of the net assets acquired, at the date of acquisition is as follows: Tangible assets, net of liabilities $ (768,955) Intangible assets 131,250 Goodwill 7,634,255 ------------- Total purchase price allocation $ 6,996,550 F-10 3. DETAILS OF CERTAIN BALANCE SHEET ACCOUNTS: NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 3. DETAILS OF CERTAIN BALANCE SHEET ACCOUNTS: Additional information regarding certain balance sheet accounts at June 28, 1998 and June 29, 1997 is as follows:
1998 1997 ------------ ------------ Inventories: Food products ................................ $ 103,696 $ 225,319 Restaurant food, beverage and other .......... 212,638 257,983 ------------ ------------ $ 316,334 $ 483,302 ============ ============ Property and Equipment: Building and leasehold improvements .......... $ 6,723,287 $ 6,982,563 Furniture, fixtures and equipment ............ 10,143,543 8,781,908 Transportation equipment ..................... 61,246 61,246 ------------ ------------ 16,928,076 15,825,717 Less accumulated depreciation and amortization (10,714,635) (9,775,086) ------------ ------------ $ 6,213,441 $ 6,050,631 ============ ============ Intangible Assets: License agreement ............................ $ 4,396,318 $ 4,398,528 Goodwill ..................................... 7,626,255 7,626,255 ------------ ------------ 12,022,573 12,024,783 Less accumulated amortization ................ 7,981,140 (4,811,326) ------------ ------------ $ 4,041,433 $ 7,213,457 ============ ============ Other assets: Debt issue costs ............................. $ 149,300 $ -- Other ........................................ 115,082 111,381 ------------ ------------ $ 264,382 $ 111,381 ============ ============ Accrued liabilities: Payroll and related costs .................... $ 1,364,646 $ 911,861 Taxes, other than payroll and income taxes ... 672,545 831,332 Rent ......................................... 63,513 -- Interest ..................................... 105,267 104,162 Other ........................................ 399,421 416,466 ------------ ------------ $ 2,605,392 $ 2,263,821 ============ ============
F-11 4. LONG-TERM DEBT: At June 28, 1998 and June 29, 1997, long-term debt consisted of the following: 1998 1997 --------- --------- Note payable to bank, due in monthly installments with interest at prime plus 1%, maturing in May 1999, collateralized by certain property and equipment $ 247,312 $ 383,333 Notes payable to banks, related parties and trade vendors, due in monthly installments with interest ranging from 0% to 12.0%, maturing at various dates through 2002, collateralized by certain property and equipment 1,803,234 978,713 Subordinated notes, interest at 12% payable monthly, principal due in December 1999, collateralized by all of the outstanding stock of Marco's Mexican Restaurants, Inc. (See Subsequent Events) 1,250,000 2,500,000 Note payable to an unaffiliated foreign investor, interest at 10% payable quarterly, principal due in June 1999, collateralized by certain property and equipment and guaranteed by stockholder. 1,000,000 1,000,000 Note payable to corporation owned by majority stockholder, due in monthly principal installments with interest payable monthly at 10%, maturing in August 2000, collateralized by certain property and equipment 309,302 415,176 Note payable to bank, due in monthly principal installments with interest payable quarterly at 10% maturing March 2001, collateralized by certain property and equipment - 974,832 9% convertible subordinated debentures due March 1999, collateralized by inventories and accounts receivable, licenses, trademarks and equipment 117,000 217,000 Note payable to bank, due in monthly principal installments with interest payable monthly at the bank's prime rate, maturing in April 2004, collateralized by real property and guaranteed by stockholder 264,310 295,099 Note payable to bank, due in monthly principal installments with interest payable monthly at the bank's prime plus 1% maturing in February 2002, guaranteed by stockholder 183,333 233,333 Note payable to bank, due in monthly principal installments with interest payable monthly at the bank's prime plus 2% maturing in April 1998, guaranteed by stockholder - 274,867 Note payable to corporation owned by majority stockholder, due in monthly installments with interest at Prime + one % maturing in 2002, guaranteed by stockholder 1,651,714 - Private placement, interest at 11% payable quarterly, principal due quarterly beginning September 1999 through June 2002, including $500,000 payable to majority stockholder 1,200,000 - Note payable to corporation owned by majority stockholder, due in monthly installments with interest at 11% maturing in 2003, guaranteed by stockholder 727,867 - Note payable to corporation owned by majority stockholder, due in monthly installments with interest at Prime +2% maturing in 2001, guaranteed by stockholder 555,829 - Note payable to corporation owned by majority stockholder, due in monthly installments with interest at Prime +1% maturing in 2003, guaranteed by stockholder 840,095 - ---------- --------- 10,149,996 7,272,353 Less current portion (2,919,648) (2,787,814) ---------- --------- $ 7,230,348 $ 4,484,539 =========== =========== F-12 4. LONG-TERM DEBT CONT'D: In March 1994, the Company issued $2,691,000 of 9% Convertible Subordinated Debentures which are due on March 16, 1999. Interest is payable semi-annually on March 15 and September 15. The debentures are convertible at any time prior to maturity at the option of the holder, unless previously redeemed, into shares of common stock at a conversion price of $5.00 of principal into one share of common stock. The debentures are redeemable at the option of the Company, in whole or in part, at any time, at prices ranging from 105% of the principal amount in 1994 to 100% of the principal amount in 1999. The debentures are also subject to mandatory conversion at the option of the Company if at any time the closing bid price of the Company's common stock exceeds $12 per share for twenty consecutive days. The debentures are collateralized by a second lien on the inventories, licensing, trademarks and other intangibles related to the Chris' and Pitt's product line and by a continuing security interest in various restaurant equipment. In May of 1995, the Company offered the debentureholders the right to convert (until June 30, 1995) the principal and accrued interest owed on their debentures into common stock at a modified conversion rate of $2.3125 of debenture principal and interest for one share of common stock. The Company recorded a $1.3 million charge in 1995 pursuant to "sweetened" conversion terms. Debentureholders owed an aggregate of $2,474,000 in principal agreed to the conversion. There is currently outstanding $117,000 of debentures held by debentureholders who elected not to convert at the modified conversion rate. In connection with the subordinated debenture issuance, the Company incurred debt issue costs of approximately $438,000 which were capitalized and amortized using a method which approximates the interest method. Unamortized debt issue costs associated with debentures which were converted to stock were charged to paid-in-capital. The $1 million note payable to an unaffiliated foreign investor, referred to above, is delinquent unless the Company is able to reach a settlement agreement with the noteholder. The entire note payable balance has been classified as current portion of long-term debt. Annual maturities of long-term debt, as of June 28, 1998 are: $2,919,648 in 1999; $2,494,032 in 2000; $840,792 in 2001; $1,050,497 in 2002; $2,480,789 in 2003; and $364,238 thereafter. The carrying amounts of notes payable approximate fair value. 5. LEASE OBLIGATIONS: The Company leases restaurant facilities under operating lease agreements having terms expiring at various dates through 2012. The leases have renewal clauses of 5 to 10 years, at the option of the Company, and have provisions for contingent rentals based upon a percentage of revenues in excess of a minimum amount. Rental expense under operating lease agreements was approximately $2,599,000, $2,774,000 and $3,335,000 in 1996, 1997 and 1998, respectively. F-13 5. LEASE OBLIGATIONS CONT'D: Future minimum lease payments, excluding contingent rentals, at June 28, 1998, were as follows: FISCAL YEAR OPERATING ----------- --------- 1999 $3,102,418 2000 2,949,077 2001 2,753,594 2002 2,622,353 2003 2,276,991 Thereafter 5,864,758 ------------ Total future minimum lease payments $19,569,191 ============ 6. CONTINGENCIES: Effective July 1, 1992, the Company voluntarily discontinued its workers' compensation coverage in the State of Texas. The Company anticipates that the ultimate expense of representing itself in the settlement of claims will be less than the cost of insurance. The Company intends to vigorously defend and pursue all unreasonable claims. Management does not believe that any existing claims will have a material adverse impact on the financial position, results of operations, or cash flows of the Company. At June 28, 1998, the Company has accrued for all anticipated settlements. In the fourth quarter of fiscal year ended June 28, 1998, the Company accrued a liability of $150,000 for a claim of monies owed on a guarantee by the Company of an open account of Pete's Hospitality Co., Inc., formerly a subsidiary of the Company, owed to a vendor for sale of goods. Pete's filed for bankruptcy and failed to pay the account. The vendor has filed suit against the Company on the guarantee. Except as stated above, in management's opinion, the Company is not a party to any litigation other than ordinary routine matters which are incidental to the Company's business, including personal injury claims and disputes with vendors and suppliers. The Company believes that no current legal proceedings, individually, will have a material adverse effect upon the Company or its business. 7. SUPPLEMENTAL INFORMATION TO STATEMENT OF CASH FLOWS: Supplemental disclosure of cash flow information is as follows: 1998 1997 1996 ---------- --------- ---------- Interest paid $872,342 $585,000 $624,855 Income taxes paid - - - Supplemental disclosure of noncash investing and financing activities:
1998 1997 1996 ---------- ---------- --------- Issuance of common stock in lieu of payment of liabilities -- -- $ 347,904 Issuance of common stock for preferred stock dividend -- $ 41,479 15,898 Issuance of debt in payment of liabilities -- -- 548,680 Conversion of stockholder's debt and interest to equity -- 4,142,337 -- Note receivable from sale of Pete's Hospitality -- 300,000 -- Offset of stockholder debt and interest against receivables -- 819,202 -- Assumption of debt by buyer upon sale of Pete's Hospitality -- 79,491 -- Note receivable from sale of Pete's Hospitality $ 294,904 -- -- Repossession of Marco's Mexican Restaurant in Texas City 282,821 -- -- Issuance of debt in payment of liabilities 470,855 -- -- Equipment financed by long term debt 1,350,089 -- -- Refinancing of a related party note 500,000 -- -- Forgiveness of debt by creditor 139,807 -- -- Conversion of Stockholder's Debt 375,000 -- -- Cancel Treasury Stock 150,000 -- --
During 1996, the Company acquired Pasta Co. Components of cash used for the acquisition, as reflected in the Consolidated Statement of Cash Flows for 1996, are summarized as follows: Fair value of current assets, net of cash acquired $ 125,352 Fair value of noncurrent assets 2,891,627 Goodwill and other intangible assets 7,634,255 Liabilities assumed (2,733,620) Notes payable to stockholder (4,719,202) Stock issued at closing (2,966,667) ----------- Cash paid, net of cash acquired $ 231,745 =========== F-14 8. INCOME TAXES: The significant components of the Company's deferred tax assets and liabilities, as of June 28, 1998 and June 29, 1997, were as follows: 1998 1997 ---- ---- Deferred tax assets: Intangible assets $ 1,802,000 $1,020,000 Accrued liabilities 205,000 196,000 Net operating loss 9,860,000 8,262,000 Property and equipment 442,000 442,000 ------------ ----------- Total deferred tax assets 12,309,000 9,920,000 ------------ ----------- Deferred tax liabilities: Deductible intangible assets - - ------------ ----------- Total deferred tax liabilities - - ------------ ----------- Net deferred tax assets before valuation allowance 12,309,000 9,920,000 Valuation allowance 12,309,000 (9,920,000) ------------ ----------- Net deferred tax asset $ - $ - ============ =========== The reconciliation of the provision for income taxes to the income tax expense resulting from the application of the federal statutory tax rates to pretax income is as follows: 1998 1997 1996 ---- ---- ---- Tax provision (benefit) at statutory rate $(2,368,034) $(3,710,344) $ 16,557 Amortization of goodwill -- 37,590 69,382 Change in valuation allowance 2,389,000 3,904,558 (103,797) Other (20,966) 231,804 17,858 ----------- ----------- ----------- Total provision (benefit) for income taxes $ -- $ -- $ -- =========== =========== =========== As of June 28, 1998, the Company had consolidated net operating loss carryforwards (NOL's) of approximately $29 million which expire in varying amounts through the fiscal years 2006 through 2012. Due to the merger with Marco's Restaurants in 1994, the consolidated pre-acquisition NOL's of approximately $11 million are not available to offset any future taxable income that may be generated by Marco's Restaurants. In addition, the utilization of pre-acquisition NOL's is further limited due to a greater than 50% change in ownership. 9. STOCKHOLDERS' EQUITY: ISSUANCES OF COMMON STOCK FISCAL YEAR 1998: In December 1997, the Company cancelled 100,000 shares of common stock which had been held as security for a debt. In December 1997, the Company issued 2,119,434 shares of common stock as payment of a dividend to preferred shareholders. In March 1998, the Company issued 7,500,000 shares of common stock to Ghulam Bombaywala, the Company's Chief Executive Officer in a debt to equity agreement dated May 15, 1997. In March 1998, the Company issued 450 shares of common stock as payment of a dividend to preferred shareholders. In 1998, the Company canceled 100,000 shares of common stock which were held in treasury. F-15 9. STOCKHOLDERS' EQUITY CONT'D: FISCAL YEAR 1997: In December 1996, the Company issued 236,607 shares of common stock as payment of a dividend to preferred shareholders. In June 1997, the Company declared 592,965 shares of common stock as payment of a dividend to preferred shareholders. FISCAL YEAR 1996: In December 1995, the Company issued 225,000 shares of common stock valued at approximately $180,000 in partial satisfaction of a settlement of a lawsuit. In January 1996, the Company issued 112,598 shares of common stock as payment of a dividend to preferred shareholders. In January 1996, the Company issued 1,666,667 shares of common stock valued at $2,966,667 in connection with the acquisition of Pasta Co. In February 1996, the Company issued 100,000 shares of common stock as payment of legal fees of $150,000. In February of 1996, the Company issued 12,000 shares of common stock valued at $18,000 in settlement of a lawsuit. In June 1996, the Company issued 205,367 shares of common stock as payment of a dividend to preferred shareholders. PREFERRED STOCK In February 1993, the Company issued 450,000 shares of 9% Cumulative Convertible Preferred Stock ("Preferred Stock") with a face amount of $10 per share. Dividends are cumulative and are payable in semi-annual installments, on June 30 and December 31, at a rate of $.90 per share per annum. Dividends may be paid in either cash or an equivalent value of common stock. The Preferred Stock has no voting rights and has a liquidation preference of $10 per share plus accumulated and unpaid dividends. Holders of the shares of Preferred Stock have the right, at the holder's option, to convert any or all such shares into common stock at any time. If at any time the closing sale price of the Company's common stock exceeds $10 per share, the Company may convert the Preferred Stock to common stock. The Preferred Stock is convertible at a rate of one share of common stock for each $8 in face value of Preferred Stock converted. The Preferred Stock is redeemable at the Company's option at $12 per share. At the close of the Company's public offering of its Preferred Stock, the Company issued, to the underwriter, warrants to purchase 45,000 shares of preferred stock at an exercise price of $12 per share which expired in January 1998. None of these warrants were exercised prior to their expiration. COMMON STOCK WARRANTS AND STOCK OPTION PLANS The Company has the following common stock warrants and option plans: o SERIES A WARRANTS - The Company's 875,500 Series A Warrants expired on May 15, 1998. None of these warrants were exercised prior to their expiration. o OTHER WARRANTS - In connection with the issuance of $3 million in subordinated notes, the Company issued 1,333,320 warrants, each of which evidence the right to purchase a share of the Company's common stock at a purchase price of $2.25 per share until December 31, 1999. In connection with an agreement to extend the repayment date of the notes, the F-16 purchase price was reduced to $.09 per share and the expiration date was extended to August 31, 2002, and 1,150,000 additional warrants were issued to the noteholders at an exercise price of $.25 and expiring on August 31, 2003. Also, in connection with the subordinated notes, the Company issued warrants to purchase 150,000 shares of common stock to the placement agent at an exercise price of $2.50 per share, which expire on August 31, 2002. In connection with an agreement to extend the repayment date of the notes, said purchase price was reduced to $.09 per share. In connection with the subordinated note conversion of Mr. Bombaywala from the 12% Subordinated Note to the 11% Subordinated Note in June 1997, 50,000 warrants to purchase common stock at $1.50 per share were issued to Mr. Bombaywala. In connection with a borrowing of $1 million from an unaffiliated foreign corporation, the Company issued warrants to purchase 75,000 shares of common stock to said corporation at a purchase price of $3 per share until May 31, 1997. The Company extended the expiration date to January 1998. None of these warrants were exercised prior to their expiration. In January 1996, the Company issued additional warrants to this corporation to purchase (1) 50,000 shares of common stock at $3.00 per share exercisable until January 1, 1999 and (2) 50,000 shares of common stock at $4.00 per share exercisable until January 1, 2001. In connection with the issuance of common stock in a private offering, the Company issued warrants to purchase 71,250 shares of common stock to the placement agent at a purchase price of $3 per share until May 31, 1997. The Company extended the expiration date to January 1998. None of these warrants were exercised prior to their expiration. In June 1997, the Company issued warrants to the former President of the Company to purchase 180,000 shares of common stock exercisable at $.50 until June 30, 1999. o STOCK OPTION PLAN - The Company has a Stock Compensation Plan under which either incentive stock options or non-qualified stock options may be issued to officers, key employees and non-employee directors of the Company. All options granted under the plan have been at fair market value or greater on the date of grant and expire six years from the date of grant. The Company has reserved a total of 1,000,000 shares of common stock for the plans and an additional 587,500 options were available for grant at June 28, 1998. The Company follows Accounting Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB 25) and related interpretations in accounting for its employee stock options because, as discussed below, the alternative fair value accounting provided for under FASB Statement No. 123, "Accounting for Stock-Based Compensation," requires use of option valuation models that were not developed for use by the Company in valuing employee stock options. Under APB 25, because the exercise price of the Company's employee stock options either exceeds or equals the market price of the underlying stock on the date of grant, no compensation expense has been recognized. The existing stock option valuation models were developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected price volatility. Because the Company's stock options have characteristics significantly different from those of traded options, and because changes in subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. Pro forma information regarding net income and earnings per share is required by FASB Statement No. 123, and has been determined as if the Company had accounted for its employee stock options under the fair value based accounting method of the Statement. In the opinion of the management, the pro forma net income and earnings per share under the fair value based accounting method were not materially different than those accounted for using the intrinsic value based accounting method prescribed by APB 25. F-17 A summary of stock option activities during 1998, 1997 and 1996 is as follows: NUMBER OF OPTION PRICE SHARES PER SHARE ------ --------- Options outstanding at July 2, 1995 517,000 2.00 to 4.63 Granted 134,500 1.00 Canceled (40,000) 2.00 to 4.63 --------- Options outstanding at June 30, 1996 611,500 1.00 to 2.88 Granted 180,000 .25 to .50 Canceled (381,000) 1.00 to 4.63 --------- Options outstanding at June 29, 1997 410,500 .25 Granted 120,000 .14 Canceled (118,000) .25 --------- Options outstanding at June 28, 1998 412,500 .14 to .25 Exercisable at June 28, 1998 120,900 .14 to .25 10. DETERMINATION OF EARNINGS PER INCREMENTAL SHARE The following tables present the reconciliation of the numerators and denominators in calculating diluted earnings per share ("EPS") from continuing operations in accordance with Statement of Financial Accounting Standards No. 128. INCREASE IN EARNINGS PER 1998 INCREASE IN NUMBER OF INCREMENTAL INCOME SHARES SHARE ------------------------------------------- Options ....................... -- 2,083,320 Dividends on convertible preferred stock .......... $ 296,586 411,925 Interest on 9% convertible subordinated debenture ... $ 19,530 23,400 ------------------------------------------- $ 316,116 2,518,645 $ 0.13 =========================================== Computation of Diluted Earnings per Share
INCOME AVAILABLE FROM CONTINUING COMMON PER OPERATIONS SHARES SHARE ------------------------------------------------- Common Stock Options ......... ($7,260,670) 17,190,810 ($ 0.42) 2,083,320 ------------------------------------------------- ($7,260,670) 19,274,130 ($ 0.38) antidilutive Dividend on convertible preferred stock ......... 296,586 411,925 Interest on 9% convertible subordinated debenture .. 19,530 23,400 ------------------------------------------------- ($6,944,554) 19,709,455 ($ 0.35) antidilutive ================================================= INCREASE IN EARNINGS PER 1997 INCREASE IN NUMBER OF INCREMENTAL INCOME SHARES SHARE --------------------------------------------- Options ........................ -- 2,998,903 Dividends on convertible preferred stock ........... $ 296,586 411,925 Interest on 9% convertible subordinated debenture .... $ 19,530 43,400 --------------------------------------------- $ 316,116 3,454,228 $ 0.09 ============================================= COMPUTATION OF DILUTED EARNINGS PER SHARE INCOME AVAILABLE FROM CONTINUING COMMON PER OPERATIONS SHARES SHARE ----------------------------------------------- ($ 11,209,361) 13,451,487 ($ 0.83) Common Stock Options ......... 2,998,903 ----------------------------------------------- ($ 11,209,361) 16,450,390 ($ 0.68) antidilutive Dividend on convertible preferred stock ......... 296,586 411,925 Interest on 9% convertible subordinated debenture .. 19,530 43,400 ----------------------------------------------- ($10,893,245) 16,905,715 ($ 0.64) antidilutive =============================================== INCREASE IN EARNINGS PER 1996 INCREASE IN NUMBER OF INCREMENTAL INCOME SHARES SHARE ------------------------------------------- Options ......................... -- 3,121,633 Dividends on convertible preferred stock ............ $ 296,586 411,925 Interest on 9% convertible subordinated debenture ..... $ 19,530 23,400 ------------------------------------------- $316,116 3,556,958 $ 0.09 =========================================== COMPUTATION OF DILUTED EARNINGS PER SHARE INCOME AVAILABLE FROM CONTINUING COMMON PER OPERATIONS SHARES SHARE ------------------------------------------- ($ 247,890) 12,040,163 ($0.02) Common Stock Options .......... 3,121,633 ------------------------------------------- ($ 247,890) 15,161,796 ($0.02) Dividend on convertible preferred stock .......... 296,586 411,925 Interest on 9% convertible subordinated debenture ... 19,530 43,400 ------------------------------------------- $ 68,226 15,617,121 $ 0.00 antidilutive ===========================================
Note: Because Diluted EPS from Continuing Operations increases from ($0.42) to ($0.35) and from ($0.83) to ($0.64) and from ($0.03) to ($0.00) in 1998, 1997 and 1996, respectively, when convertible preferred stock and convertible subordinated debentures are included in the computation, those convertible preferred shares and convertible subordinated debentures are antidilutive and are ignored in the computation of Diluted EPS from Continuing Operations. Therefore, Diluted EPS from Continuing Operations is reported as ($0.42), ($0.83) and ($0.02) in 1998, 1997 and 1996, respectively. All warrants have been excluded from the calculations of Diluted EPS as they are anti-dilutive for all periods. 11. RELATED PARTY TRANSACTIONS In the fourth quarter of fiscal 1997 the Company sold Pete's Hospitality Co., Inc., ("Pete's") a wholly-owned subsidiary, pursuant to a Stock Purchase Agreement, to Angelo Pitillo, former President, Chief Operating Officer and director of the Company. Mr. Pitillo acquired all of the issued and outstanding shares of Pete's in exchange for a promissory note of Pete's payable to the Company in the principal amount of $300,000 (the "Pete's Note"). The Pete's Note accrues interest at the rate of 10% per annum over approximately five years. The Pete's Note is secured by assets of Pete's. The Company recorded a loss of approximately $750,000 on the transaction. On December 18, 1997, Pete's Hospitality Co., Inc. filed for bankruptcy. Therefore, the Company wrote off the note receivable balance as of $294,904. The Company is a secured creditor of the bankrupt estate, however, there is no assurance that there will be sufficient assets in the estate to fully satisfy the claims of all creditors. Ghulam M. Bombaywala, the Company's Chief Executive Officer and director, has an ownership interest in and participates in the management of other businesses, including James Original Coney Island, Inc., the Houston-based corporation which owns the James Coney Island restaurant chain. On April 2, 1998 the Company entered into a Professional Services Agreement with Darrin Straughan to provide operational consulting services to the Company and its subsidiaries. As compensation for his services, Mr. Straughan was issued stock options to purchase 100,000 shares of the Company's Common Stock at an exercise price of $.14 per share. The stock options vest prorata over a period of three years. Mr. Straughan is a director of the Company and the Vice President of James Original Coney Island, Inc., the corporation which owns the James Coney Island restaurant chain. Mr. Bombaywala has an employment contract with the Company providing for annual compensation of $120,000. (See "Item 11. Executive Compensation - Employment Contracts.") On May 1, 1998 the Board of Directors of the Company adopted a resolution approving the issuance to Mr. Bombaywala of warrants to purchase 10,000,000 pre-reverse stock split shares of the Company's Common Stock at the pre-reverse stock split exercise price of $.14 per share, which was the market price of the stock on April 2, 1998 when the Board of Directors first considered a proposal to compensate Mr. Bombaywala for the bank loans, notes, accounts payable, taxes, contracts and leases that he had personally guaranteed on behalf of the Company in order for the Company to continue to do business. In approving the issuance of the warrants to Mr. Bombaywala, the Board considered, among other things, (i) its prior commitment to Mr. Bombaywala to compensate him for his personal guarantees of Company obligations and his loans and advances to the Company (collectively the "Guarantees"), (ii) the importance of the Guarantees to the Company's financial survival and the aggregate amount of such Guarantees, particularly in the past year, (iii) the personal risk of the Guarantees to Mr. Bombaywala and the pledge of his personal assets to partially collateralize certain of the Guarantees, (iv) the fact that the market price of the Company's Common Stock was equal to the exercise price of the warrants at the time of the request by Mr. Bombaywala, (v) the short- and long-term value to the Company of the commitment of Mr. Bombaywala to guarantee up to $5 million of future obligations of the Company if requested by the F-18 Company for additional financing or the renewal of existing leasehold or debt obligations of the Company, (vi) the waiver and/or accrual and nonpayment of all prior compensation payable to Mr. Bombaywala as an executive officer of the Company, (vii) the lock-up agreement with respect to the shares underlying the warrants, and (viii) the fact that the Company will pursue a fairness opinion with respect to the warrants and approval of the independent shareholders of the Company with respect to the issuance of the warrants. The warrants will have a four year term and the underlying shares will be subject to a two year lock-up agreement which will expire if a total of $5 million in debt or equity financing is raised by the Company within the two year period. At this time the Board has decided to defer the issuance of the warrants to Mr. Bombaywala for an indefinite period of time. If in the future the Board decides that it is in the best interests of the Company to issue the warrants to Mr. Bombaywala, the Board will seek shareholder approval at the next annual meeting or at a special meeting. On May 13, 1998 the Company entered into a Consulting Agreement with GTI Partners, L.L.C. ("GTI") to seek sources of financing for the Company. In consideration for the performance of these services, the Company agreed to issue to GTI warrants to purchase up to 9,500,000 shares of pre-reverse stock split shares of the Company's Common Stock at a pre-reverse stock split exercise price of $.09 per share, which was the average market price of the Common Stock during the period of negotiations with GTI. The Board of Directors, in making its decision to approve the Consulting Agreement, considered the following factors, among others, (i) the Company's immediate and substantial need for working capital, (ii) the lack of other financing alternatives available to the Company, (iii) the fact that approximately 90% of the consideration payable to GTI is based on the closing of a $2,500,000 financing, (iv) the fact that the terms of the financing may be accepted or rejected by the Company in its discretion, (v) the nonexclusive arrangement with GTI, (vi) the fact that the exercise price of the GTI warrants was non-dilutive to the market price when initial negotiations were undertaken, (vii) representations of GTI that the financing is not expected to be materially dilutive to the market price of the Company's stock at the time the financing is consummated, (viii) the fact that the shares issued to GTI are subject to a two (2) year Lock-Up Agreement subject to early termination if the Company receives $5,000,000 in GTI arranged financings within such two (2) year period, and (ix) the financing track record of GTI and its affiliates. Warrants to purchase 1,000,000 pre-reverse stock split shares of the Company's Common stock were issued upon the execution of the Consulting Agreement. The remaining warrants for 8,500,000 pre-reverse stock split shares will be issued to GTI upon the completion of at least $2,500,000 of initial financing. The shares underlying the warrants are subject to a lock-up agreement prohibiting resale thereof for a period of two years from the date of the issuance of the respective warrants subject to the Company's consent to any proposed public or private resales, or the expiration of the lock-up agreement upon GTI arranging a total of $5,000,000 of financing on terms acceptable to the Company. The warrant shares are subject to a voting agreement and proxy in favor of Mr. Bombaywala, the Company's Chief Executive Officer, which shall expire as to 250,000 post-reverse stock split shares every ninety days from the date of exercise of the warrants. The warrants may be exercised in whole, but not in part, and are not transferable except to entities affiliated with GTI or with the Company's consent. On May 15, 1997, Mr. Bombaywala and the Company entered into a Conversion and Offset Agreement whereby the $3,750,000 of debt evidenced by certain promissory notes issued to Mr. Bombaywala by the Company in connection with the acquisition of Pasta Co. from Mr. Bombaywala in 1996 were converted to 7,500,000 Common Stock Rights (the "Rights"). Each of the Rights automatically converted to one share of the Company's Common Stock at a later date, without further action or consideration by Mr. Bombaywala when the Company amended its Articles of Incorporation to increase its authorized shares. In exchange for the Rights, Mr. Bombaywala forgave the Notes. A value of $.50 per share was determined by the Board of Directors in connection with the conversion. The Company's shareholders approved the increase in the Company's authorized shares on January 23, 1998, and the shares were issued to Mr. Bombaywala. The Company also agreed with Mr. Bombaywala to offset $819,202 represented by certain Pasta Co. promissory notes payable to Mr. Bombaywala in connection with the acquisition of Pasta Co. against a note receivable from Mr. Bombaywala payable to Marco's. In December 1994, Mr. Bombaywala purchased $500,000 principal amount of the Company's subordinated notes and received 222,222 warrants to purchase a like number of shares of common stock. Mr. Bombaywala is also obligated to purchase the remaining $1.25 million of the Subordinated Notes if they have not been paid in full at maturity. In June 1997, Mr. Bombaywala converted this 12% subordinated debt to 11% subordinated debt, due June 2002. F-19 Mr. Bombaywala has also guaranteed other obligations of the Company, including notes payable and leases associated with Marco's and Pasta Co. Restaurants. In August 1996, the Company sold for $350,000 previously mortgaged real property located at the Victoria, Texas Marco's Restaurant location to the Bombaywala Family Trust ("The Trust"). The Trust is administered by M.U. Bombaywala, Trustee, for the purpose of his grandchildrens' education. The real property and certain assets are now being leased by the Company from the Trust. The Trust also owns the real property on which one of the Company's Pasta Co. Restaurants is located, having purchased it from an unaffiliated third party. The Trust leases this property to the Company. The Company believes that both leases are at rates comparable to those which could be attained from unrelated third parties. In the fourth quarter of fiscal 1997 (June 1997) the Company offered a private placement of $4 Million of 11% Convertible Subordinated Notes due June 30, 2002 (the "Convertible Subordinated Notes") pursuant to exemptions from registration under the Securities Act of 1933, as amended (the "Act") and the rules and regulations promulgated thereunder, including, without limitation, Section 4(2) and Regulation D. The Convertible Subordinated Notes were offered directly by the Company to qualified accredited investors. The Company did not retain a broker or underwriter to assist with the offering. Holders of the Convertible Subordinated Notes received warrants (the "Convertible Subordinated Note Warrants") to purchase shares of Common Stock at a purchase price of $1.50 per share until June 30, 2002. Interest on the Convertible Subordinated Notes is payable quarterly beginning September 30, 1997. The Convertible Subordinated Notes are currently unsecured and are subordinated to certain defined senior indebtedness. As of September 30, 1997, $700,000 principal amount of the Convertible Subordinated Notes had been subscribed. The proceeds of the offering were used to repay a portion of the $3 million principal amount of 12% Subordinated Notes originally due July 31, 1997. The balance of the Subordinated Notes has been extended to December 31, 1999. Ghulam M. Bombaywala, Chairman of the Board, Chief Executive Officer and a director of the Company, converted the $500,000 principal amount of 12% Subordinated Notes owed to him into the 11% Convertible Subordinated Notes, pursuant to a Subordinated Note Conversion Agreement dated June 1, 1997 (the "Conversion Agreement"). Pursuant to the Conversion Agreement, Mr. Bombaywala canceled the $500,000 principal amount of 12% Subordinated Notes owed him by the Company and received an 11% Convertible Subordinated Note of equal principal amount with the same terms and conditions as the Convertible Subordinated Notes being offered by the Company to prospective investors. Additionally, in September 1997, the Company guaranteed a promissory note with United Central Bank for $850,000 due September 2002. The proceeds of the note were used to repay a portion of the $3 million principal amount of 12% Subordinated Notes originally due July 31, 1997. The Company acquired 240,000 shares (the "CluckCorp Shares") of the outstanding common stock, $0.1 par value of CluckCorp International, Inc., a Texas corporation ("CluckCorp") on June 30, 1994 upon the conversion of, and as partial payment for, a promissory note of CluckCorp owed to the Company in the principal amount of $800,000 (the "CluckCorp Note") issued in June 1993 and in exchange for certain other advances owed to the Company. The CluckCorp Note had a maturity date of June 30, 1998, and was payable, at the option of CluckCorp, in whole or in part, in cash or with Common Stock of CluckCorp. During 1994 CluckCorp repaid a portion of the CluckCorp Note in cash and the remaining portion of the CluckCorp Note and certain advances were paid with the CluckCorp Shares. The Company subsequently sold the CluckCorp Shares to JEB Investment Corporation, a Texas corporation ("JEB") in exchange for a $1,800,000 recourse promissory note executed by JEB as maker (the "JEB Note") bearing interest at 9% per annum, payable annually, with a final maturity date of June 30, 1996. The JEB Note was secured by the CluckCorp Shares pursuant to a Pledge Agreement. JEB defaulted on the payments required under the JEB Note. In May 1997, JEB and the Company executed an agreement whereby JEB relinquished all right, title and interest in the CluckCorp Shares to the Company pursuant to the Company's foreclosure rights in consideration for the Company relinquishing all of its rights under the JEB Note. The Company sold the CluckCorp Shares in public and private transactions during fiscal 1998. F-20 12. IMPAIRMENT OF ASSETS: PROPERTY AND EQUIPMENT. In the fourth quarter of fiscal 1997, the Company made a decision to sell the remaining Billy Blues Restaurant. Accordingly, the assets were deemed to be impaired and written down to their estimated fair value. An impairment expense of $1.1 million was recognized during 1997. Additionally, the Company sold one Marco's Restaurant in the fourth quarter of fiscal 1997 for a loss of approximately $75,000. In 1997, an impairment expense was recorded to reflect the loss on sale. INTANGIBLE ASSETS. In the fourth quarter of fiscal 1997, the Company deemed the intangible assets associated with Chris' & Pitt's Barbeque Sauce to be impaired. Management estimated the fair value and, accordingly, an impairment expense of approximately $3.45 million was recorded during fiscal 1997 and is included in depreciation and amortization expense. In the fourth quarter of fiscal 1998, the Company deemed the intangible asset associated with Pasta Co. to be impaired. Management estimated the fair value and, accordingly, an impairment expense of $2.6 million was recorded in fiscal 1998 and is included in depreciation and amortization expense. Management will continue to evaluate the fair value of the intangible asset of Pasta Co. quarterly based on its cash flow. 13. EMPLOYEE BENEFIT PLANS: An incentive savings plan has been established which is a qualified profit sharing plan under Section 401(k) of the Internal Revenue Code. Contributions to the incentive savings plan are determined by the board of directors. Employees may also make contributions to the incentive savings plan based upon a percentage of qualified compensation in accordance with the Internal Revenue Service rules and regulations. No contributions were made to this plan by the Company during 1998, 1997 or 1996. F-21 EXHIBIT NUMBER DESCRIPTION OF EXHIBIT (1) ------- -------------------------- 2.1 Stock Exchange Agreement dated July 1, 1994 between Ghulam M. Bombaywala ("GMB"), Marco's Mexican Restaurants, Inc., a Texas Corporation ("Marco's") and Watermarc Food Management Co., a Texas corporation, f/k/a Billy Blues Food Corporation (the "Company") (2)(3) 2.2 Agreement and Plan of Merger dated September 14, 1995 by and among the Company, GMB, Pasta Acquisition Co., a Texas corporation ("PAC") and The Original Pasta Co., a Texas Corporation ("TOPC") (4) 2.3 Sale and Option Agreement between the Company, GMB and TOPC dated June 23, 1995 (4) 2.4 Stock Purchase Agreement dated June 29, 1997 between the Company and Angelo Pitillo (9) 3.1 Amended, Restated and Corrected Articles of Incorporation of the Company (4) 3.2 Amended and Restated Bylaws of the Company (4) 3.3 Amendment to Restated Articles of Incorporation of the Company filed February 12, 1998 regarding an increase in authorized shares of Common Stock 4.1 Specimen of Common Stock Certificate (5) 4.2 Form of Warrant Agreement covering Series A Warrants (5) 4.3 Specimen of Series A Warrant (5) 4.5 Statement of Resolution Establishing Series of Preferred Stock (9% Cumulative Convertible Preferred Stock) as filed with the Secretary of the State of Texas on January 13, 1993 (included as part of Exhibit Number 3.1 above) (4) 4.6 Specimen of 9% Cumulative Convertible Preferred Stock Certificate (6) 4.7 Form of 5-Year 9% Convertible Subordinated Debenture Due March 16, 1999 (6) 4.8 Form of Notification of the Voluntary Conversion Rate of 5-year 9% Convertible Subordinated Debentures (4) 4.9 Forms of 12% Subordinated Note due December 19, 1994 and Warrant to purchase Common Stock at $2.25 per share expiring December 31, 1999 (4) 4.10 Amendment 1 to Warrant Agreement covering Series A Warrants (8) 4.11 Amendment 2 to Warrant Agreement covering Series A Warrants (8) EXHIBIT NUMBER DESCRIPTION OF EXHIBIT (1) ------- -------------------------- 4.12 Notice of Extension of Warrant Expiration Date to May 15, 1997 (8) 4.13 First Amendment to Purchase Agreement dated effective as of March 31, 1996, among the Company and the Purchasers relating to $3,000,000 12% Subordinated Notes due March 31, 1996 (8) 4.14 Security Agreement dated as of May 20, 1996 by the Company in favor of the Purchasers relating to $3,000,000 12% Subordinated Notes (8) 4.15 First Amendment to Financial Advisory Agreement dated March 31, 1996 between the Company and Sanders Morris Mundy, Inc. ("SMM") (8) 4.16 Form of Amendment to 12% Subordinated Notes of the Company due March 31, 1996 extending maturity date to July 31, 1997 (8) 4.17 Amendment No. 3 to Warrant Agreement covering Series A Warrants (9) 4.18 Notice of Extension of Warrant Expiration Date to May 15, 1998 (9) 4.19 Second Amendment to Purchase Agreement dated effective as of July 31, 1997, among the Company and the Purchasers relating to $3,000,000 12% Subordinated Notes due July 31, 1997 (9) 4.20 Second Amendment to Financial Advisory Agreement dated July 31, 1997 between the Company and SMM (9) 4.21 Conversion and Offset Agreement dated May 15, 1997 between The Original Pasta Co., Marco's Mexican Restaurants, Inc., the Company and GMB(9) 4.22 Subordinated Note Conversion Agreement dated June 1, 1997 between the Company and GMB (9) 4.23 Specimen of Purchase Agreement for 11% Convertible Subordinated Notes due June 30, 2002 (9) 4.24 Form of 11% Convertible Subordinated Promissory Note due June 30, 2002 (9) 4.25 Form of Warrant to Purchase Common Stock of the Company expiring on June 30, 2002 issued to purchasers of 11% Subordinated Notes (9) 4.26 Form of Third Amendment to Purchase Agreement dated July 10, 1998 among the Company and the Purchasers relating to $3,000,000 12% Subordinated Notes 4.27 Form of Third Amendment to Financial Advisory Agreement dated July 10, 1998 between the Company and SMM EXHIBIT NUMBER DESCRIPTION OF EXHIBIT (1) ------- -------------------------- 10.1 Form of Management Agreement between the Company and TOPC dated effective September 14, 1995 (4) 10.2 Form of Escrow Closing Agreement dated effective September 14, 1995 by and among GMB, PAC, TOPC, the Company and the Escrow Agent (4) 10.3 Form of Bank Escrow Agreement by and among the Company, GMB and the Bank Escrow Agent dated effective September 14, 1995 (4) 10.4 Form of Development Escrow Agreement by and among TOPC, PAC, the Company, GMB and the Escrow Agent dated effective September 14, 1995 (4) 10.11 Form of $1,260,000 Promissory Note from TOPC to GMB dated effective September 14, 1995 (4) 10.12 Placement Agent Agreement dated December 12, 1994 by and between the Company and SMM as Placement Agent, with first amendment thereto (4) 10.13 Form of Purchase Agreement dated December 19, 1994 between the Company and SMM relating to $3,000,000 12% Subordinated Notes due March 31, 1996 (4) 10.14 Form of 12% Subordinated Note dated December 19, 1994 of the Company due March 31, 1996 (4) 10.15 Form of Warrant dated December 19, 1994, to purchase shares of common stock of the Company at $2.25 per share, expiring December 31, 1999, issued to purchasers of 12% Subordinated Notes (4) 10.16 Put Option Agreement dated December 19, 1994 by and among GMB and the purchasers of the Company's 12% Subordinated Notes (4) 10.17 Financial Advisory Agreement dated December 19, 1994 between the Company and SMM (4) 10.18 Warrant Certificate dated December 19, 1994 from the Company to SMM to purchase 105,000 shares of Common Stock at $2.50 per share expiring December 31, 1999 (4) 10.19 Warrant Certificate dated December 19, 1994 from the Company to Michael S. Chadwick to purchase 45,000 shares of Common Stock at $2.50 per share expiring December 31, 1999 (4) 10.21 Form of Promissory Note, dated May 31, 1995, executed by the Company in favor of Fantasia Stiftung (7) EXHIBIT NUMBER DESCRIPTION OF EXHIBIT (1) ------- -------------------------- 10.22 Security Agreement, dated May 31, 1995, between Fantasia Stiftung and the Company (7) 10.23 Guaranty Agreement, dated May 31, 1995 between Fantasia Stiftung and GMB (7) 10.28 Employment Agreement dated July 1, 1994 between the Company and GMB (4) 10.29 Pledge and Security Agreement from GMB in favor of the Company dated July 31, 1994 (4) 10.30 $2,175,310.40 Promissory Note of GMB to the Company dated July 31, 1994 (4) 10.31 1994 Stock Compensation Plan of the Company (8) 10.32 First Amendment to the 1994 Stock Compensation Plan of the Company (8) 10.33 Second Amendment to the 1994 Stock Compensation Plan of the Company (8) 10.34 License Agreement dated February 21, 1996 between the Company and Bevo's Enterprises licensing the Company to use the name Longhorn Cafe in the operation of the business (8) 10.35 $2,750,000 promissory note from PAC to GMB dated effective September 14, 1995 (8) 10.36 $1,000,000 promissory note from PAC to GMB dated effective September 14, 1995 (8) 10.37 $595,000 promissory note from PAC to GMB dated effective January 26, 1996 (8) 10.38 $224,202 promissory note from PAC to GMB dated effective January 26, 1996 (8) 10.39 $1,200,000 promissory note from the Company to MetroBank, N.A. dated March 15, 1996 (8) 10.40 Security Agreement between PAC, TOPC and GMB dated September 14, 1995 (8) 10.41 Security Agreement Pledge between the Company and GMB dated September 14, 1995 (8) 10.42 Guaranty Agreement Pledge between the Company and GMB dated September 14, 1995 (8) 10.43 Service Mark License Agreement between PAC and GMB dated September 14, 1995 (8) EXHIBIT NUMBER DESCRIPTION OF EXHIBIT (1) ------- -------------------------- 10.44 License Agreement dated June 29, 1997 between Marco's Mexican Restaurants, Inc. and Mohammed S. and Rubina S. Akhtar licensing the use of the name Marco's in the operation of a restaurant (9) 10.45 $300,000 promissory note from the Company to MetroBank dated April 11, 1997 (9) 10.46 $300,000 promissory note from the Company to United Central Bank dated April 7, 1997 (9) 10.47 $250,000 promissory note from the Company to Langham Creek National Bank dated February 14, 1997 (9) 10.48 Agreement dated May 20, 1998 between the Company and GMB relating to the issuance of 10,000,000 warrants to GMB 10.49 Professional Services Agreement dated April 2, 1998 between the Company and Darrin Straughan for operational consulting services 21.1 Subsidiaries of the Registrant 27.1 Financial Data Schedule 99.3 Form 8-K dated May 13, 1998 99.4 Letter dated September 30, 1998 from E. Ted Davis & Associates, Inc. regarding the issuance of warrants to GMB ______________ FOOTNOTES (1) Unless otherwise footnoted, the Exhibits described below are filed herewith. (2) Certain terms initially defined in this Exhibit List are used consistently throughout the Exhibit List. (3) Filed as an Exhibit to the Company's Form 8-KSB/A dated September 14, 1994 and incorporated herein by reference. (4) Filed as an Exhibit to the Company's Form 10-K dated July 2, 1995 and incorporated herein by reference. (5) Filed as an Exhibit to the Company's Registration Statement on Form S-1, as amended (SEC File No. 33-45906) effective May 15, 1992, and incorporated herein by reference. (6) Previously filed as an Exhibit to the Company's Registration Statement on Form S-3, as amended (SEC File No. 33-773344) effective May 10, 1994, and incorporated herein by this reference. (7) Previously filed as an Exhibit to the Company's Registration Statement as Form S-3, as amended (SEC File No. 33-93450), effective July 28, 1995 and incorporated herein by reference. (8) Filed as an Exhibit to the Company's Form 10-K dated June 30, 1996 and incorporated herein by reference. (9) Filed as an Exhibit to the Company's Form 10-K dated June 29, 1997 and incorporated herein by reference. EX-3.3 2 EXHIBIT 3.3 ARTICLES OF AMENDMENT TO THE RESTATED ARTICLES OF INCORPORATION OF WATERMARC FOOD MANAGEMENT CO. Pursuant to the provisions of Article 4.04 of the Texas Business Corporation Act, Watermarc Food Management Co., the undersigned corporation (the "Corporation") adopts the following Articles of Amendment to its Restated Articles of Incorporation: ARTICLE ONE AMENDMENT The following amendment to the Restated Articles of Incorporation of the Corporation was adopted by the Shareholders of the Corporation on January 23, 1998, in order to provide for the issuance of additional shares of common stock. Article Four, Section 1 of the Restated Articles of Incorporation of the Corporation is hereby amended to read in its entirety as follows: ARTICLE FOUR CAPITALIZATION, PREEMPTIVE RIGHTS AND VOTING Section 1. AUTHORIZED SHARES. The Corporation shall have authority to issue two classes of shares to be designated respectively "Common Stock" and "Preferred Stock". The total number of shares which the Corporation is authorized to issue is ONE HUNDRED FIVE MILLION (105,000,000) shares of which ONE HUNDRED MILLION (100,000,000) shall be Common Stock and FIVE MILLION (5,000,000) shall be Preferred Stock. Each share of Common Stock shall have a par value of FIVE CENTS ($.05), and each share of Preferred Stock shall have a par value of ONE DOLLAR ($1.00). ARTICLE TWO OUTSTANDING SHARES The number of shares of the Corporation outstanding at the time of such adoption was 14,163,230 shares of Common Stock, $.05 par value per share; and the number of shares of Common Stock entitled to vote thereon was 14,163,230. ARTICLE THREE VOTE The number of shares voted for and against such amendment was as follows: FOR AGAINST Authorized Shares 8,531,423 559,267 EXECUTED this 30th day of January, 1998. WATERMARC FOOD MANAGEMENT CO. By: /s/ GHULAM M. BOMBAYWALA Ghulam M. Bombaywala, Chief Executive Officer EX-4.26 3 EXHIBIT 4.26 THIRD AMENDMENT TO PURCHASE AGREEMENT Third Amendment to Purchase Agreement dated effective as of July 10, 1998 (the "Amendment"), among WATERMARC FOOD MANAGEMENT CO., a Texas corporation formerly known as Billy Blues Food Corporation (the "Company"), and the persons listed in Schedule 1 hereto (the "Purchasers"); WITNESSETH: Whereas, the Company and the Purchasers are parties to a Purchase Agreement dated as of December 19, 1994, as amended by the First Amendment to Purchase Agreement dated as of March 31, 1996, and a Second Amendment to Purchase Agreement dated as of July 31, 1997, (such Purchase Agreement, as amended, being referred to herein as the "Purchase Agreement"), pursuant to which the Company issued and the Purchasers purchased (a) the Company's 12% Subordinated Notes due March 31, 1996, in the aggregate principal amount (%f$3,000,000 (the "Notes") and (b) warrants (the "Warrants") evidencing the right to purchase an aggregate of 1,333,320 shares of Common Stock, $.05 par value (the "Company Common Stock"), of the Company, at $2.25 per share; and Whereas, the Company has paid $1,250,000 in principal amount on the Notes and has paid accrued interest on the Notes through July 31, 1998, and $500,000 in aggregate principal amount of the Notes has been converted to other debt; and Whereas, the Company has requested that the Purchasers agree to extend the maturity date of the remaining Notes until December 31, 1999; and Whereas, the Purchasers are willing to extend the maturity date of the Notes upon the terms and subject to the conditions set forth herein; Now, therefore, in consideration of the foregoing premises, the following mutual agreement, and other good and valuable consideration the receipt and sufficiency of which is hereby acknowledged, the Company and the Purchasers agree to amend the Purchase Agreement as follows: 1. DEFINITIONS. Capitalized terms used herein shall have the meaning assigned to them in the Purchase Agreement unless otherwise defined herein or the context otherwise requires. 2. AMENDMENTS TO THE PURCHASE AGREEMENT. The Purchase Agreement is hereby amended as follows: (a) Section 1 of the Purchase Agreement is hereby amended bv: (i) deleting the words "July 10, 1998" and substituting in place thereof the words "December 31, 1999," (ii) deleting reference to "$0.25" and substituting in place thereof "$0.09," and (iii) deleting the third sentence in its entirety and substituting in place there of the following sentence: Each Note issued hereunder will be dated the date purchased by you hereunder, will mature on December 31, 1999, and will bear interest on its unpaid balance at the rate of 12% per annum, payable monthly on or before the first day of each month for the preceding month, commencing on September 1, 1998, and will have the other terms and provisions provided herein and in the form of Note attached hereto as EXHIBIT A. (b) The Company's breach of any of its covenants and agreements contained in this Agreement, including its agreement to reduce the outstanding principal amount of the Notes by $150,000 on or before December 31, 1998, shall constitute an "Event of Default" under the Purchase Agreement. 3. AMENDMENTS TO THE NOTES. Each of the Notes is hereby amended by deleting the words "July 10, 1998" wherever they may appear and substituting in place thereof the words "December 31, 1999" and by deleting "and to pay interest thereon quarterly on March 31, June 30, September 30, and December 31 (each an "Interest Payment Date"), in each year commencing March 31, 1995," in the first paragraph of the Note and substituting in place thereof the following "and to pay interest thereon monthly on or before the first (1st) day of each month for the preceding month (each an "Interest Payment Date"), in each year commencing on September 1, 1998." 4. AMENDMENTS TO THE WARRANTS. Each of the Warrants is hereby amended by deleting the number "$0.25" in the first paragraph and substituting in place thereof the number "$0.09." 5. PRINCIPAL PAYMENTS. The Company shall make a principal payment on the Notes in the aggregate amount of $100,000 and shall pay accrued interest through July 31, 1998, upon execution of this Agreement. The Company shall make an additional payment of principal on the Notes in the aggregate amount of $150,000 on or before December 31, 1998. 6. ADDITIONAL WARRANTS. The Company will issue to the Purchasers the number of warrants (the "New Warrants") evidencing the right to purchase 1,150,000 shares of Common Stock of the Company at $0.25 per share, such number of shares and the purchase price being subject to adjustment as provided in the New Warrant, specified opposite their names on Exhibit A.. Each New warrant shall be in the form attached hereto as Exhibit B. The shares of Common 2 Stock issued or issuable upon exercise of the New Warrants shall be deemed "Restricted Stock" under the Purchase Agreement and the holder of the New Warrants shall be deemed "Eligible Holders" under the Purchase Agreement. The New Warrants shall expire on the fifth anniversary of their issuance; provided, however, if the Company pays the Notes in full on or before December 31, 1999, the New Warrants shall expire on the later of December 31, 1999, or 30 days after the date the Notes are paid in full. 7. REPRESENTATIONS AND WARRANTIES. The Company represents and warrants as follows: (a) The execution, delivery and performance of this Amendment and the Purchase Agreement, as modified by this Amendment, and the transactions contemplated hereby and thereby (i) are within the corporate authority of the Company, (ii) have been authorized by all necessary corporate proceedings on the part of the Company, (iii) do not conflict with or result in any material breach or contravention of any provision of law, statute, rule, or regulation to which the Company is subject or any judgment, order, writ, injunction, license, or permit applicable to the Company, and (iv) do not conflict with any provision of the corporate charter or bylaws of the Company or any agreement or other instrument binding upon the Company. (b) The execution, delivery, and performance of this Amendment and the Purchase Agreement, as modified by this Amendment, will result in valid and legally binding obligations of the Company enforceable against it in accordance with the respective terms and provisions hereof and thereof. (c) The execution, delivery, and performance of this Amendment and the Purchase Agreement, as modified by this Amendment, and the consummation by the Company of the transactions contemplated hereby and thereby do not require any approval or consent of, or filing with, any governmental agency or authority. 8. RATIFICATION. Except as expressly amended hereby, the Purchase Agreement, the Notes, the Warrants, and the Security Agreement dated as of May 20, 1996, by the Company in favor of the Purchasers with respect to the shares of Marco's, are hereby ratified and confirmed in all respects and shall continue in full force and effect. This Amendment and the Purchase Agreement shall hereafter be read and construed together as a single document, and all references to the Purchase Agreement or any agreement or instrument related to the Purchase Agreement shall hereafter refer to the Purchase Agreement as amended by this Amendment. This ratification and amendment is made effective as of July 10, 1998, and the Purchasers agree that, as amended, the Notes are not in default and, if due to timing factors a default in the Notes existed for a temporary period, such default is waived and/or cured by this Amendment. 9. NOTATION ON NOTES AND WARRANTS. Promptly following execution of this Amendment and in any event within 30 days thereof, each holder of a Note and/or a Warrant agrees to deliver 3 such Note and/or Warrant to the Company so that the amendments effected by this Amendment may be noted thereon. 10. COUNTERPARTS. This Amendment may be executed in any number of counterparts and by different parties hereto on separate counterparts, each of which when so executed and delivered shall be an original, but all of which counterparts taken together shall be deemed to constitute one and the same instrument. 11. GOVERNING LAW. This Amendment shall be governed by and construed in accordance with the laws of the State of Texas (without reference to conflict of laws). 12. EXECUTION BY MARCO'S. Marco's has executed this Amendment to evidence its agreement to comply with the covenant's contained in Sections 7.13 and 7.14 of the Purchase Agreement. 13. EXECUTION BV GHULAM M. BOMBAYWALA. Mr. Bombaywala has executed this Amendment to evidence his agreement to comply with the covenants contained in Section 7.15 of the Purchase Agreement and his agreement that the Put Option Agreement dated as of December 19, 1994, between Mr. Bombaywala and the Purchasers; the two Security Agreements dated as of July 31, 1997, by Mr. Bombaywala in favor of the Purchasers with. respect to the shares of Michelangelo's, Inc. and S.P.P., Inc.; and the Guaranty dated as of October23, 1997, by Mr. Bombaywala in favor of the Purchasers are hereby ratified and confirmed in all respects and shall continue in full force and effect. In witness whereof, the Company and the Purchasers have executed this Amendment effective as of the date first above written. WATERMARC FOOD MANAGEMENT CO. By:/s/ GHULAM M. BOMBAYWALA Name:_______________________________ Title:______________________________ MARCO'S MEXICAN RESTAURANTS, INC. By:/s/ GHULAM M. BOMBAYWALA Name:_______________________________ Title:______________________________ /s/ GHULAM M. BOMBAYWALA --------------------------------- GHULAM M. BOMBAYWALA 4 --------------------------------- Don A. Sanders Atlantis Software Company Employee Profit Sharing Plan - By:_________________________________ Name:_______________________________ Title:______________________________ _________________________________ Philip M. Mount _________________________________ John I. Mundy _________________________________ Katherine U. Sanders _________________________________ Ben T. Morris _________________________________ Neil Lande, Custodian for Lynne Lande, Stephen Lande, Sara Lande, and Caroline Lande _________________________________ John E. Drury _________________________________ George L. Ball 5 _________________________________ John M. O'Quinn _________________________________ Nolan Ryan _________________________________ Roger P. Lindstedt _________________________________ Ray C. Childress _________________________________ Kara S. Chudress _________________________________ Morton A. Cohn _________________________________ Michael S. Chadwick _________________________________ Laura K. Sanders _________________________________ Quinlan Quiros Schnitzer 6 Exhibit B NO.* THIS WARRANT HAS NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED, OR THE SECURITIES ACT OF ANY STATE (COLLECTIVELY, THE "ACTS"). NEITHER THIS WARRANT NOR ANY INTEREST THEREIN MAY BE OFFERED, SOLD, TRANSFERRED, PLEDGED OR OTHERWISE DISPOSED OF IN THE ABSENCE OF AN EFFECTIVE REGIS~ON STATEMENT WITH RESPECT HERETO UNDER ALL OF THE APPLICABLE ACTS, OR AN OPIMON OF COUNSEL SATISFACTORY TO WATERMARC FOOD MANAGEMENT CO. TO THE EFFECT THAT SUCH REGIS~ONS ARE NOT REQUIRED. THIS WARRANT IS SUBJECT TO OTHER LIMITATIONS ON TRANSFER. WARRANT to Purchase Common Stock of WATERMARC FOOD MANAGEMENT CO. Expiring on August 31, 2003 THIS IS TO CERTIFY THAT, for value received,*, or permitted assigns, is entitled to purchase from WATERMARC FOOD MANAGEMENT CO., a Texas corporation (the "Company"), at the place where the Warrant Office designated pursuant to Section 2.1 is located, at a purchase price per share of $0.25 (as adjusted pursuant to the terms of this Warrant, the "Exercise Price'1), * shares of duly authorized, validly issued, fully paid and nonassessable shares of Common Stock, $.05 par value, of the Company (the '1Common Stock"), and is entitled also to exercise the other appurtenant rights, powers and privileges hereinafter set forth. The number of shares of the Common Stock purchasable hereunder and the Exercise Price are subject to adjustment in accordance with Article III hereof. This Warrant shall expire at 5:00 p.m., Houston Time, on August 31, 2003; provided, however, if the Company pays in full all outstanding principal and interest on its 12% Subordinated Notes (the "Notes") issued pursuant to the Purchase Agreement dated December 19, 1994, as amended (the "Purchase Agreement"), on or before December 31, 1999, this warrant shall expire on the later of (i) December 31, 1999, or (ii) the date 30 days following the date that the Notes are paid in full. Certain Terms used in this Warrant are defined in Article IV. ARTICLE I EXERCISE OF WARRANT 1.1 METHOD OF EXERCISE. This Warrant may be exercised as a whole or in part from time to time. To exercise this Warrant, the holder hereof or permitted assignees of all rights of the registered owner hereof shall deliver to the Company, at the Warrant Office designated in Section 2.1, (a) a written notice in the form of the Subscription Notice attached as an exhibit here- to, stating therein the election of such holder or such permitted assignees of the holder to exercise this Warrant in the manner provided in the Subscription Notice, (b) payment in full of the Exercise Price (in the manner described below) for all Warrant Shares purchased hereunder, and (c) this Warrant. Subject to compliance with Section 3. l(a)(vii), this Warrant shall be deemed to be exercised on the date of receipt by the Company of the Subscription Notice, accompanied by payment for the Warrant Shares and surrender of this Warrant, as aforesaid, and such date is referred to herein as the "Exercise Date". Upon such exercise (subject as aforesaid), the Company shall issue and deliver to such holder a certificate for the full number of the Warrant Shares purchasable by such holder hereunder, against the receipt by the Company of the total Exercise Price payable hereunder for all the Warrant Shares, (a) in cash or by certified or cashier's check or by surrendering Warrant Shares having a Current Market Value equal to the Exercise Price for all of the Warrant Shares, so purchased. The Person in whose name the certificate(s) for Common Stock is to be issued shall be deemed to have become a holder of record of such Common Stock on the Exercise Date. 1.2 FRACTIONAL SHARES. Instead of any fractional shares of Common Stock which would otherwise be issuable upon exercise of this Warrant, no shares will be issued for less than one-half a share and the Company shall issue a certificate for the next higher number of whole shares of Common Stock for any fraction of a share which is one-half or greater. 1.3 CONVERSION RIGHT. This Warrant may be converted as a whole or in part from time to time into shares of Common Stock. To convert this Warrant, the holder hereof or permitted assignees of all rights of the registered owner hereof shall deliver to the Company, at the Warrant Office designated in Section 2.1, (a) a written notice in the form of the Subscription Notice attached as an exhibit hereto, stating therein the election of such holder or such permitted assignees of the holder to convert this Warrant in the manner provided in the Subscript ion Notice and (1,) this Warrant. Subject to compliance with Section 3. 1(a)(vii), this Warrant shall be deemed to be converted on the date of receipt by the Company of the Subscription Notice, accompanied by this Warrant, as aforesaid, and such date is referred to herein as the "Conversion Date". Upon such conversion (subject as aforesaid), the Company shall issue and deliver to such holder (without payment of any Exercise Price) a certificate for the full number of the Warrant Shares equal to the quotient obtained by dividing (a) the amount determined by subtracting the aggregate Exercise Price on the Conversion Date for the Warrant Shares purchasable by such holder hereunder from the Current Market Value (as hereinafter defined) for such Warrant Shares on the Conversion Date by (b) the Current Market Value of one share of Common Stock on the Conversion Date. The Person in whose name the certificate(s) for Common Stock is to be issued shall be deemed to have become a holder of record of such Common Stock on the Conversion Date. 2 ARTICLE II WARRANT OFFICE: TRANSFER 2.1 WARRANT OFFICE. The Company shall maintain an office for certain purposes specified herein (the "Warrant Office"), which office shall initially be the Company's office at 11111 Wilcrest Green, Suite 350, Houston, Texas 77042 and may subsequently be such other office of the Company or of any transfer agent of the Common Stock in the continental United States as to which written notice has previously been given to the holder of this Warrant. The Company shall maintain, at the Warrant Office, a register for the Warrant, in which the Company shall record the name and address of the person in whose name this Warrant has been issued, as well as the name and address of each permitted assignee of the rights of the registered owner hereof. 2.2 OWNERSHIP OF WARRANT. The Company may deem and treat the person in whose name this Warrant is registered as the holder and owner hereof (notwithstanding any notations of ownership or writing hereon made by anyone other than the Company) for all purposes and shall not be affected by any notice to the contrary, until presentation of this Warrant for registration of transfer as provided in this Article II. 2.3 RESTRICTIONS ON EXERCISE AND TRANSFER OF WARRANTS. The Company agrees to maintain at the Warrant Office books for the registration and transfer of this Warrant. Subject to the restrictions on transfer of Warrants in this Section 2.3, the Company, from time to time, shall register the transfer of this Warrant in such books upon surrender of this Warrant at the Warrant Office properly endorsed or accompanied by appropriate instruments of transfer and written instructions for transfer satisfactory to the Company. Upon any such transfer, a new Warrant shall be issued to the transferee and the surrendered Warrant shall be canceled by the Company. The Company shall pay all taxes (other than securities transfer taxes) and all other expenses and charges payable in connection with the transfer of Warrants pursuant to this Sect ion 2.3. (a) RESTRICTIONS IN GENERAL. Notwithstanding any provisions contained in this Warrant to the contrary, this Warrant shall not be exercisable or transferable and the related shares of Common Stock issuable upon exercise of this Warrant (the "Warrant Shares") shall not be transferable except upon the conditions specified in this Section 2.3, which conditions are intended, among other things, to insure compliance with the provisions of the Securities Act in respect of the exercise or transfer of this Warrant or transfer of such Warrant Shares. The registered holder of this Warrant agrees that it will neither (i) transfer this Warrant prior to delivery to the Company of the opinion of counsel referred to in, and to the effect described in, clause (1) of Section 2.3(b), or until registration hereof under the Securities Act and any applicable state securities or blue sky laws, (ii) exercise this Warrant prior to delivery to the Company of the opinion of counsel referred to in, and to the effect described in, clause (1) of Section 2.3(b), or until registration of the related Warrant Shares under the Securities Act and any applicable state securities or blue sky laws have become effective, nor (iii) transfer such Warrant 3 Shares prior to delivery to the Company of the opinion of counsel referred to in, and to the effect described in, clause (1) of Section 2.3), or until registration of such Warrant Shares under the Securities Act and any applicable state securities or blue sky laws have become effective. (b) STATEMENT OF INTENTION TO EXERCISE: OPINION OF COUNSEL. The registered holder of this Warrant, by its acceptance hereof, agrees that prior to any exercise or transfer of this Warrant or any transfer of the related Warrant Shares, said holder will deliver to the Company a statement setting forth either said holder's intention with respect to the retention or disposition of any Warrant Shares, or the intention of said holder's prospective transferee with respect to its retention or disposition of this Warrant or of said Warrant Shares (whichever is involved in such transfer), in either such case, together with a signed copy of the opinion of said holder's counsel, or such other counsel as shall be acceptable to the Company, as to the necessity or non-necessity for registration under the Securities Act and any applicable state securities or blue sky laws in connection with such exercise or such transfer. The following provisions shall then apply: (1) If, in the opinion of said holder's counsel, concurred in by counsel to the Company, the proposed exercise or transfer of this Warrant or the proposed transfer of such Warrant Shares may be effected without registration under the Securities Act and any applicable state securities or blue sky laws of this Warrant or such Warrant Shares, as the case may be, then the registered holder of this Warrant shall be entitled to exercise or transfer this Warrant or to transfer such Warrant Shares in accordance with the statement of intention delivered by said holder to the Company. (2) If, in the opinion of said counsel, concurred in by counsel to the Company, either the proposed exercise or transfer of this Warrant or the proposed transfer of such Warrant Shares may not be effected without registration under the Securities Act and any applicable state securities or blue sky laws of this Warrant or such Warrant Shares, as the case may be, the registered holder of this Warrant shall not be entitled to exercise or transfer this Warrant or to transfer such Warrant Shares, as the case may be, until such registration is effected. 2.4 REGISTRATION RIGHTS. The registered holder of this Warrant shall be entitled to all of the rights and benefits of a purchaser under the Purchase Agreement. The Warrant Shares shall be considered Restricted Stock under the Purchase Agreement. The terms of the Purchase Agreement are hereby incorporated herein for all purposes and shall be considered a part of this Agreement as if they had been fully set forth herein. 2.5 ACKNOWLEDGMENT OF RIGHTS. The Company will, at the time of the exercise of this Warrant in accordance with the terms hereof, upon the request of the registered holder hereof, acknowledge in writing its continuing obligation to afford to such holder any rights (including without limitation, any right to registration of the Warrant Shares) to which such holder shall continue to be entitled after such exercise in accordance with the provisions of this Warrant, provided that if the holder of this Warrant shall fail to make any such request, such failure shall not affect the continuing obligation of the Company to afford to such holder any such rights. 4 2.6 EXPENSES OF DELIVERY OF WARRANTS. The Company shall pay all expenses, taxes (other than transfer taxes) and other charges payable in connection with the preparation, issuance and delivery of Warrants and related Warrant Shares hereunder. 2.7 COMPLIANCE WITH SECURITIES LAWS. The holder hereof understands and agrees that the following restrictions and limitations shall be applicable to all Warrant Shares and resales or other transfers of such Shares pursuant to the Securities Act: (a) The holder hereof agrees that the Warrant Shares shall not be sold or otherwise transferred unless the Warrant Shares are registered under the Securities Act and state securities laws or are exempt therefrom. (b) A legend in substantially the following form has been or will be placed on the certificate(s) evidencing the Warrant Shares: "The shares represented by this certificate have not been registered under the Securities Act of 1933 or any state securities act. The shares have been acquired for investment and may not be sold, transferred, pledged or hypothecated unless (i) they shall have been registered under the Securities Act of 1933 and any applicable state securities act, or (ii) the corporation shall have been furnished with an opinion of counsel, satisfactory to counsel for the corporation that registration is not required under any of such acts." (c) Stop transfer instructions have been or will be imposed with respect to the Warrant Shares so as to restrict resale or other transfer thereof, subject to this Section 2.7. ARTICLE III ANTI-DILUTION PROVISIONS 3.1 ADJUSTMENT OF EXERCISE PRICE AND NUMBER OF WARRANT SHARES. The Exercise Price shall be subject to adjustment from time to time as hereinafter in this Article III provided. Upon each adjustment of the Exercise Price, except pursuant to 3. 1(a)(vi) and 3. 1(a)(vii), the registered holder of the Warrant shall thereafter be entitled to purchase, at the Exercise Price resulting from such adjustment, the number of shares of the Common Stock (calculated to the nearest whole share pursuant to Section 1.2) obtained by multiplying the Exercise Price in effect immediately prior to such adjustment by the number of shares of the Common Stock purchasable pursuant hereto immediately prior to such adjustment and dividing the product thereof by the Exercise Price resulting from such adjustment. (a) EXERCISE PRICE ADJUSTMENTS. The Exercise Price shall be subject to adjustment from time to time as follows: 5 (i) ISSUANCES OF COMMON STOCK. (A) If, at any time, during the period (the "Note Period") that any principal amount is outstanding on the Notes (as defined in the Purchase Agreement), the Company shall issue any Common Stock other than Excluded Stock or Additional Excluded Stock (as hereinafter defined) without consideration or for a consideration per share less than the Exercise Price applicable immediately prior to such issuance, the Exercise Price in effect immediately prior to each such issuance shall immediately (except as provided below) be reduced to the price equal to the greater of (I) the result obtained by dividing (aa) the consideration, if any, received by the Company upon such issuance by (b) the total number of shares of Common Stock issued by the Company upon such issuance and (II) $0.05 or (B) If, at any time, subsequent to the Note Period, the Company shall issue any Common Stock other than Excluded Stock (as hereinafter defined) without consideration or for a consideration per share less than the Exercise Price applicable immediately prior to such issuance, the Exercise Price in effect immediately prior to each such issuance shall immediately (except as provided below) be reduced to the price determined as follows: by dividing (A) an amount equal to the sum of (x) the number of shares of Common Stock outstanding immediately prior to such issuance multiplied by the Exercise Price immediately prior to such issuance and ~) the consideration, if ~ received by the Company upon such issuance, by ~) the total number of shares of Common Stock outstanding immediately after such issuance; provided, however, that if the number of shares of Common Stock (other than Excluded Stock) issued or reserved or agreed to be reserved for issuance by the Company should at any time exceed 5 % of the Company's issued and outstanding shares of Common Stock none of such shares (whether or not previously issued or reserved for issuance by the Company) shall be considered Additional Excluded Stock for purposes of determining the Exercise Price adjustment in Section 3.1 (a) (i) (A) and the Exercise Price shall be readjusted accordingly in accordance with the provisions of Section 3. 1(a)(i)(A) using the lowest per share price of any Common Stock so issued or reserved or agreed to be reserved for issuance. For the purpose of any adjustment of the Exercise Price pursuant to this clause (i) of this Section 3.1(a), the following provisions shall be applicable: (A) CASH. In the case of the issuance of Common Stock for cash, the amount of the consideration received by the Company shall be deemed to be the amount of the cash proceeds received by the Company for such Common Stock before deducting therefrom any reasonable discounts, commissions, taxes or other expenses allowed, paid or incurred by the Company for any underwriting or otherwise in connection with the issuance and sale thereof. (B) CONSIDERATION OTHER THAN CASH. In the case of the issuance of Common Stock (otherwise than upon the conversion of shares of capital stock or other securities of the Company) for a consideration in whole or in part other than 6 cash, including securities acquired in exchange therefor (other than securities by their terms so exchangeable), the consideration other than cash shall be deemed to be the fair value thereof as determined by the Board of Directors in good faith, irrespective of any accounting treatment. (ii) OPTIONS AND CONVERTIBLE SECURITIES ETC. In case, at any time, the Company shall issue any (i) options, warrants or other rights to purchase or acquire Common Stock other than Excluded Stock (whether or not at the time exercisable), (ii) securities by their terms convertible into or exchangeable for Common Stock (whether or not at the time so convertible or exercisable) or (i~) options, warrants or rights to purchase such convertible or exchangeable securities (whether or not at the time exercisable), and such securities so issued or rights granted in the cases of (i), (ii) or (iii) are not Excluded Stock, the Exercise Price in effect immediately prior to each such issuance shall immediately (except as provided below) be reduced to the price determined in accordance with Section 3. 1(a)(i) and the following: (1) the aggregate maximum number of shares of Common Stock deliverable upon exercise of such options, warrants or other rights to purchase or acquire Common Stock shall be deemed to have been issued at the time such options, warrants or rights were issued and for a consideration equal to the consideration (determined in the manner provided in subclauses (A) and (B) above), if any, received by the Company upon the issuance of such options, warrants or rights plus the minimum purchase price provided in such options, warrants or rights for the Common Stock covered thereby; (2) the aggregate maximum number of shares of Common Stock deliverable upon conversion of or in exchange for any such convertible or exchangeable securities, or upon the exercise of options, warrants or other rights to purchase or acquire such convertible or exchangeable securities and the subsequent conversion or exchange thereof, shall be deemed to have been issued at the time such securities were issued or such options, warrants or rights were issued and for a consideration equal to the consideration, if any, received by the Company for any such securities and related options, warrants or rights (excluding any cash received on account of accrued interest or accrued dividends), plus the additional consideration, if any, to be received by the Company upon the conversion or exchange of such securities and the exercise of any related options, warrants or rights (the consideration in each case to be determined in the manner provided in subclauses (A) and (B) above); (3) on any change in the number of shares of Common Stock deliverable upon exercise of any such options, warrants or rights or conversion or of exchange for such convertible or exchangeable securities or any change in the consideration to be received by the Company upon such exercise, conversion or exchange, including, but not limited to, a change resulting from the antidilution provisions 7 thereof, the Exercise Price as then in effect shall forthwith be readjusted to such Exercise Price as would have been obtained had an adjustment been made upon the issuance of such options, warrants or rights not exercised prior to such change, or securities not converted or exchanged prior to such change, on the basis of such change; (4) on the expiration or cancellation of any such options, warrants or rights, or the termination of the right to convert or exchange such convertible or exchangeable securities, if the Exercise Price shall have been adjusted upon the issuance thereof, the Exercise Price shall forthwith be readjusted to such Exercise Price as would have been obtained had an adjustment been made upon the issuance of such options, warrants, rights or securities on the basis of the issuance of only the number of shares of Common Stock actually issued upon the exercise of such options, warrants or rights, or upon the conversion or exchange of such securities; and (5) if the Exercise Price shall have been adjusted upon the issuance of any such options, warrants, rights or convertible or exchangeable securities, no further adjustment of the Exercise Price shall be made for the actual issuance of Common Stock upon the exercise, conversion or exchange thereof; PROVIDED, HOWEVER, that no increase in the initial Exercise Price shall be made pursuant to this Section 3.1 (a)(ii). (iii) EXCLUDED STOCK. "Excluded Stock" shall mean shares of Common Stock issued or reserved or agreed to be reserved for issuance by the Company (A) under options, warrants, or other securities convertible or exercisable into Common Stock (whether pursuant to a stock option plan or otherwise), provided the same are issued to officers, directors or employees of the Company and provided that the aggregate number of shares of Common Stock issued or issuable under this clause (A) shall not exceed 10% of the Company's issued and outstanding shares of Common Stock, (B) pursuant to anti-dilution provisions or rights with respect to any other presently issued and outstanding securities of the Company convertible into, exchangeable for, or giving the holder thereof the option or right to purchase shares of Common Stock, (C) pursuant to warrants to purchase 1,111,100 shares of Common Stock issued under the Purchase Agreement dated as of December 19,1994, (D) pursuant to up to 950,000 warrants issued to GTI Partners LLC pursuant to the Consulting Agreement dated May 13, 1998, and pursuant up to 10,000,000 warrants to be issued to Ghulam Bombaywala, both as authorized by the Board of Directors of the Company on May 1, 1998, or (E) pursuant to a stock dividend, subdivision or split-up covered by clause (iv) of this Section 3.1(a). "Additional Excluded Stock" shall mean shares of Common Stock (other than Excluded Stock) issued or reserved or agreed to be reserved for issuance by the Company whether directly or under options, warrants, or other securities convertible or exercisable into Common Stock, provided that the aggregate number of shares of Common Stock issued or issuable under such options, 8 warrants, or other convertible securities shall not exceed 5% of the Company's issued and outstanding shares of Common Stock. (iv) STOCK DIVIDENDS AND SPLITS. If the number of shares of Common Stock outstanding at any time after the date of this Warrant is increased by a stock dividend payable in shares of Common Stock or increased or decreased by a subdivision or split-up of shares of Common Stock, then immediately after the record date fixed for the determination of holders of Common Stock entitled to receive such stock dividend or the effective date of such subdivision or split-up, as the case may be, the Exercise Price shall be appropriately adjusted so that the adjusted Exercise Price shall bear the same relation to the Exercise Price in effect immediately prior to such adjustment as the total number of shares of Common Stock outstanding immediately prior to such action shall bear to the total number of shares of Common Stock outstanding immediately after such action. (v) COMBINATION OF STOCK. If the number of shares of Common Stock outstanding at any time after the date of issuance of this Warrant is decreased by a combination of the outstanding shares of Common Stock, then, immediately after the effective date of such combination, the Exercise Price shall be appropriately adjusted so that the adjusted Exercise Price shall bear the same relation to the Exercise Price in effect immediately prior to such adjustment as the total number of shares of Common Stock outstanding immediately prior to such action shall bear to the total number of shares of Common Stock outstanding immediately after such action. (vi) REORGANIZATIONS. ETC. In case of any capital reorganization of the Company, or of any reclassification of the Common Stock, or in case of the consolidation of the Company with or the merger of the Company with or into any other Person or of the sale, lease or other transfer of all or substantially all of the assets of the Company to any other Person, this Warrant shall, after such capital reorganization, reclassification, consolidation, merger, sale, lease or other transfer, be exercisable for the number of shares of stock or other securities or property to which the Common Stock issuable (at the time of such capital reorganization, reclassification, consolidation, merger, sale, lease or other transfer) upon exercise of this Warrant would have been entitled to receive upon such capital reorganization, reclassification, consolidation, merger, sale, lease or other transfer if such exercise had taken place; and in any such case, if necessary, the provisions set forth herein with respect to the rights and interests thereafter of the holder of this Warrant shall be appropriately adjusted so as to be applicable, as nearly as may reasonably be, to any shares of stock or other securities or property thereafter deliverable on the exercise of this Warrant. In case of any distribution by the Company of any security (including rights or warrants to subscribe for any such securities but excluding Common Stock and any securities referred to in Section 3. l(a)(ii)) of the Company, evidences of its indebtedness, cash or other assets to all of the holders of its Common Stock, then in each such case the Exercise Price in effect thereafter shall be determined by multiplying the Exercise Price in effect immediately prior thereto by a fraction the numerator of which shall be the total number of outstanding shares of Common Stock multiplied by the 9 Current Market Price on the record date mentioned below, less the fair market value (as determined in good faith by the Board of Directors) of the securities, evidences of its indebtedness, cash or other assets distributed by the Company and the denominator of which shall be the total number of outstanding shares of Common Stock multiplied by the Current Market Price; such adjustment shall become effective as of the record date for the determination of stockholders entitled to receive such distribution. The subdivision or combination of shares of Common Stock issuable upon exercise of this Warrant at any time outstanding into a greater or lesser number of shares of Common Stock (whether with or without par value) shall not be deemed to be a reclassification of the Common S tock of the Company for the purposes of this clause (vi). (vii) ROUNDING OF CALCULATIONS: MINIMUM ADJUSTMENT. All calculations under this Section 3.1(a) shall be made to the nearest cent or to the nearest whole share (as provided in Section 1.2) share, as the case may be. Any provision of this Section 3.1 to the contrary notwithstanding, no adjustment in the Exercise Price shall be made if the amount of such adjustment would be less than $.05, but any such amount shall be carried forward and an adjustment with respect thereto shall be made at the time of and together with any subsequent adjustment which, together with such amount and any other amount or amounts so carried forward, shall aggregate $.05 or more. In case ~e Company shall at any time issue shares of Common Stock in any transaction described in Section 3. l(a)(iv) or 3. 1(a)(v), such amount of $.05 per share (as theretofore increased or decreased, if such amount shall have been adjusted in accordance with the provisions of this Section 3. 1(a)(vii)) shall forthwith be proportionately increased in the case of a transaction described in Section 3. 1(a)(v) or decreased in the case of a transaction described in Section 3. 1(a)(iv) so as appropriately to reflect such transaction. (viii) TIMING OF ISSUANCE OF ADDITIONAL COMMON STOCK UPON CERTAIN ADJUSTMENTS. In any case in which the provisions of this Section 3.1(a) shall require that an adjustment shall become effective immediately after a record date for an event, the Company may defer until the occurrence of such event issuing to the holder of this Warrant after such record date and before the occurrence of such event the additional shares of Common Stock or other property issuable or deliverable upon exercise by reason of the adjustment required by such event over and above the shares of Common Stock or other property issuable or deliverable upon such exercise before giving effect to such adjustment; PROVIDED, HOWEVER, that the Company upon request shall deliver to such holder a due bill or other appropriate instrument evidencing such holder's right to receive such additional shares or other property, and such cash, upon the occurrence of the event requiring such adjustment. (b) CURRENT MARKET PRICE. The Current Market Price shall mean, as of any date, 10 % of the sum of the average, for each of the 10 consecutive Trading Days immediately prior to such date, of either: (i) the high and low sales prices of the Common Stock on such Trading Day as reported on the composite tape for the principal national securities exchange on which the Common Stock may then be listed, or (ii) if the Common Stock shall not be so listed on any such 10 Trading Day, the high and low sales prices of Common Stock in the over-the-counter market as reported by the Nasdaq Stock Market ("Nasdaq") for National Market Issues, or (iii) if the Common Shares shall not be included in the Nasdaq National Market on any such Trading Day, the representative bid and asked prices at the end of such Trading Day in such market as reported by Nasdaq, or 1(iv) if there be no such representative prices reported by Nasdaq, the lowest bid and highest asked prices at the end of such Trading Day in the over-the-counter market as reported by the National Quotation Bureau, Inc., or any successor organization. For purposes of determining Current Market Price, the term 'tTrading Day" shall mean a day on which an amount greater than zero can be calculated with respect to the Common Stock under any one or more of the foregoing categories (i), (ii), (iii) and (iv), and the "end" thereof, for the purposes of categories (iii) and (iv), shall mean the exact time at which trading shall end on the New York Stock Exchange. If the Current Market Price cannot be determined under any of the foregoing methods, Current Market Price shall mean the fair value per share of Common Stock on such date determined by the Board of Directors in good faith, irrespective of any accounting treatment, upon a review of relevant factors. (c) STATEMENT REGARDING ADJUSTMENTS. Whenever the Exercise Price shall be adjusted as provided in Section 3.1(a), and upon each change in the number of shares ~f the Common Stock issuable upon exercise of this Warrant, the Company shall forthwith file, at the office of any transfer agent for this Warrant and at the principal office of the Company, a statement showing in detail the facts requiring such adjustment and the Exercise Price and new number of shares issuable that shall be in effect after such adjustment, and the Company shall also cause a copy of such statement to be given to the holder of this Warrant. Each such statement shall be signed by the Company's chief financial or accounting officer. Where appropriate, such copy may be given in advance and may be included as part of a notice required to be mailed under the provisions of Section 3.1(d). (d) NOTICE TO HOLDERS. In the event the Company shall propose to take any action of the type described in clause (i) or (ii) (but only if the action of the type described in such clause would result in an adjustment in the Exercise Price), (iv), (v) or (vi) of Section 3.1(a), the Company shall give notice to the holder of this Warrant, in the manner set forth in Section 6.6, which notice shall specify the record date, if any, with respect to any such action and the approximate date on which such action is to take place. Such notice shall also set forth such facts with respect thereto as shall be reasonably necessary to indicate the effect of such action (to the extent such effect may be known at the date of such notice) on the Exercise Price and the number, kind or class of shares or other securities or property which shall be deliverable upon exercise of this Warrant. In the case of any action which would require the fixing of a record date, such notice shall be given at least 10 days prior to the date so fixed, and in case of all other action, such notice shall be given at least 15 days prior to the taking of such proposed action. Failure to give such notice, or any defect therein, shall not affect the legality or validity of any such action. (e) TREASURV STOCK. For the purposes of this Section 3.1, the sale or other disposition of any Common Stock of the Company theretofore held in its treasury shall be deemed to be an issuance thereof. 11 3.2 COSTS. The Company shall pay all documentary, stamp, transfer or other transactional taxes attributable to the issuance or delivery of shares of Common Stock of the Company upon exercise of this Warrant; provided, HOWEVER, that the Company shall not be required to pay any taxes which may be payable in respect of any transfer involved in the issuance or delivery of any certificate for such shares in a name other than that of the holder of this Warrant in respect of which such shares are being issued. 3.3 RESERVATIONS OF SHARES. The Company shall reserve at all times so long as this Warrant remains outstanding, free from preemptive rights, out of its treasury Common Stock or its authorized but unissued shares of Common Stock, or both, solely for the purpose of effecting the exercise of this Warrant, sufficient shares of Common Stock to provide for the exercise hereof. 3.4 VALID ISSUANCE. All shares of Common Stock which may be issued upon exercise of this Warrant will upon issuance by the Company be duly and validly issued, fully paid and nonassessable and free from all taxes, liens and charges with respect to the issuance thereof attributable to any act or omission by the Company, and the Company shall take no action which will cause a contrary result (including without limitation, any action which would cause the Exercise Price to be less than the par value, if any, of the Common Stock). ~ ARTICLE IV TERMS DEFINED As used in this Warrant, unless the context otherwise requires, the following terms have the respective meanings set forth below or in the Section indicated: BOARD OF DIRECTORS -- the Board of Directors of the Company. COMMON STOCK -- the Company's authorized Common Stock, par value $.05 per share. COMPANY -- Watermarc Food Management Co., a Texas corporation, and any other corporation assuming or required to assume the obligations undertaken in connection with this Warrant. CURRENT MARKET PRICE -- Section 3.1(b). EXCLUDED STOCK -- Section 3. l(a)(iii). OUTSTANDING -- when used with reference to Common Stock at any date, all issued shares of Common Stock (including, but without duplication, shares deemed issued pursuant to Article III) at such date, except shares then held in the treasury of the Company. NASDAQ -- Section 3(b). 12 PERSON-- any individual, corporation, partnership, trust, organization, association or other entity or individual. SECURITIES ACT -- the Securities Act of 1933 and the rules and regulations thereunder, all as the same shall be in effect at the time. TRADING DAY -- Section 3. l~). WARRANT - this Warrant and any successor or replacement Warrant delivered in accordance with Section 2.3 or 6.8. WARRANT OFFICE -- Section 2.1 WARRANT SHARES -- shall mean the shares of Common Stock purchased or purchasable by the registered holder of this Warrant or the permitted assignees of such holder upon exercise thereof pursuant to Article I hereof. ARTICLE V COVENANT OF THE COMPANY The Company covenants and agrees that this Warrant shall be binding upon any corporation succeeding to the Company by merger, consolidation or acquisition of all or substantially all of the Company's assets. ARTICLE VI MISCELLANEOUS 6.1 ENTIRE AGREEMENT. This Warrant contains the entire agreement between the holder hereof and the Company with respect to the shares which he can purchase upon exercise hereof and the related transactions and supersedes all prior arrangements or understanding with respect thereto. 6.2 GOVERNING LAW. This Warrant shall be governed by and construed in accordance with the laws of the State of Texas. 6.3 WAIVER AND AMENDMENT. Any term or provision of this Warrant may be waived at any time by the party which is entitled to the benefits thereof and any term or provision of this Warrant may be amended or supplemented at any time by agreement of the holder hereof and the Company, except that any waiver of any term or condition, or any amendment or supplementation, of this Warrant must be in writing. A waiver of any breach or failure to enforce any of the terms or conditions of this Warrant shall not in any way effect, limit or waive a party's rights 13 hereunder at any time to enforce strict compliance thereafter with every term or condition of this Warrant. 6.4 ILLEGALITY. In the event that any one or more of the provisions contained in this Warrant shall be determined to be invalid, illegal or unenforceable in any respect for any reason, the validity, legality and enforceability of any such provision in any other respect and the remaining provisions of this Warrant shall not, at the election of the party for whom the benefit of the provision exists, be in any way impaired. 6.5 COPY OF WARRANT. A copy of this Warrant shall be filed among the records of the Company. 6.6 NOTICE. Any notice or other document required or permitted to be given or delivered to the holder hereof shall be delivered at, or sent by certified or registered mail to such holder at, the last address shown on the books of the Company maintained at the Warrant Office for the registration of this Warrant or at any more recent address of which the holder hereof shall have notified the Company in writing. Any notice or other document required or permitted to be given or delivered to the Company, other than such notice or documents required to be delivered to the Warrant Office, shall be delivered at, or sent by certified or registered mail to, the office of the Company at 11111 Wilcrest Green, Suite 350, Houston, Texas 77042 or such other address within the continental United States of America as shall have been furnished by the Company to the holders of this Warrant. 6.7 LIMITATION OF LIABILITY: NOT STOCKHOLDERS. No provision of this Warrant shall be construed as conferring upon the holder hereof the right to vote, consent, receive dividends or receive notices (other than as herein expressly provided) in respect of meetings of stockholders for the election of directors of the Company or any other right whatsoever as a stockholder of the Company. No provision hereof, in the absence of affirmative action by the holder hereof to purchase shares of Common Stock, and no mere enumeration herein of the rights or privileges of the holder hereof, shall give rise to any liability of such holder for the purchase price of any shares of Common Stock or as a stockholder of the Company, whether such liability is asserted by the Company or by creditors of the Company. 6.8 EXCHANGE. LOSS DESTRUCTION. ETC. OF WARRANT. Upon receipt of evidence satisfactory to the Company of the loss, theft, mutilation or destruction of this Warrant, and in the case of any such loss, theft or destruction upon delivery of a bond of indemnity in such form and amount as shall be reasonably satisfactory to the Company, or in the event of such mutilation upon surrender and cancellation of this Warrant, the Company will make and deliver a new Warrant of like tenor, in lieu of such lost, stolen, destroyed or mutilated Warrant. Any Warrant issued under the provisions of this Section 6.8 in lieu of any Warrant alleged to be lost, destroyed or stolen, or in lieu of any mutilated Warrant, shall constitute an original contractual obligation on the part of the Company. This Warrant shall be promptly canceled by the Company upon the surrender hereof in connection with any exchange or replacement. The Company shall pay all 14 taxes (other than securities transfer taxes) and all other expenses and charges payable in connection with the preparation, execution and delivery of Warrants pursuant to this Section 6.8. 6.9 HEADINGS. The Article and Section and other headings herein are for convenience only and are not a part of this Warrant and shall not affect the interpretation thereof. IN WITNESS WHEREOF, the Company has caused this Warrant to be signed in its name. Dated: August __, 1998 WATERMARC FOOD MANAGEMENT CO. By:________________________ Ghulam M. Bombaywala, Chairman of the Board and Chief Executive Officer 15 SUBSCRIPTION NOTICE The undersigned, the holder of the foregoing Warrant, hereby elects to exercise purchase rights represented by said Warrant for, and to purchase thereunder _________________________ _____ shares of the Common Stock covered by said Warrant and (Choose one option) [ ] (i) herewith makes payment in full therefor pursuant to Section 1.1 of such Warrant, or [ ] (ii) elects the Conversion Right as set forth in Section 1.3 of the Warrant and requests (a) that certificates for such shares (and any securities or other property issuable upon such exercise) be issued in the name of, and delivered to, ___________________________, ____________________, ________________________ and (b) if such shares shall not include all of the shares issuable as provided in said Warrant, that a new Warrant of like tenor and date for the balance of the shares issuable thereunder be delivered to the undersigned. --------------------------------- Dated:__________ , 19__ ASSIGNMENT For value received, __________________________________________________, hereby sells, assigns and transfers unto ___________________________________ the within Warrant, together with all right, title and interest therein and does hereby irrevocably constitute and appoint ____________________________ attorney, to transfer said Warrant on the books of the Company, with full power of substitution. --------------------------------- Dated:______________, 19__ 16 EX-4.27 4 EXHIBIT 4.27 THIRD AMENDMENT TO FINANCIAL ADVISORY AGREEMENT Third Amendment to Financial Advisory Agreement dated as of July 10, 1998 (the "Amendment"), among WATERMARC FOOD MANAGEMENT CO., a Texas corporation formerly known as Billy Blues Food Corporation (the "Company"), and SANDERS MORRIS MUNDY INC., a Texas corporation (the "Advisor"); WITNESSETH: Whereas, the Company and the Advisor are parties to a Financial Advisory Agreement dated as of January 1, 1995, as amended by the First Amendment to Financial Advisory Agreement dated as of March 31, 1996, and the Second Amendment to Financial Advisory Agreement dated as of July 31, 1997 (as so amended, the "Advisory Agreement") pursuant to which the Company retained the Advisor to provide certain advice and consulting services to the Company; and Whereas, pursuant to the Advisory Agreement, the Company issued the Advisor the Advisor's Warrant Whereas, the Company 'and the Advisor wish amend the Advisor's Warrant in certain respects; Now, therefore, in consideration of the foregoing premises, the following mutual agreement, and other good and valuable consideration the receipt and sufficiency of which is hereby acknowledged, the Company and the Advisor agree to amend the Advisor's Warrant as follows: 1. DEFINITIONS. Capitalized terms used herein shall have the meaning assigned to them in the Advisory Agreement unless otherwise defined herein or the context otherwise requires. 2. AMENDMENTS TO THE ADVISOR'S WARRANTS. Each of the Advisor's Warrants is hereby amended by deleting the number "$0.25" in the first paragraph and substituting in place thereof the number "$0.09." 4. REPRESENTATIONS AND WARRANTIES. The Company represents and warrants as follows: (a)The execution, delivery and performance of this Amendment and the transactions contemplated hereby and thereby (i) are within the corporate authority of the Company, (ii) have been authorized by all necessary corporate proceedings on the part of the Company, (iii) do not conflict with or result in any material breach or contravention of any provision of law, statute, rule, or regulation to which the Company is subject or any judgment, order, writ, injunction, license, or permit applicable to the Company, and (iv) do not conflict with any provision of the corporate charter or bylaws of the Company or any agreement or other instrument binding upon the Company. (b) The execution, delivery, and performance of this will result in valid and legally binding obligations of the Company enforceable against it in accordance with the respective terms and provisions hereof and thereof. (c) The execution, delivery, and performance of this Amendment and the consummation by the Company of the transactions contemplated hereby and thereby do not require any approval or consent of, or filing with, any governmental agency or authority. 5. RATIFICATION. Except as expressly amended hereby, the Advisor's Warrants are hereby ratified and confirmed in all respects and shall continue in full force and effect. This Amendment and the Advisory Agreement shall hereafter be read and construed together as a single document, and all references to the Advisory Agreement or any agreement or instrument related to the Advisory Agreement shall hereafter refer to the Advisory Agreement a~amended by this Amendment. 6. COUNTERPARTS. This Amendment may be executed in any number of counterparts and by different parties hereto on separate counterparts, each of which when so executed and delivered shall be an original, but all of which counterparts taken together shall be deemed to constitute one and the same instrument. 7. GOVERNING LAW. This Amendment shall be governed by and construed in accordance with the laws of the State of Texas (without reference to conflict of laws). In Witness Whereof, the Company and the Advisor have executed this Amendment as of the date first above written. WATERMARC FOOD MA AGEMENT CO. SANDERS MORRIS MUNDY INC. By:____________________________ Name:__________________________ Title:___________________________ 2 EX-10.48 5 EXHIBIT 10.48 AGREEMENT THIS AGREEMENT ("Agreement") is entered into as of May 20, 1998, by and between Watermarc Food Management Co., a Texas corporation (the "Company"), and Ghulam M. Bombaywala ("Bombaywala"). WHEREAS, Bombaywala has personally guaranteed approximately $12.9 million in debt and lease obligations of the Company (collectively referred to as "Guarantees") and pledged many of his personal assets to partially collateralize certain of the Guarantees; WHEREAS, the Guarantees are important to the Company's financial survival; WHEREAS, Bombaywala has waived and/or deferred the payment of all compensation payable to him to date as an executive officer of the Company; NOW, THEREFORE, FOR VALUABLE CONSIDERATION, the receipt and sufficiency of which is hereby acknowledged, the parties agree as follows: 1. Bombaywala agrees to personally guarantee up to $5 million of future indebtedness of the Company whether in leases, notes, accounts payable or contractual obligations (or renewals of the foregoing), or any other obligations of the Company. However, in the event of a "Change of Control" as hereafter defined, Bombaywala shall be released from any remaining obligation to personally guarantee up to $5 million of future indebtedness of the Company. "Change of Control" is defined as a decrease in Bombaywala's beneficial ownership interest in the Company to less than 51% of the outstanding shares of the Common Stock of Company. 2. The Board of Directors of the Company has approved the issuance to Bombaywala of Warrants to purchase 10,000,000 shares of the Company's Common Stock (pre-reverse stock split amount) at the exercise price of $.14 per share (pre-reverse stock split exercise price), which was the market price of the stock when the Board of Directors first considered the proposal. 3. The issuance of the Warrants will be submitted to the independent shareholders for ratification at a special meeting or the next annual meeting, however the Board of Directors shall retain the right to proceed with the issuance of the Warrants even if not ratified by a majority of the independent shareholders. 4. The Warrants shall have a four year term from the date of issuance and shall be set forth in a Warrant Agreement in the form attached hereto as EXHIBIT A. 5. The underlying shares ("Warrant Shares") shall be subject to a Lock-Up Agreement in the form attached hereto as EXHIBIT B prohibiting resale thereof for a period of two (2) years from the date of the issuance of the respective Warrants, which shall expire sooner if a total of $5 million in debt or equity financing is raised by the Company within the two year period. 6. Bombaywala shall have customary demand and piggyback registration rights subject to the terms of the Lock-Up Agreement. 1 7. If a reverse stock split is approved by the Company's shareholders, the number of Warrants and Warrant Shares shall be proportionately decreased and the exercise price for each Warrant or Warrant Share shall be proportionately increased. 8. SEVERABILITY. In the event that any one or more of the provisions of this Agreement shall be held invalid, illegal or unenforceable in any respect, such invalidity, illegality or unenforceability shall not affect any other provision contained herein. 9. AMENDMENT; MODIFICATION. This Agreement constitutes the entire Agreement between the Company and Bombaywala with respect to the matters set forth herein, and no amendment or modification hereof shall be valid unless made by supplemental written agreement, executed and approved by the Company and Bombaywala. 10. GOVERNING LAW. This Agreement shall be governed by and construed in accordance with the laws of the State of Texas without regard to applicable choice of law principles. IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first set forth above. "COMPANY": WATERMARC FOOD MANAGEMENT CO. a Texas corporation ADDRESS: 11111 Wilcrest Green, Suite 350 Houston, Texas 77042 By: /s/ CAROLYN RICHARDS Carolyn Richards, Secretary GHULAM M. BOMBAYWALA ADDRESS: 11 Greenlaw Street Sugar Land, Texas 77479 /s/ GHULAM M. BOMBAYWALA 2 EXHIBIT A WARRANT AGREEMENT AND CERTIFICATE THIS WARRANT AND THE SECURITIES ISSUABLE UPON EXERCISE HEREOF HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED, AND ARE SUBJECT TO CERTAIN RESTRICTIONS, CONTAINED HEREIN, WITH RESPECT TO THEIR TRANSFER. WARRANT TO PURCHASE SHARES OF COMMON STOCK OF WATERMARC FOOD MANAGEMENT CO. __________ Warrants This Warrant Certificate certifies that GHULAM M. BOMBAYWALA (together with his successors and assigns as herein provided, the "Holder") is the owner of __________ Warrants (subject to adjustment as provided herein), each of which represents the right to subscribe for and purchase from WATERMARC FOOD MANAGEMENT CO., a Texas corporation (the "Company"), one share of the common stock, par value $0.05 per share, of the Company (the common stock, including any stock into which it may be changed, reclassified or converted, is herein referred to as the "Common Stock") at the purchase price (the "Exercise Price") of $_______ per share. The Warrants represented by this Warrant Certificate are subject to the following provisions, terms and conditions: ARTICLE I EXERCISE OF WARRANTS 1.1 METHOD OF EXERCISE. The Warrants may only be exercised by the Holder in whole or in part by surrender of this Warrant Certificate at the office of the Company (or such other office or agency of the Company as may be designated by notice in writing to the Holder at the address of such Holder appearing on the books of the Company) with the appropriate form attached hereto duly completed, at any time within the period beginning on the date hereof and expiring at 5:00 p.m. Houston, Texas time, on _________, 2002 (the "Exercise Period") and by payment to the Company by certified check or bank draft of the Exercise Price for such shares. The Company agrees that the shares of Common Stock so purchased shall be and are deemed to be issued to the Holder as the record owner of such shares of Common Stock as of the close of business on the date on which the Warrant Certificate shall have been surrendered and payment made for such shares of Common Stock. Certificates representing the shares of Common Stock so purchased shall be delivered to the Holder promptly. 1 1.2 FRACTIONAL SHARES. Instead of any fractional shares of Common Stock which would otherwise be issuable upon exercise of this Warrant, no shares will be issued for less than one-half a share and the Company shall issue a certificate for the next higher number of whole shares of Common Stock for any fraction of a share which is one-half or greater. ARTICLE II. WARRANT OFFICE: TRANSFER 2.1 WARRANT OFFICE. The Company shall maintain an office for certain purposes specified herein (the "Warrant Office"), which office shall initially be the Company's office at 11111 Wilcrest Green, Suite 350, Houston, Texas 77042 and may subsequently be such other office of the Company or of any transfer agent of the Common Stock in the continental United States as to which written notice has previously been given to the holder of this Warrant. The Company shall maintain, at the Warrant Office, a register for the Warrant, in which the Company shall record the name and address of the person in whose name the Warrants have been issued, as well as the name and address of each permitted assignee of the rights of the registered owner hereof. 2.2 OWNERSHIP OF WARRANT. The Company may deem and treat the person in whose name this Warrant is registered as the holder and owner hereof (notwithstanding any notations of ownership or writing hereon made by anyone other than the Company) for all purposes and shall not be affected by any notice to the contrary, until presentation of this Warrant for registration of transfer as provided in this Article II. 2.3 RESTRICTIONS ON EXERCISE AND TRANSFER OF WARRANTS. The Company agrees to maintain at the Warrant Office books for the registration and transfer of this Warrant. Subject to the restrictions on transfer of Warrants in this Section 2.3, the Company, from time to time, shall register the transfer of this Warrant in such books upon surrender of this Warrant at the Warrant Office properly endorsed or accompanied by appropriate instruments of transfer and written instructions for transfer satisfactory to the Company. Upon any such transfer, a new Warrant shall be issued to the transferee and the surrendered Warrant shall be canceled by the Company. The Company shall pay all taxes, (other than securities transfer taxes) and all other expenses and charges payable in connection with the transfer of Warrants pursuant to this Section 2.3. a. RESTRICTIONS IN GENERAL. Notwithstanding any provisions contained in this Warrant to the contrary, THIS WARRANT SHALL NOT BE EXERCISABLE OR TRANSFERABLE EXCEPT TO (I) ENTITIES OR PERSONS UNDER COMMON CONTROL WITH, OR WHO ARE CONTROLLED BY, HOLDER OR PERSONS WHO CONTROL HOLDER, OR (II) WITH THE PRIOR WRITTEN CONSENT OF THE COMPANY, WHICH MAY BE WITHHELD IN THE COMPANY'S SOLE DISCRETION. THE RELATED SHARES OF COMMON STOCK ISSUABLE UPON EXERCISE OF THIS WARRANT (THE "WARRANT SHARES") SHALL NOT BE TRANSFERABLE EXCEPT UPON THE CONDITIONS SPECIFIED IN THE LOCK-UP AGREEMENT attached hereto as Exhibit 1 and incorporated herein by reference, and as specified in this Article 2.3, which conditions are intended, among other things, to insure compliance with the provisions of the Securities Act of 1933 as amended (the "Securities Act") in respect of the exercise or transfer of this Warrant or transfer of such Warrant Shares. The registered holder of this Warrant agrees that it will neither (i) transfer this Warrant prior to delivery to the Company of the opinion of counsel referred to in, and to the effect described in, Article 2.3(b), (ii) exercise this Warrant prior to delivery to the Company of the opinion of counsel referred to in, and to the effect described in, Article 2.3(b), or until registration of the related Warrant Shares under the Securities Act and any applicable state securities or blue sky laws have become effective, nor (iii) transfer such Warrant Shares prior to delivery to the Company of the opinion of counsel referred to in, and to the effect described in, Article 2.3.(b), or until registration of such Warrant Shares under the Securities Act and any applicable state securities or blue sky laws have become effective. 2 (b) STATEMENT OF INTENTION TO EXERCISE; OPINION OF COUNSEL. The registered holder of this Warrant, by its acceptance hereof, agrees that prior to any exercise or transfer of this Warrant or any transfer of the related Warrant Shares, said holder will deliver to the Company a statement setting forth either said holder's intention with respect to the retention or disposition of any Warrant Shares, or the intention of said holder's prospective transferee with respect to its retention or disposition of this Warrant or of said Warrant Shares (whichever is involved in such transfer), in either such case, together with a signed copy of the opinion of said holder's counsel, or such other counsel as shall be acceptable to the Company, as to the necessity or non-necessity for registration under the Securities Act and any applicable state securities or blue sky laws in connection with such exercise or such transfer. 2.4 EXPENSES OF DELIVERY OF WARRANTS. The Company shall pay all expenses, taxes (other than transfer taxes) and other charges payable in connection with the preparation, issuance and delivery of Warrants and related Warrant Shares hereunder. ARTICLE III WARRANT ADJUSTMENT PROVISIONS 3.1 ADJUSTMENT OF WARRANT SHARES. The Number of Warrant Shares purchasable upon exercise of this Warrant may be adjusted from time to time as set forth below. a. If the Company at any time pays to the holders of its Common Stock a dividend in Common Stock, the number of Warrant Shares issuable upon the exercise of this Warrant shall be proportionally increased, effective at the close of business on the record date for determination of the holders of the Common Stock entitled to the dividend. b. If the Company at any time subdivides or combines in a larger or smaller number of shares its outstanding shares of Common Stock, then the number of shares of Common Stock issuable upon the exercise of this Warrant shall be proportionally increased in the case of a subdivision and decreased in the case of combination, effective in either case at the close of business on the date that the subdivision or combination becomes effective. c. In case of any reclassification of the Common Stock, any consolidation of the Company with, or merger of the Company into, any other entity, any merger of any entity into the Company (other than a merger which does not result in any reclassification, conversion, exchange or cancellation of outstanding shares of Common Stock), any sales or transfer of all or substantially all of the assets of the Company, or any compulsory share exchange whereby the Common Stock is converted into other securities, cash or other property, then provisions shall be made such that the holders of this Warrant shall have the right thereafter, during the period that this Warrant shall be exercisable, to exercise this Warrant and receive the kind and amount of securities, cash and other property receivable upon such reclassification, consolidation, merger, sale, transfer or share exchange by holders of the Company's Common Stock. In addition to the adjustments provided for above to the number of Warrant Shares purchasable hereunder upon exercise of the Warrant in certain circumstances, the Company may, in its sole discretion, provide for further adjustments to the number of Warrant Shares purchasable hereunder and/or the Exercise Price thereof based on additional or other facts and circumstances where the Company determines that such an adjustment would be fair and equitable to the holders of the Warrants. 3 3.2 COSTS. The Company shall pay all documentary, stamp, transfer or other transactional taxes attributable to the issuance or delivery of shares of Common Stock of the Company upon exercise of this Warrant; PROVIDED, HOWEVER, that the Company shall not be required to pay any taxes which may be payable in respect of any transfer involved in the issuance or delivery of any certificate for such shares in a name other than that of the holder of this Warrant in respect of which such shares are being issued. 3.3 RESERVATIONS OF SHARES. The Company shall reserve at all times so long as this Warrant remains outstanding, free from preemptive rights, out of its treasury Common Stock or its authorized but unissued shares of Common Stock, or both, solely for the purpose of effecting the exercise of this Warrant, sufficient shares of Common Stock to provide for the exercise hereof. 3.4 VALID ISSUANCE. All shares of Common Stock which may be issued upon exercise of this Warrant will upon issuance by the Company be duly and validly issued, fully paid and nonassessable and free from all taxes, liens and charges with respect to the issuance thereof attributable to any act or omission by the Company, and the Company shall take no action which will cause a contrary result (including without limitation, any action which would cause the Exercise Price to be less than the par value, if any, of the Common Stock). 3.5 APPROVALS. If any shares of Common Stock to be reserved for the purpose of exercise of this Warrant require registration with or approval of any governmental authority under any Federal or state law before such shares may be validly issued or delivered upon exercise, then the Company and the holders of this Warrant will in good faith and as expeditiously as possible endeavor to secure such registration or approval, as the case may be. ARTICLE IV RESTRICTIVE LEGENDS 4.1 Each Warrant shall (unless otherwise permitted by the provisions hereof) be stamped or otherwise imprinted with a legend in substantially the following form: "This Warrant has not been registered under the Securities Act of 1933, as amended, and is transferable only upon the conditions specified in the Warrant Agreement referred to herein." 4 4.2 Each certificate for Common Stock issued upon exercise of a Warrant and each certificate for Common Stock issued to a subsequent transferee shall (unless otherwise permitted by the provisions hereof) be stamped or otherwise imprinted with legends in substantially the following forms: "The shares represented by this certificate have not been registered under the Securities Act of 1933 or any state securities act. The shares have been acquired for investment and may not be sold, transferred, pledged or hypothecated unless (i) they shall have been registered under the Securities Act of 1933 and any applicable state securities act, or (ii) the corporation shall have been furnished with an opinion of counsel, satisfactory to counsel for the corporation, that registration is not required under any such acts." "The shares represented by this certificate are subject to the provisions of a Lock-up Agreement dated as of ___________, 1998 ("Lock-up Agreement"), which restrict the transfer of such shares, and the rights of the holder of the shares represented by this certificate are subject to all the terms and provisions of the Lock-up Agreement, by which such holder, by acceptance of this certificate, agrees to be bound. A counterpart of the Lock-up Agreement has been deposited with Watermarc Food Management Co. at its principal office and will be provided to any holder or transferee upon request." ARTICLE V REGISTRATION RIGHTS 5.1 REQUIRED REGISTRATION. The Company shall use its best efforts to effect the registration under the Securities Act of the shares of Common Stock issued pursuant to this Warrant Certificate upon exercise of the Warrants and evidenced by a certificate bearing the restrictive legends set forth in Article IV hereof (the "Restricted Stock") on a form appropriate for the registration of the Restricted Stock in order to permit the Holder to dispose of the Restricted Stock in accordance with its intended method of disposition and the terms of the Lock-up Agreement. 5.2 INCIDENTAL REGISTRATION. Notwithstanding the provisions of Article 5.1 of this Agreement, if the Company at any time during the Exercise Period proposes to register any of its Common Stock under the Securities Act (on a form appropriate for the registration of the Restricted Stock for public offering by the holders thereof other than a registration on Form S-8, or any successor or similar forms or a shelf registration under Rule 415 for the sole purpose of registering shares to be issued in connection with the acquisition of stock or assets of another person) and there is then not an effective registration statement covering the shares of Common Stock to be issued upon exercise of the Warrants, it will each such time give written notice to the holder of this Warrant and any holders of Restricted Stock (the holders of Restricted Stock are sometimes referred to herein as the "Eligible Holders") of its intention so to do and, upon written request from Eligible Holders given within 30 days after receipt of any such notice (which request shall state the intended method of disposition of such securities by such Eligible Holder), the Company will use its best efforts to cause all or any (but not less than 1,000 shares if less than all) Restricted Stock held by such Eligible Holder or which such Eligible Holder is then entitled to acquire pursuant to a Warrant to be registered under the Securities Act, all to the extent requisite to permit the sale or other disposition (in accordance with the intended methods thereof, as aforesaid by such Eligible Holder); provided, however, that the Company may at any time withdraw or cease proceeding with any such registration if it shall at the same time withdraw or cease proceeding with the registration of such other securities originally proposed to be registered. If an offering pursuant to this Article is to be made through underwriters, the managing underwriter may, if in its reasonable opinion marketing factors so require, limit (pro rata according to the market value of securities proposed to be registered by each) the number of (or eliminate entirely from the offering all of the) securities which eligible Holders may register pursuant to this Article. 5 5.3 EXPENSES: CONDITIONS PRECEDENT. Except as provided below, all expenses incurred by the Company in connection with action taken by the Company to comply with this Article V, including, without limitation, all registration and filing fees, printing expenses, accounting fees, fees and disbursements of counsel and other experts, premiums for liability insurance obtained in connection with a registration statement filed to effect such compliance, shall be paid by the Company; PROVIDED, HOWEVER, that all such expenses in connection with any amendment or supplement to any registration statement filed by the Company hereunder or the related prospectus which is required to be filed more than nine months after the effective date of such registration statement because any seller or sellers of securities of the Company covered thereby or any underwriter of such securities has not effected the disposition of the securities required to be registered shall be paid by such seller or sellers pro rata, in the case of two or more such sellers, in accordance with the respective market values of such securities. The Company shall not be obligated in any way in connection with any registration pursuant to this Article V for any underwriting discounts or commissions payable by any Eligible Holder to any underwriter of securities to be sold by such Eligible Holder. It shall be a condition precedent to the obligation of the Company to take any action under Article 5.2 that the Company shall receive an undertaking satisfactory to it from each Eligible Holder of securities registered or to be registered as herein provided to pay all expenses required to be borne by such Eligible Holder and to furnish or cause to be furnished to the Company specifically for use in the preparation of the registration statement and prospectus written information concerning the securities held by such Eligible Holder and also concerning any underwriter of such securities and the intended method of disposition thereof as the Company shall reasonably request and as may be required in connection with the action to be taken by the Company hereunder. ARTICLE VI COVENANT OF THE COMPANY The Company covenants and agrees that this Warrant shall be binding upon any corporation succeeding to the Company by merger, consolidation or acquisition of all or substantially all of the Company's assets. ARTICLE VII MISCELLANEOUS 7.1 ENTIRE AGREEMENT. This Warrant, contains and describes the entire agreement between the holder hereof and the Company with respect to the shares which can be purchased upon exercise hereof and supersedes all prior arrangements or understanding with respect thereto. 6 7.2 GOVERNING LAW. This Warrant shall be governed by and construed in accordance with the laws of the State of Texas without regard to applicable choice of law principles. 7.3 WAIVER AND AMENDMENT. Any term or provision of this Warrant may be waived at any time by the party which is entitled to the benefits thereof and any term or provision of this Warrant may be amended or supplemented at any time by agreement of the holder hereof and the Company, except that any waiver of any term or condition, or any amendment or supplementation, of this Warrant must be in writing. A waiver of any breach or failure to enforce any of the terms or conditions of this Warrant shall not in any way affect, limit or waive a party's rights hereunder at any time to enforce strict compliance thereafter with every term or condition of this Warrant. 7.4 ILLEGALITY. In the event that any one or more of the provisions contained in this Warrant shall be determined to be invalid, illegal or unenforceable in any respect for any reason, the validity, legality and enforceability of any such provision in any other respect and the remaining provisions of this Warrant shall not, at the election of the party for whom the benefit of the provisions exists, be in any way impaired. 7.5 COPY OF WARRANT. A copy of this Warrant shall be filed among the records of the Company. 7.6 NOTICE. Any notice or other document required or permitted to be given or delivered to the holder hereof shall be delivered at, or sent by certified or registered mail to such holder at, the last address shown on the books of the Company maintained at the Warrant Office for the registration of this Warrant or at any more recent address of which the holder hereof shall have notified the Company in writing. Any notice or other document required or permitted to be given or delivered to the Company, other than such notice or documents required to be delivered to the Warrant Office, shall be delivered at, or sent by certified or registered mail to, the office of the Company at 11111 Wilcrest Green, Suite 350, Houston, Texas 77042 or such other address within the continental United States of America as shall have been furnished by the Company to the holder of this Warrant. 7.7 LIMITATION OF LIABILITY; NOT STOCKHOLDERS. No provision of this Warrant shall be construed as conferring upon the holder hereof the right to vote, consent, receive dividends or receive notices (other than as herein expressly provided) in respect of meetings of stockholders for the election of directors of the Company or any other right whatsoever as a stockholder of the Company. No provision hereof, in the absence of affirmative action by the holder hereof to purchase shares of Common Stock, and no mere enumeration herein of the rights or privileges of the holder hereof, shall give rise to any liability of such holder for the purchase price of any shares of Common Stock or as a stockholder of the Company, whether such liability is asserted by the Company or by creditors of the Company. 7.8 EXCHANGE, LOSS, DESTRUCTION, ETC. OF WARRANT. Upon receipt of evidence satisfactory to the Company of the loss, theft, mutilation or destruction of this Warrant, and in the case of any such loss, theft or destruction upon delivery of a bond of indemnity in such form and amount as shall be reasonably satisfactory to the Company, or in the event of such mutilation upon surrender and cancellation of this Warrant, the Company will make and deliver a new Warrant of like tenor, in lieu of such lost, stolen, destroyed or mutilated Warrant. Any Warrant issued under the provisions of this Article 7.8 in lieu of any Warrant alleged to be lost, destroyed or stolen, or in lieu of any mutilated Warrant, shall constitute an original contractual obligation on the part of the Company. This Warrant shall be promptly canceled by the Company upon the surrender hereof in connection with any exchange or replacement. 7 7.9 HEADINGS. The Article and other headings herein are for convenience only and are not a part of this Warrant and shall not affect the interpretation thereof. IN WITNESS WHEREOF, the Company has caused this Warrant to be signed in its name. Dated: ___________________, 1998 WATERMARC FOOD MANAGEMENT CO. By: ________________________________ Carolyn Richards Secretary 8 [FORM OF ELECTION TO PURCHASE] (To be executed upon exercise of Warrant) The undersigned hereby irrevocably elects to exercise the right, represented by this Warrant Certificate to purchase _______ shares of Common Stock and herewith, in accordance with the terms hereof, tenders in payment for such shares a certified check or bank draft payable to the order of Watermarc Food Management Co. in the amount of $_________________. The undersigned requests that a certificate for such shares be issued in the name of_______________________________________ and that such certificate be delivered to__________________________________________ and if such shares shall not include all of the shares issuable as provided in said Warrant, that a new Warrant of like tenor and date for the balance of the shares issuable thereunder be delivered to the undersigned. Dated: ________________ __________________________________________________ (Signature must conform in all respects to name of holder as specified on the face of the Warrant.) ASSIGNMENT For value received, ________________________________, herevy sells, assigns and transfers unto _________________________________ the within Warrant, together with all rights, title and interest therein and does hereby irrevocable constitute and appoint __________________________________________ attorney, to transfer said Warrant on the books of the Company, with full power of substitution. ____________________________ Dated: _________________, 19___ 9 EXHIBIT B LOCK-UP AGREEMENT This agreement is entered into on this ____ day of _____________, 1998 by and between Ghulam M. Bombaywala ("Bombaywala") and Watermarc Food Management Co. ("the Company"). WHEREAS, on May 20, 1998 Bombaywala and the Company entered into an Agreement whereby the Company agreed to issue to Bombaywala warrants to purchase 10,000,000 shares of the Company's Common Stock (pre-reverse stock split amount) (the "Warrant Shares") in consideration for Bombaywala's prior personal guarantees of approximately $12.9 million in debt and lease obligations of the Company and his agreement to personally guarantee up to $5 million of future indebtedness of the Company whether in leases, notes, accounts payable or contractual obligations (or renewals of the foregoing), or any other obligations of the Company. It is hereby agreed to by the parties that: 1. The Warrant Shares shall not be resold, disposed of, or transferred, directly or indirectly, by Bombaywala for a period of two (2) years from the date of the issuance of the Warrants. 2. All certificates representing the Warrant Shares shall be imprinted on the face or back thereof with the following statement: "The shares represented by this certificate are subject to the provisions of a Lock-up Agreement dated as of ________________, 1998 ("Lock-up Agreement"), which restrict the transfer of such shares, and the rights of the holder of the shares represented by this certificate are subject to all the terms and provisions of the Lock-up Agreement, by which such holder, by acceptance of this certificate, agrees to be bound. A counterpart of the Lock-up Agreement has been deposited with Watermarc Food Management Co. at its principal office and will be provided to any holder or transferee upon request." 3. This Lock-up Agreement shall terminate upon the earliest of the following occurrences: (i) the expiration of two (2) years from the date of the issuance of the Warrants; or (ii) if a total of five million dollars ($5,000,000) in debt or equity financing is raised by the Company within the two year period. 1 4. This Lock-up Agreement shall be governed by and construed in accordance with the laws of the State of Texas without regard to applicable choice of law principles. IN WITNESS WHEREOF, the parties hereto have executed this Lock-up Agreement as of the date first set forth above. "COMPANY" WATERMARC FOOD MANAGEMENT CO., a Texas Corporation ADDRESS: 11111 Wilcrest Green, Suite 350 Houston, Texas 77042 By: ______________________________ Carolyn Richards, Secretary GHULAM M. BOMBAYWALA ADDRESS: 11 Greenlaw Street Sugar Land, Texas 77479 __________________________________ 2 EX-10.49 6 EXHIBIT 10.49 PROFESSIONAL SERVICES AGREEMENT This Agreement is entered into this 2nd day of April, 1998, by and between WATERMARC FOOD MANAGEMENT CO., a Texas corporation, with offices located at 11111 Wilcrest Green, Suite 350, Houston, Texas 77042 (hereinafter called "Company"), and Darrin Straughan, with offices located at 11111 Katy Freeway, Suite 700, Houston, Texas 77079 (hereinafter called "Consultant"). WITNESSETH That for and in consideration of the mutual covenants and agreements contained herein, the receipt and sufficiency of which are hereby acknowledged, the parties agree as follows: 1. Consultant shall provide the following Professional Services in accordance with the terms and conditions of this Agreement: Operational consulting services to Company and its subsidiaries. 2. As compensation for the above-referenced services, Company shall issue to Consultant stock options to purchase One Hundred Thousand (100,000) shares of the Company's Common Stock at an exercise price of $.14 per share vesting over a period of three (3) years in the following manner: 33,000 shares on April 2, 1999, an additional 33,000 shares on April 2, 2000, and the remainder of 34,000 on April 2, 2001. 3. Consultant warrants that it will perform the Professional Services with the highest degree of care and skill practiced by other members of Consultant's profession performing similar Professional Services. 4. Consultant agrees that any writings, specifications or other documents used in or generated by the conduct of the Professional Services are works made for hire, prepared at the request of Company for the sole use of Company and paid for by Company, and, as such, all copyrights and other proprietary rights in said writings, specifications or other documents belong exclusively to and are expressly reserved and owned by Company. Consultant shall keep such information, and all other information obtained by it or provided to it by Company regarding the Company's business, including but not limited to trade secrets and proprietary information, confidential and shall not release any such information to third parties at any time during or after the term of this Agreement. At the end of this Agreement, Consultant shall return all of Company's property which is then in its possession to Company. 5. Consultant shall do and perform the Professional Services required hereunder as an independent contractor. Nothing in this Agreement shall be construed as establishing or creating a relationship of master and servant or principal and agent between Company and Consultant. Consultant shall not have the authority to contractually bind, obligate or otherwise make any agreements for or on behalf of Company. 6. Consultant agrees to perform all Professional Services in accordance with all applicable federal, state and local laws, regulations and ordinances. 7. This Agreement is personal to Consultant and Consultant shall not assign or subcontract this Agreement or any part thereof nor assign to any other person or persons all or part of the remuneration due or which may become due to Consultant hereunder. 8. This Agreement represents the entire agreement between the parties and supersedes all prior negotiations, representations or agreements, either written or oral. This Agreement may only be amended by a written agreement signed by both parties. 9. This Agreement shall have an initial term of three (3) years from the date hereof, but may be terminated by either party at any time with or without cause upon the giving of prior written notice to the other party. If this Agreement is terminated by either party for any reason prior to the expiration of the initial term, any stock options not fully vested at the time of termination shall expired pursuant to the terms of the Stock Option Agreement executed contemporaneously herewith. 10. If any one or more provisions of this Agreement shall be found to be invalid, illegal or unenforceable in any respect, the validity, legality and enforceability of the remaining provisions shall not in any way be affected or impaired thereby. 11. This Agreement shall be construed and governed in accordance with the laws of the State of Texas. This Agreement is entered into on the date first written above. WATERMARC FOOD MANAGEMENT CO. DARRIN STRAUGHAN - ----------------------------- ----------------- Company Consultant By: /s/ GHULAM M. BOMBAYWALA /s/ DARRIN STRAUGHAN Ghulam M. Bombaywala Title: President EX-21.1 7 EXHIBIT 21.1 SUBSIDIARIES OF THE REGISTRANT Billy Blues Holding, S.A., A Swiss Corporation J II Z, Inc., a Texas Corporation LCU, Inc., a Texas Corporation Marco's Mexican Restaurants, Inc., a Texas Corporation The Original Pasta Co., a Texas Corporation EX-27.1 8
5 YEAR JUN-28-1998 JUN-28-1998 90,775 0 319,350 0 316,334 765,331 16,928,076 10,714,635 12,683,170 10,494,833 0 0 329,540 1,189,155 (7,163,117) 12,683,170 40,172,149 40,172,149 11,224,209 47,018,469 0 0 977,609 (6,964,084) 0 (6,964,084) 0 0 0 (6,964,084) (0.42) (0.42)
EX-99.3 9 EXHIBIT 99.3 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 8-K CURRENT REPORT PURSUANT TO SECTION 13 OR 15(b) OF THE SECURITIES EXCHANGE ACT OF 1934 Date of report (Date of earliest event reported) MAY 13, 1998 WATERMARC FOOD MANAGEMENT CO. (Exact Name of Registrant as Specified in Its Charter) TEXAS (State or Other Jurisdiction of Incorporation) 0-20143 74-2605598 (Commission File Number) (I.R.S. Employer Identification No.) 11111 WILCREST GREEN, SUITE 350, HOUSTON, TEXAS 77042 (Address of Principal Executive Offices) (Zip Code) (713) 783-0500 (Registrant's Telephone Number, Including Area Code) NOT APPLICABLE (Former Name or Former Address, if Changed Since Last Report) INFORMATION INCLUDED IN REPORT ON 8-K ITEM 5. OTHER EVENTS. On May 13, 1998 Watermarc Food Management Co. (the "Company") entered into a Consulting Agreement with GTI Partners, LLC ("GTI") whereby GTI will provide financial consulting services to seek sources of financing for the Company. As compensation for its services, GTI will be issued warrants to purchase the equivalent of 950,000 shares of post 10 for 1 reverse stock split Common Stock of the Company. The warrants have a term of two years at a post reverse stock split exercise price of $0.90 per share, which represents the post reverse stock split equivalent of the average market price of the Company's Common Stock during the period of negotiations with GTI. The Company has agreed to register the shares underlying the warrants. The shares are subject to a Voting Agreement and a two year Lock-Up Agreement. Warrants to purchase the equivalent of 100,000 post reverse stock split shares (i.e. 1,000,000 pre-reverse stock split shares at $0.09 per share) were issued upon the execution of the Consulting Agreement. Warrants to purchase the remaining 850,000 shares will be issued to GTI upon the successful completion of not less than $2.5 million in financing for the Company. The actual terms of any debt or equity financing will be negotiated by the Company and must be acceptable to the Company in its sole discretion. GTI is a consortium consisting of Tariq S. Khan, Managing Director of Manhattan West, Inc., Ibrahim Mohammed, Principal of Luminary Investments, and Gregg Rondinelli, Investment Advisor with Rondinelli & Associates. In connection with the proposed financing, the Company will seek shareholder approval of a 10 for 1 reverse split of its Common Stock. On May 20,1998 the Board of Directors of the Company approved the issuance of warrants to purchase 10,000,000 shares of the Company's Common Stock to Ghulam M. Bombaywala, Chairman of the Board, Chief Executive Officer, and principal shareholder of the Company. The issuance of the warrants was in consideration for Mr. Bombaywala's personal guarantees of approximately $12.9 million in debt and leases obligations of the Company (a portion of which was personally collateralized by Mr. Bombaywala) and his agreement to personally guarantee an additional $5 million of future indebtedness of the Company whether in leases, notes, accounts payable or contractual obligations (or renewals of the foregoing), or any other obligations of the Company. The warrants are subject to definitive documentation and shareholder ratification. The issuance of the warrants will be submitted to the independent shareholders for ratification at a special meeting. However, the Board retained the right to proceed with the issuance of the warrants even if not ratified by a majority of the independent shareholders. The warrants have an exercise price of $0.14 per share, which was the market price of the stock when the Board of Directors first considered the proposal. The warrants will have a four year term and the underlying shares will be subject to a two year Lock-Up Agreement. ITEM 7. EXHIBITS. The Consulting Agreement and the exhibits thereto are attached hereto as EXHIBIT 10.1 and incorporated herein by reference. The description herein of such agreement is qualified by reference to the actual terms thereof incorporated herein. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized. WATERMARC FOOD MANAGEMENT CO. ----------------------------- (Registrant) Date MAY 21, 1998 By /s/ GHULAM BOMBAYWALA (Signature) By GHULAM M. BOMBAYWALA Title CHIEF EXECUTIVE OFFICER WATERMARC FOOD MANAGEMENT CO. INDEX TO EXHIBITS EXHIBIT NUMBER DESCRIPTION 10.1 Consulting Agreement EXHIBIT 10.1 CONSULTING AGREEMENT THIS CONSULTING AGREEMENT ("Agreement") is entered into as of May 13, 1998, by and between Watermarc Food Management Co., a Texas corporation (the "Company"), and GTI Partners, LLC, a California limited liability company ("Consultant"). FOR VALUABLE CONSIDERATION, the receipt and sufficiency of which is hereby acknowledged, the parties agree as follows: 1. SERVICES. Consultant shall provide the following services (the "Services") to Company: a. Consultant shall introduce Company to various sources of capital with the aim of raising a minimum of two million five hundred thousand dollars ($2,500,000) and a maximum of five million dollars ($5,000,000) on a best efforts basis (the "Initial Financing"). b. Consultant shall prepare (or cause to be prepared) the documentation for, and conduct (or cause to be conducted), an offering or series of offerings (collectively, the "Offerings") of Company's securities in an effort to raise capital including the Initial Financing for the Company upon terms and conditions acceptable to the Company. Company shall have final approval of all documentation and the terms of the Initial Financing. c. Upon completion of the Initial Financing, and during the term of this Agreement, Consultant may introduce Company to other sources of financing all to be conducted on a best efforts basis. d. Consultant shall provide such other consulting services in connection with the foregoing Services as reasonably requested by the Company, including, advice and consultation in (i) developing the corporate and capital structure of the Company, (ii) completing the transactions contemplated by the Services, and (iii) assisting in creating an orderly market for the Company's securities. e. Consultant shall be considered an agent of the Company and shall at all times act in the best interests of the Company without regard to Consultant's own interests or those of third parties. 2. COMPENSATION. In consideration for the performance of the Services by Consultant, Company shall provide Consultant with the following compensation: a. Company shall issue to Consultant (or to such persons or entities as directed by Consultant) warrants to purchase, at $.90 per share, up to 950,000 shares of post 10 to 1 reverse split common stock of Company (the "Warrants"). Warrants to purchase one hundred thousand (100,000) shares of common stock of the Company (or the pre-split equivalent) shall be issued to Consultant immediately upon execution of this Agreement pursuant to the Warrant Agreement in the form attached hereto as SCHEDULE A. Warrants for the remaining shares, in the form attached hereto as Schedule A, shall be issued to Consultant upon the completion of at least two million five hundred thousand dollars ($2,500,000) of Initial Financing. A registration statement to register the shares underlying the warrants (the "Warrant Shares") shall be filed by the Company within ninety 1 (90) days from the date hereof. The Warrant Shares shall be subject to a lock-up agreement prohibiting resale thereof for a period of two (2) years from the date of the issuance of the respective Warrants subject to (i) the Company's consent to any proposed public or private resales, or (ii) the expiration of the lock-up agreement upon Consultant arranging the full $5,000,000 Initial Financing on terms acceptable to the Company in one or more installments. The Warrant Shares shall be subject to a voting agreement and proxy in favor of Ghulam Bombaywala, which shall expire as to 250,000 shares every ninety (90) days from the date of exercise of the Warrants. The Warrants may be exercised in whole but not in part. The Warrants are not transferable except to (i) entities or persons affiliated with Consultant, or (ii) with the consent of the Company. The lock-up and voting agreements shall be attached as exhibits to the Warrant Agreement and incorporated therein by reference. b. Company shall reimburse Consultant for all reasonable and necessary out of pocket costs and expenses incurred by Consultant in the performance of the Services under this Agreement, provided such expenses have been preapproved by the Company. 3. Retention of Consultant by the Company to assist in raising the Initial Financing (or any other capital) is on a nonexclusive basis and may be terminated by the Company at any time subject to its obligations (i) to issue 100,000 warrants on the execution of this Agreement (or the pre-split equivalent thereof), (ii) to issue warrants for 850,000 additional shares (or the pre-split equivalent thereof) if $2,500,000 is raised through financing sources of Consultant prior to the termination of this Agreement by the Company, and (iii) to reimburse Consultant for its reasonable expenses incurred pursuant to Section 2b hereof. 4. It is the intention of the Consultant to assist the Company in raising the initial $2,500,000 within the next sixty (60) days. If the initial $2,500,000 of financing is obtained and received in more than one installment, said installments shall be paid into an escrow account until the entire $2,500,000 of financing shall have been received into escrow, at which time the entire $2,500,000 shall be released to the Company. 5. Within ninety (90) days from the date hereof, the Company will file the registration statement referred to above with the SEC and will file a proxy statement or information statement with respect to the 10 to 1 reverse stock split. To provide Consultant assurance that the 10 to 1 reverse stock split will be effectuated, Ghulam M. Bombaywala will execute the Letter Agreement in the form attached hereto as SCHEDULE B agreeing to vote all of his shares in favor of the reverse stock split. 6. CONFIDENTIALITY. In connection with this Agreement, Company will be furnishing Consultant with certain information which is either non-public, confidential or proprietary in nature. All such information furnished to Consultant, its partners, principals, officers, employees, agents, and representatives (collectively, "representatives"), by Company, including information furnished prior to the execution of this Agreement, and all analyses, compilations, data, studies or other documents prepared by Consultant or its representatives containing or based in whole or in part on any such furnished information or reflecting Consultant's review of Company is hereinafter referred to as the "Information". In consideration of Consultant being furnished with the Information, Consultant agrees that: 2 a. The Information will be kept confidential and will not, without the prior written consent of Company, be disclosed by Consultant or its representatives, in any manner whatsoever, in whole or in part, and will not be used by Consultant or its representatives directly or indirectly for any purpose other than in performing the Services referred to above. Moreover, Consultant agrees to transmit the Information only to those third parties (hereafter referred to as the "Third Parties") who need to know the Information for the purpose of evaluating whether to provide financing to Company, who are informed by Consultant of the confidential nature of the Information and who agree to be bound by the terms of this Agreement. Consultant agrees to notify Company prior to the delivery or disclosure of any Information to its representatives or to the Third Parties, as to the identity of such representatives or the Third Parties. Consultant will be responsible for any actions by its representatives or the Third Parties which are not in accordance with this Agreement. b. Should any person seek to legally compel Consultant or anyone to whom Consultant transmits the Information to disclose any of the Information, Consultant will provide Company with prompt written notice so that Company may seek a protective order or other appropriate remedy and/or waive compliance with the confidentiality provisions of this Agreement, provided that nothing herein will prevent, limit or delay Consultant in disclosing any Information which it is legally compelled to disclose. In any event, Consultant will furnish only that portion of the Information which it is advised by its counsel is legally required and will exercise its best efforts to obtain reliable assurance that confidential treatment will be accorded the Information. c. Consultant (i) acknowledges that neither Company nor any of its directors, officers, employees, or attorneys have made any representation or warranty (express or implied) as to the accuracy or completeness of the Information and (ii) agrees, to the full extent permitted by law, that neither Company nor any of its directors, officers, employees, or attorneys shall have any liability whatsoever to Consultant on any basis (including, without limitation, in contract, tort, under federal or state securities laws, or otherwise) as a result of the use of the Information by Consultant, its representatives or the Third Parties. d. Consultant acknowledges the ownership by Company of all Information furnished and agrees not to disclose or use any part of it except in accordance with this Agreement. All Information and any copies thereof, including those given to the Third Parties, will be returned to Company upon completion of the Services. 7. PROHIBITED ACTIVITIES. Consultant covenants and agrees that for a period of two (2) years from the date hereof, unless specifically invited in writing by Company (it being understood that execution of this Agreement does not constitute such invitation), neither Consultant nor any of its Representatives and affiliates (including any person or entity directly or indirectly, through one or more intermediaries, controlling Consultant or controlled by or under common control with Consultant) will, directly or indirectly, (a) solicit, seek or offer to effect, negotiate with or provide any Information to any party with respect to, or make any statement, proposal or inquiry, whether written or oral, whether alone or in concert with others, to Company or to any shareholder of Company, or otherwise make any public announcement or proposal or offer whatsoever, with respect to (i) any form of business combination or transaction relating to Company or any of its subsidiaries or affiliates, including without limitation, a merger, consolidation, tender or exchange offer, sale or purchase of assets or securities, or dissolution or liquidation of Company or any of its subsidiaries or affiliates, (ii) any form of restructuring, recapitalization or similar transaction with respect to Company or any of its subsidiaries or affiliates, (iii) any demand, request or proposal to 3 amend, waive or terminate any provision of this Agreement, (iv) any proposal or other statement inconsistent with the terms of this Agreement or (v) seeking or offering to control or influence in any manner the management, Board of Directors or policies of Company or any of its subsidiaries or affiliates; or (b) instigate, encourage or assist any party to do any of the foregoing. 8. PROHIBITION OF SECURITIES TRANSACTIONS. Consultant covenants and agrees that for a period of two (2) years after the date hereof, without the express prior written consent of Company, it will not and will cause each of its Representatives not to, singly or in concert with others, including without limitation as a part of a Partnership, Limited Partnership, Syndicate or other group, directly or indirectly, through one or more intermediaries or otherwise: a. make, or in any way participate in, any solicitation of proxies with respect to Company's securities (including by the execution of action by written consent), become a participant in any election contest with respect to Company, seek to advise, encourage or influence any party with respect to the voting of Company's securities or demand a copy of the stock ledger, list of stockholders, or other books and records of Company; b. participate in or encourage the formation of any group which seeks or offers to affect control of Company or any of its subsidiaries or affiliates or for the purpose of circumventing any provision of this Agreement; or c. otherwise act, alone or in concert with others to seek or offer to control or influence, in any manner, the management, Board of Directors or policies of Company or any of its subsidiaries or affiliates. 9. INDEMNIFICATION. a. In contacting various sources of financing, Consultant shall limit the representations and statements made to those representations and statements contained in non-confidential written documents prepared or approved in writing by Company. Consultant shall defend, indemnify and hold Company, its directors, officers, employees, and attorneys, harmless from any and all claims, actions, and liabilities arising out of or in any way connected with representations and/or statements made by Consultant outside the scope of said written documents. b. Company shall defend, indemnify and hold Consultant, its partners, principals and employees, harmless from any and all claims, actions, and liabilities arising out of or in any way connected with representations and/or statements made in written documents prepared or approved in writing by Company. 10. DAMAGES. Consultant agrees that Company would be irreparably injured by a breach of this Agreement by Consultant or any of its Representatives or the Third Parties and Company shall be entitled to equitable relief, including injunctive relief and specific performance, in the event of any breach of the provisions of this Agreement. Such remedies shall not be deemed to be the exclusive remedies for a breach of this Agreement by Consultant or its Representatives or the Third Parties, but shall be in addition to all other remedies available at law or in equity. 4 11. SURVIVAL OF TERMS; NON-WAIVER. Consultant understands and agrees that paragraphs 6, 7, 8 and 9 of this Agreement shall survive the termination of this Agreement notwithstanding that some or all of the Information shall have become publicly disclosed or outdated or that any portion of this Agreement shall become inoperative as to any portion of the Information. It is further understood and agreed that no failure or delay by Company in exercising any right, power or privilege under this Agreement shall operate as waiver thereof nor shall any single or partial exercise thereof preclude any other or further exercise of any right, power or privilege hereunder. 12. SEVERABILITY. In the event that any one or more of the provisions of this Agreement shall be held invalid, illegal or unenforceable in any respect, such invalidity, illegality or unenforceability shall not affect any other provision contained herein. 13. AMENDMENT; MODIFICATION. This Agreement constitutes the entire Agreement between Company and Consultant with respect to the matters set forth herein, and no amendment or modification hereof shall be valid unless made by supplemental written agreement, executed and approved by Company and Consultant. 14. SCHEDULES. All schedules referred to herein will be prepared and delivered, in form and substance satisfactory to each party, within ten (10) days from the date hereof. Warrants for the initial 100,000 shares referred to above will not be issued until such Schedules are finalized and agreed to. 15. GOVERNING LAW. This Agreement shall be governed by and construed in accordance with the laws of the State of Texas without regard to applicable choice of law principles. IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first set forth above. "COMPANY": "CONSULTANT": WATERMARC FOOD MANAGEMENT CO. GTI PARTNERS, LLC. a Texas corporation a California limited liability company ADDRESS: ADDRESS: 11111 Wilcrest Green, Suite 350 233 Wilshire Blvd., Suite 930 Houston, Texas 77042 Santa Monica, CA 90401 By: s/____________________________ By: s/_________________________ Ghulam M. Bombaywala, CEO Name: Ibrahim Mohammed Title: Partner SCHEDULE A WARRANT AGREEMENT AND CERTIFICATE THIS WARRANT AND THE SECURITIES ISSUABLE UPON EXERCISE HEREOF HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED, AND ARE SUBJECT TO CERTAIN RESTRICTIONS, CONTAINED HEREIN, WITH RESPECT TO THEIR TRANSFER. WARRANT TO PURCHASE SHARES OF COMMON STOCK OF WATERMARC FOOD MANAGEMENT CO. __________ Warrants This Warrant Certificate certifies that GTI PARTNERS, LLC (together with its successors and assigns as herein provided, the "Holder") is the owner of __________ Warrants (subject to adjustment as provided herein), each of which represents the right to subscribe for and purchase from WATERMARC FOOD MANAGEMENT CO., a Texas corporation (the "Company"), one share of the common stock, par value $0.05 per share, of the Company (the common stock, including any stock into which it may be changed, reclassified or converted, is herein referred to as the "Common Stock") at the purchase price (the "Exercise Price") of $_______ per share. The Warrants represented by this Warrant Certificate are subject to the following provisions, terms and conditions: ARTICLE I EXERCISE OF WARRANTS EXERCISE. The Warrants may only be exercised by the Holder as a whole by surrender of this Warrant Certificate at the office of the Company (or such other office or agency of the Company as may be designated by notice in writing to the Holder at the address of such Holder appearing on the books of the Company) with the appropriate form attached hereto duly completed, at any time within the period beginning on the date hereof and expiring at 5:00 p.m. Houston, Texas time, on May _____, 2000 (the "Exercise Period") and by payment to the Company by certified check or bank draft of the Exercise Price for such shares. The Company agrees that the shares of Common Stock so purchased shall be and are deemed to be issued to the Holder as the record owner of such shares of Common Stock as of the close of business on the date on which the Warrant Certificate shall have been surrendered and payment made for such shares of Common Stock. Certificates representing the shares of Common Stock so purchased shall be delivered to the Holder promptly. ARTICLE II. WARRANT OFFICE: TRANSFER 2.1 WARRANT OFFICE. The Company shall maintain an office for certain purposes specified herein (the "Warrant Office"), which office shall initially be the Company's office at 1 11111 Wilcrest Green, Suite 350, Houston, Texas 77042 and may subsequently be such other office of the Company or of any transfer agent of the Common Stock in the continental United States as to which written notice has previously been given to the holder of this Warrant. The Company shall maintain, at the Warrant Office, a register for the Warrant, in which the Company shall record the name and address of the person in whose name the Warrants have been issued, as well as the name and address of each permitted assignee of the rights of the registered owner hereof. 2.2 OWNERSHIP OF WARRANT. The Company may deem and treat the person in whose name this Warrant is registered as the holder and owner hereof (notwithstanding any notations of ownership or writing hereon made by anyone other than the Company) for all purposes and shall not be affected by any notice to the contrary, until presentation of this Warrant for registration of transfer as provided in this Article II. 2.3 RESTRICTIONS ON EXERCISE AND TRANSFER OF WARRANTS. The Company agrees to maintain at the Warrant Office books for the registration and transfer of this Warrant. Subject to the restrictions on transfer of Warrants in this Section 2.3, the Company, from time to time, shall register the transfer of this Warrant in such books upon surrender of this Warrant at the Warrant Office properly endorsed or accompanied by appropriate instruments of transfer and written instructions for transfer satisfactory to the Company. Upon any such transfer, a new Warrant shall be issued to the transferee and the surrendered Warrant shall be canceled by the Company. The Company shall pay all taxes, (other than securities transfer taxes) and all other expenses and charges payable in connection with the transfer of Warrants pursuant to this Section 2.3. a. RESTRICTIONS IN GENERAL. Notwithstanding any provisions contained in this Warrant to the contrary, this Warrant shall not be exercisable or transferable except to (i) entities or persons under common control with, or who are controlled by, Holder or persons who control Holder, or (ii) with the prior written consent of the Company, which may be withheld in the Company's sole discretion. The related shares of Common Stock issuable upon exercise of this Warrant (the "Warrant Shares") shall not be transferable except upon the conditions specified in the Lock-up Agreement and Voting Agreement attached hereto as Exhibits A and B respectively, and incorporated herein by reference, and as specified in this Article 2.3, which conditions are intended, among other things, to insure compliance with the provisions of the Securities Act of 1933 as amended (the "Securities Act") in respect of the exercise or transfer of this Warrant or transfer of such Warrant Shares. The registered holder of this Warrant agrees that it will neither (i) transfer this Warrant prior to delivery to the Company of the opinion of counsel referred to in, and to the effect described in, Article 2.3(b), (ii) exercise this Warrant prior to delivery to the Company of the opinion of counsel referred to in, and to the effect described in, Article 2.3(b), or until registration of the related Warrant Shares under the Securities Act and any applicable state securities or blue sky laws have become effective, nor (iii) transfer such Warrant Shares prior to delivery to the Company of the opinion of counsel referred to in, and to the effect described in, Article 2.3.(b), or until registration of such Warrant Shares under the Securities Act and any applicable state securities or blue sky laws have become effective. (b) STATEMENT OF INTENTION TO EXERCISE; OPINION OF COUNSEL. The registered holder of this Warrant, by its acceptance hereof, agrees that prior to any exercise or transfer of this Warrant or any transfer of the related Warrant Shares, said holder will deliver to the Company a statement setting forth either said holder's intention with respect to the retention or disposition of any Warrant Shares, or the intention of said holder's prospective transferee with respect to its retention 2 or disposition of this Warrant or of said Warrant Shares (whichever is involved in such transfer), in either such case, together with a signed copy of the opinion of said holder's counsel, or such other counsel as shall be acceptable to the Company, as to the necessity or non-necessity for registration under the Securities Act and any applicable state securities or blue sky laws in connection with such exercise or such transfer. 2.4 EXPENSES OF DELIVERY OF WARRANTS. The Company shall pay all expenses, taxes (other than transfer taxes) and other charges payable in connection with the preparation, issuance and delivery of Warrants and related Warrant Shares hereunder. ARTICLE III WARRANT ADJUSTMENT PROVISIONS 3.1 ADJUSTMENT OF WARRANT SHARES. The Number of Warrant Shares purchasable upon exercise of this Warrant may be adjusted from time to time as set forth below. a. If the Company at any time pays to the holders of its Common Stock a dividend in Common Stock, the number of Warrant Shares issuable upon the exercise of this Warrant shall be proportionally increased, effective at the close of business on the record date for determination of the holders of the Common Stock entitled to the dividend. b. If the Company at any time subdivides or combines in a larger or smaller number of shares its outstanding shares of Common Stock, then the number of shares of Common Stock issuable upon the exercise of this Warrant shall be proportionally increased in the case of a subdivision and decreased in the case of combination, effective in either case at the close of business on the date that the subdivision or combination becomes effective. c. In case of any reclassification of the Common Stock, any consolidation of the Company with, or merger of the Company into, any other entity, any merger of any entity into the Company (other than a merger which does not result in any reclassification, conversion, exchange or cancellation of outstanding shares of Common Stock), any sales or transfer of all or substantially all of the assets of the Company, or any compulsory share exchange whereby the Common Stock is converted into other securities, cash or other property, then provisions shall be made such that the holders of this Warrant shall have the right thereafter, during the period that this Warrant shall be exercisable, to exercise this Warrant and receive the kind and amount of securities, cash and other property receivable upon such reclassification, consolidation, merger, sale, transfer or share exchange by holders of the Company's Common Stock. In addition to the adjustments provided for above to the number of Warrant Shares purchasable hereunder upon exercise of the Warrant in certain circumstances, the Company may, in its sole discretion, provide for further adjustments to the number of Warrant Shares purchasable hereunder and/or the Exercise Price thereof based on additional or other facts and circumstances where the Company determines that such an adjustment would be fair and equitable to the holders of the Warrants. 3.2 COSTS. The Company shall pay all documentary, stamp, transfer or other transactional taxes attributable to the issuance or delivery of shares of Common Stock of the Company upon exercise of this Warrant; PROVIDED, HOWEVER, that the Company shall not be 3 required to pay any taxes which may be payable in respect of any transfer involved in the issuance or delivery of any certificate for such shares in a name other than that of the holder of this Warrant in respect of which such shares are being issued. 3.3 RESERVATIONS OF SHARES. The Company shall reserve at all times so long as this Warrant remains outstanding, free from preemptive rights, out of its treasury Common Stock or its authorized but unissued shares of Common Stock, or both, solely for the purpose of effecting the exercise of this Warrant, sufficient shares of Common Stock to provide for the exercise hereof. 3.4 VALID ISSUANCE. All shares of Common Stock which may be issued upon exercise of this Warrant will upon issuance by the Company be duly and validly issued, fully paid and nonassessable and free from all taxes, liens and charges with respect to the issuance thereof attributable to any act or omission by the Company, and the Company shall take no action which will cause a contrary result (including without limitation, any action which would cause the Exercise Price to be less than the par value, if any, of the Common Stock). 3.5 APPROVALS. If any shares of Common Stock to be reserved for the purpose of exercise of this Warrant require registration with or approval of any governmental authority under any Federal or state law before such shares may be validly issued or delivered upon exercise, then the Company and the holders of this Warrant will in good faith and as expeditiously as possible endeavor to secure such registration or approval, as the case may be. ARTICLE IV RESTRICTIVE LEGENDS 4.1 Each Warrant shall (unless otherwise permitted by the provisions hereof) be stamped or otherwise imprinted with a legend in substantially the following form: "This Warrant has not been registered under the Securities Act of 1933, as amended, and is transferable only upon the conditions specified in the Warrant Agreement referred to herein." 4.2 Each certificate for Common Stock issued upon exercise of a Warrant and each certificate for Common Stock issued to a subsequent transferee shall (unless otherwise permitted by the provisions hereof) be stamped or otherwise imprinted with legends in substantially the following forms: "The shares represented by this certificate have not been registered under the Securities Act of 1933 or any state securities act. The shares have been acquired for investment and may not be sold, transferred, pledged or hypothecated unless (i) they shall have been registered under the Securities Act of 1933 and any applicable state securities act, or (ii) the corporation shall have been furnished with an opinion of counsel, satisfactory to counsel for the corporation, that registration is not required under any such acts." "The shares represented by this certificate are subject to the provisions of a Voting Agreement dated as of ___________, 1998 ("Voting Agreement"), which restrict the rights of the holder of the shares represented by this certificate to vote such 4 shares as provided for therein, by which such holder, by acceptance of this certificate, agrees to be bound. A counterpart of the Voting Agreement has been deposited with Watermarc Food Management Co. at its principal office and will be provided to any holder or transferee upon request." "The shares represented by this certificate are subject to the provisions of a Lock-up Agreement dated as of ___________, 1998 ("Lock-up Agreement"), which restrict the transfer of such shares, and the rights of the holder of the shares represented by this certificate are subject to all the terms and provisions of the Lock-up Agreement, by which such holder, by acceptance of this certificate, agrees to be bound. A counterpart of the Lock-up Agreement has been deposited with Watermarc Food Management Co. at its principal office and will be provided to any holder or transferee upon request." ARTICLE V REGISTRATION RIGHTS 5.1 REQUIRED REGISTRATION. The Company shall use its best efforts to effect the registration under the Securities Act of the shares of Common Stock issued pursuant to this Warrant Certificate upon exercise of the Warrants and evidenced by a certificate bearing the restrictive legends set forth in Article IV hereof (the "Restricted Stock") on a form appropriate for the registration of the Restricted Stock in order to permit the Holder to dispose of the Restricted Stock in accordance with its intended method of disposition and the terms of the Lock-up Agreement. 5.2 INCIDENTAL REGISTRATION. Notwithstanding the provisions of Article 5.1 of this Agreement, if the Company at any time during the Exercise Period proposes to register any of its Common Stock under the Securities Act (on a form appropriate for the registration of the Restricted Stock for public offering by the holders thereof other than a registration on Form S-8, or any successor or similar forms or a shelf registration under Rule 415 for the sole purpose of registering shares to be issued in connection with the acquisition of stock or assets of another person) and there is then not an effective registration statement covering the shares of Common Stock to be issued upon exercise of the Warrants, it will each such time give written notice to the holder of this Warrant and any holders of Restricted Stock (the holders of Restricted Stock are sometimes referred to herein as the "Eligible Holders") of its intention so to do and, upon written request from Eligible Holders given within 30 days after receipt of any such notice (which request shall state the intended method of disposition of such securities by such Eligible Holder), the Company will use its best efforts to cause all or any (but not less than 1,000 shares if less than all) Restricted Stock held by such Eligible Holder or which such Eligible Holder is then entitled to acquire pursuant to a Warrant to be registered under the Securities Act, all to the extent requisite to permit the sale or other disposition (in accordance with the intended methods thereof, as aforesaid by such Eligible Holder); provided, however, that the Company may at any time withdraw or cease proceeding with any such registration if it shall at the same time withdraw or cease proceeding with the registration of such other securities originally proposed to be registered. If an offering pursuant to this Article is to be made through underwriters, the managing underwriter may, if in its reasonable opinion marketing factors so require, limit (pro rata according to the market value of securities proposed to be registered by each) the number of (or eliminate entirely from the offering all of the) securities which eligible Holders may register pursuant to this Article. 5 5.3 EXPENSES: CONDITIONS PRECEDENT. Except as provided below, all expenses incurred by the Company in connection with action taken by the Company to comply with this Article V, including, without limitation, all registration and filing fees, printing expenses, accounting fees, fees and disbursements of counsel and other experts, premiums for liability insurance obtained in connection with a registration statement filed to effect such compliance, shall be paid by the Company; PROVIDED, HOWEVER, that all such expenses in connection with any amendment or supplement to any registration statement filed by the Company hereunder or the related prospectus which is required to be filed more than nine months after the effective date of such registration statement because any seller or sellers of securities of the Company covered thereby or any underwriter of such securities has not effected the disposition of the securities required to be registered shall be paid by such seller or sellers pro rata, in the case of two or more such sellers, in accordance with the respective market values of such securities. The Company shall not be obligated in any way in connection with any registration pursuant to this Article V for any underwriting discounts or commissions payable by any Eligible Holder to any underwriter of securities to be sold by such Eligible Holder. It shall be a condition precedent to the obligation of the Company to take any action under Article 5.2 that the Company shall receive an undertaking satisfactory to it from each Eligible Holder of securities registered or to be registered as herein provided to pay all expenses required to be borne by such Eligible Holder and to furnish or cause to be furnished to the Company specifically for use in the preparation of the registration statement and prospectus written information concerning the securities held by such Eligible Holder and also concerning any underwriter of such securities and the intended method of disposition thereof as the Company shall reasonably request and as may be required in connection with the action to be taken by the Company hereunder. ARTICLE VI COVENANT OF THE COMPANY The Company covenants and agrees that this Warrant shall be binding upon any corporation succeeding to the Company by merger, consolidation or acquisition of all or substantially all of the Company's assets. ARTICLE VII MISCELLANEOUS 7.1 ENTIRE AGREEMENT. This Warrant, contains and describes the entire agreement between the holder hereof and the Company with respect to the shares which can be purchased upon exercise hereof and supersedes all prior arrangements or understanding with respect thereto. 7.2 GOVERNING LAW. This Warrant shall be governed by and construed in accordance with the laws of the State of Texas without regard to applicable choice of law principles. 7.3 WAIVER AND AMENDMENT. Any term or provision of this Warrant may be waived at any time by the party which is entitled to the benefits thereof and any term or provision of this Warrant may be amended or supplemented at any time by agreement of the holder hereof and the Company, except that any waiver of any term or condition, or any amendment or supplementation, of this Warrant must be in writing. A waiver of any breach or failure to enforce any of the terms 6 or conditions of this Warrant shall not in any way affect, limit or waive a party's rights hereunder at any time to enforce strict compliance thereafter with every term or condition of this Warrant. 7.4 ILLEGALITY. In the event that any one or more of the provisions contained in this Warrant shall be determined to be invalid, illegal or unenforceable in any respect for any reason, the validity, legality and enforceability of any such provision in any other respect and the remaining provisions of this Warrant shall not, at the election of the party for whom the benefit of the provisions exists, be in any way impaired. 7.5 COPY OF WARRANT. A copy of this Warrant shall be filed among the records of the Company. 7.6 NOTICE. Any notice or other document required or permitted to be given or delivered to the holder hereof shall be delivered at, or sent by certified or registered mail to such holder at, the last address shown on the books of the Company maintained at the Warrant Office for the registration of this Warrant or at any more recent address of which the holder hereof shall have notified the Company in writing. Any notice or other document required or permitted to be given or delivered to the Company, other than such notice or documents required to be delivered to the Warrant Office, shall be delivered at, or sent by certified or registered mail to, the office of the Company at 11111 Wilcrest Green, Suite 350, Houston, Texas 77042 or such other address within the continental United States of America as shall have been furnished by the Company to the holder of this Warrant. 7.7 LIMITATION OF LIABILITY; NOT STOCKHOLDERS. No provision of this Warrant shall be construed as conferring upon the holder hereof the right to vote, consent, receive dividends or receive notices (other than as herein expressly provided) in respect of meetings of stockholders for the election of directors of the Company or any other right whatsoever as a stockholder of the Company. No provision hereof, in the absence of affirmative action by the holder hereof to purchase shares of Common Stock, and no mere enumeration herein of the rights or privileges of the holder hereof, shall give rise to any liability of such holder for the purchase price of any shares of Common Stock or as a stockholder of the Company, whether such liability is asserted by the Company or by creditors of the Company. 7.8 EXCHANGE, LOSS, DESTRUCTION, ETC. OF WARRANT. Upon receipt of evidence satisfactory to the Company of the loss, theft, mutilation or destruction of this Warrant, and in the case of any such loss, theft or destruction upon delivery of a bond of indemnity in such form and amount as shall be reasonably satisfactory to the Company, or in the event of such mutilation upon surrender and cancellation of this Warrant, the Company will make and deliver a new Warrant of like tenor, in lieu of such lost, stolen, destroyed or mutilated Warrant. Any Warrant issued under the provisions of this Article 7.8 in lieu of any Warrant alleged to be lost, destroyed or stolen, or in lieu of any mutilated Warrant, shall constitute an original contractual obligation on the part of the Company. This Warrant shall be promptly canceled by the Company upon the surrender hereof in connection with any exchange or replacement. 7 7.9 HEADINGS. The Article and other headings herein are for convenience only and are not a part of this Warrant and shall not affect the interpretation thereof. IN WITNESS WHEREOF, the Company has caused this Warrant to be signed in its name. Dated: ___________________, 1998 WATERMARC FOOD MANAGEMENT CO. By: ________________________________ Ghulam M. Bombaywala Chairman of the Board and CEO Attest: - ------------------------- Secretary 8 [FORM OF ELECTION TO PURCHASE] (To be executed upon exercise of Warrant) The undersigned hereby irrevocably elects to exercise the right, represented by this Warrant Certificate to purchase _______ shares of Common Stock and herewith, in accordance with the terms hereof, tenders in payment for such shares a certified check or bank draft payable to the order of Watermarc Food Management Co. in the amount of $_________________. The undersigned requests that a certificate for such shares be issued in the name of __________________________ and that such certificate be delivered to ____________________ - ---------------------------. Dated: ________________ ______________________________________________ (Signature must conform in all respects to name of holder as specified on the face of the Warrant.) 9 EXHIBIT A LOCK-UP AGREEMENT This agreement is entered into on this ____ day of _____________, 1998 by and between GTI Partners, LLC ("GTI") and Watermarc Food Management Co. ("the Company"). WHEREAS, on May _____, 1998 GTI and the Company entered into a Consulting Agreement whereby in consideration for GTI providing certain Services to the Company, the Company agreed to issue to GTI Warrants to purchase up to nine hundred fifty thousand shares of post 10 to 1 reverse split Common Stock of the Company (the "Warrant Shares"). It is hereby agreed to by the parties that: 1. The Warrant Shares shall not be resold, disposed of, or transferred, directly or indirectly, by GTI for a period of two (2) years from the date of the issuance of the respective Warrants except with the prior written consent of the Company, which may be withheld in the Company's sole discretion. 2. All certificates representing the Warrant Shares shall be imprinted on the face or back thereof with the following statement: "The shares represented by this certificate are subject to the provisions of a Lock-up Agreement dated as of ________________, 1998 ("Lockup Agreement"), which restrict the transfer of such shares, and the rights of the holder of the shares represented by this certificate are subject to all the terms and provisions of the Lock-up Agreement, by which such holder, by acceptance of this certificate, agrees to be bound. A counterpart of the Lock-up Agreement has been deposited with Watermarc Food Management Co. at its principal office and will be provided to any holder or transferee upon request." 3. This Lock-up Agreement shall terminate upon the earliest of the following occurrences: (i) the expiration of two (2) years from the date of the issuance of the last Warrant; or (ii) GTI arranging the full five million dollars ($5,000,000) Initial Financing on terms acceptable to the Company in the Company's sole discretion, pursuant to the Consulting Agreement. 1 4. This Lock-up Agreement shall be governed by and construed in accordance with the laws of the State of Texas without regard to applicable choice of law principles. IN WITNESS WHEREOF, the parties hereto have executed this Lock-up Agreement as of the date first set forth above. WATERMARC FOOD MANAGEMENT CO., a Texas Corporation ADDRESS: 11111 Wilcrest Green, Ste. 350 Houston, Texas 77042 By: ______________________________ Ghulam Bombaywala President and CEO GTI PARTNERS, LLC, a California liability company ADDRESS: ____________________________________ ____________________________________ By: _______________________________ Name: ______________________________ Title: ___________________________ 2 EXHIBIT B VOTING AGREEMENT This Voting Agreement ("Agreement") established as of the ____ day of ______________, 1998, between GTI Partners, LLC (the "Shareholders"), who are the owners of Warrants to purchase an aggregate of 950,000 shares of post 10 to 1 reverse split Common Stock, $.05 par value (together with any shares of such stock which may heretofore or hereafter be owned by the Shareholders or any of their transferees or assigns, by operation of law or otherwise, the "Shares"), of Watermarc Food Management Co., a Texas corporation (the "Company"). W I T N E S S E T H: WHEREAS, the Company and the Shareholders are parties to that certain Consulting Agreement dated as of _______________, 1998 (the "Consulting Agreement"), pursuant to which the Company issued to the Shareholders Warrants to purchase 950,000 shares of post 10 to 1 reverse split Common Stock, par value $.05 per share, of the Company; and WHEREAS, the Shareholders deem it to be in the best interests of the Company and of themselves to establish this Agreement in order to secure continuity and stability of policy in the management of the Company, and to this end, to unite the voting power represented by the Shares and held by the Shareholders as hereinafter provided. NOW, THEREFORE, it is mutually agreed as follows: Article 1. Appointment and Rights of Shareholders' Representative 1.1 APPOINTMENT OF SHAREHOLDERS' REPRESENTATIVE. The Shareholders hereby agree that, until the termination of this Agreement, Ghulam Bombaywala as representative and proxy ("Shareholders' Representative"), shall have the exclusive right, without the consent of the Shareholders, to exercise, in person or by his nominee or proxy, all the rights and powers of the Shareholders with respect to the Shares, including the right to vote and to take part in or consent to any corporate or shareholder action of any kind whatsoever. In support and not in limitation thereof, the Shareholders hereby irrevocably name, constitute and appoint the Shareholders' Representative, with full powers of substitution and resubstitution, as its true and lawful agent, attorney-in-fact and proxy, in its name, place and stead, during the term of this Agreement to vote the Shares (whether in a meeting, by a consent of shareholders in lieu of a meeting or otherwise) and take any related actions, including without limitation signing any waiver of notice, all in such manner as the Shareholders' Representative determines in his sole discretion. Other than in those instances in which the Shareholders' Representative acts for his own account in connection with the exercise of preemptive or similar rights, in exercising such discretion, the Shareholders' Representative is specifically authorized to consider his own best interests, and the Shareholders' Representative will not be acting hereunder as a fiduciary to the Shareholders. 1.2 POWERS OF SHAREHOLDERS' REPRESENTATIVE. Without limiting the generality of the foregoing provisions of this Article 1, the Shareholders' Representative shall have the power to vote, or direct the voting of, the Shares with respect to (i) any removal of any director, (ii) any election of any director, (iii) any amendment of bylaws, articles or certificates of incorporation or other instruments, (iv) any removal or relocation of offices or records and any change of registered address or registered agent, and (v) any merger, sale of assets or dissolution and liquidation, in each case to (but only to) the fullest extent permitted by applicable law. If in any particular instance (whether or not enumerated in the proceeding sentence), the rights granted under this Agreement are determined by a court of competent jurisdiction to be invalid with respect to any particular issue or instance, the Shareholders desire that such rights nevertheless continue with respect to all other issues and instances. 1.3 IRREVOCABLE PROXY. The Shareholders further agree that the proxy granted by this Article 1 is coupled with an interest and is therefore irrevocable and will survive any attempt at revocation (other than any termination of the Agreement pursuant to the provisions of Article 3 hereof) and the death or incapacity of any Shareholder (other than the Shareholders' Representative as set forth in Article 3 hereof). Article 2. Liability of Shareholders' Representative The Shareholders' Representative shall not be personally liable with respect to any action taken or omitted to be taken under this Agreement, provided such commission or omission does not amount to willful misconduct on his part. Article 3. Term This Agreement shall become effective on the date hereof and shall continue in effect for a period of one year after the date of the exercise of all of the Warrants, provided, however, that the proxy shall expire as to 250,000 shares every ninety (90) days from the date of the exercise of the Warrants, until the proxy is completely expired at the end of the one year period. This Agreement may not be sooner revoked except as provided above. Article 4. Stock Certificate Legends All certificates representing the Shares shall be imprinted on the face or back thereof with the following statement: "The shares represented by this certificate are subject to the provisions of a Voting Agreement dated as of _______________, 1998 ("Voting Agreement"), which restrict the rights of the holder of the shares represented by this certificate to vote such shares as provided for therein, by which such holder, by acceptance of this certificate, agrees to be bound. A counterpart of the Voting Agreement has been deposited with Watermarc Food Management Co. at its principal office and will be provided to any holder or transferee upon request". Such certificates shall be endorsed conspicuously on the front thereof as follows: "See restrictions on transfer hereof on reverse side." The Shareholders agree to surrender all certificates representing the Shares subject to this Agreement to the Shareholders' Representative for endorsement by the Company in accordance with this Article 4. As soon as the certificates have been endorsed, they shall be returned to the Shareholders, or deposited with the Company if and as instructed by the Shareholders' Representative. Article 5. Compensation, Reimbursement and Expenses of Shareholders' Representative The Shareholders' Representative shall serve hereunder without compensation. The Shareholders' Representative shall have the right to incur and pay such reasonable expenses and charges, to employ and pay such agents, attorneys and other persons as he may deem necessary and proper for carrying out the terms of this Agreement. Monies to pay any such expenses or charges incurred by the Shareholders' Representative shall be reimbursed by the Shareholders. Nothing contained in this Agreement shall disqualify the Shareholders' Representative or incapacitate him from serving the Company as an officer or director, or in any other capacity, or from receiving compensation in any such capacity. Article 6. Dividends or Subscriptions If any dividends with respect to the Shares are declared in stock of the Company having voting power, or if any such stock is issued in connection with any stock split or other distribution with respect to the Shares, or if the Shareholders or any of its partners or principals should acquire stock by subscription, purchase or otherwise, or acquire any voting rights with respect to any shares of the Company, such stock shall be deemed to be subject to the terms of this Agreement. The Shareholders agree to surrender such certificates promptly to the Shareholders' Representative for endorsement by the Company in accordance with Article 4 of this Agreement. As soon as the certificates have been endorsed, they shall be returned to the Shareholders, or deposited with the Company if and as instructed by the Shareholders' Representative. Article 7. Miscellaneous Provisions 7.1 GOVERNING LAWS. This Agreement shall be subject to and governed by the laws of the State of Texas without regard to applicable choice of law principles. 7.2 GENDER. Whenever the context requires, the gender of all words used herein shall include the masculine, feminine and neuter, and the number of all words shall include the singular and plural. 7.3 SUCCESSORS AND ASSIGNS. This Agreement shall be binding upon the Shareholders and their respective heirs, executors, administrators, successors and assigns. 7.4 NO PARTNERSHIP OR JOINT VENTURE. Nothing in this Agreement shall be deemed to constitute the formation of a partnership or joint venture between the parties hereto. IN WITNESS WHEREOF, the parties hereto have executed this Agreement in multiple counterparts, each of which shall be deemed an original, on the date and year first above written. GTI Partners, LLC By: ______________________ Name: ______________________ Title: ______________________ By: ______________________ Name: ______________________ Title: ______________________ April 22, 1998 SCHEDULE B Mr. Gregg Rondinelli 3 Civic Plaza, Suite 170 Newport Beach, CA 92660 Mr. Tariq Khan Manhattan West, Inc. 233 Wilshire Blvd., Suite 930 Santa Monica, CA 90401 Gentlemen: This letter will serve as my agreement as a shareholder of Watermarc Food Management Co. (the "Company") to vote all shares owned by me, both of record and beneficially, in favor of a ten to one reverse stock split of the Company's Common Stock. Sincerely, Ghualam M. Bombaywala President and CEO GMB/lw EX-99.4 10 EXHIBIT 99.4 E. TED DAVIS & ASSOCIATES, INC. September 30, 1998 Board of Directors WATERMARC FOOD MANAGEMENT COMPANY 11111 Wilcrest Green, Suite 350 Houston, Texas 77042 Re: An opinion as to the reasonableness of a plan to issue warrants as compensation for guarantees and other financial assistance provided by Mr. Ghulam Bombaywala, Chairman of the Board and Chief Executive officer of Watermarc Food Management Co. ("Watermarc" or the "Company") Dear Sirs: You have requested that E. Ted Davis and Associates, Inc. ("ETD&A") render its opinion to the Board of Directors of Watermarc, a Texas Corporation, as to the reasonableness, from a financial point of view to the shareholders, of a plan to issue certain warrants as a fee for the guarantees and other financial assistance provided by Mr. Ghulam M. Bombaywala, Chairman and CEO of Watermarc, and a major shareholder in the Company ("Bombaywala"). The plan is evidenced by an agreement by and between Watermarc and Bombaywala dated May 20, 1998 (the "Agreement") which provides among other things, that Watermarc issue Warrants to purchase 10,000,000 shares of the Company's Common Stock (pre-reverse stock split amount, the "Warrants") at the exercise price of $0.14 per share (pre-reverse stock split exercise price), which was the market price of the stock when the Board of Directors first considered the proposal. Bombaywala has personally guaranteed approximately $12.9 million in debt and lease obligations of the Company and pledged many of his personal assets to partially collateralize certain of the guarantees, and the Agreement calls for Bombaywala to personally guarantee up to $5 million of future indebtedness of the Company (collectively the "Guarantees"). As a continuing part of its business, ETD&A performs valuations of securities in connection with public offerings, private placements, business combinations, estate and gift tax valuations and similar transactions. ETD&A has been providing such services since 1981. For our services, Watermarc will pay ETD&A a fee with the understanding that ETD&A will have no liability for actions taken on the basis of the opinion absent bad faith or gross negligence. In the case of this assignment, we have analyzed (a) the proposed transaction, (b) the business, assets, and liabilities of the Company, as presented by publicly filed Forms 10-K, which included audited statements, (c) comparable transactions by publicly traded companies in similar or closely related businesses, (d) Internal Revenue Service court cases involving the issuance of similar securities in connection with loan guarantees by shareholders, and (e) other information deemed appropriate. Specifically, we reviewed the following: WATERMARC FOOD MANAGEMENT CO. SEPTEMBER 30, 1998 1. The Agreement complete with the Warrant Agreement and Certificate and the Lock-up Agreement. 2. Minutes of Board of Directors Meeting held May 1, 1998, including the Board's discussion of the plan evidenced by the Agreement of (1) above, and a list of the loans and indebtedness guaranteed by Bombaywala and the personal assets pledged against said loans. 3. Watermarc Annual Reports and Form 10-K for the fiscal years ending the Sunday closest to June 30, 1995 to 1998. 4. Billy Blues Food Corporation (the predecessor company) Annual Reports and Form 10-K for the fiscal years ending the Sunday closest to June 30, 1992 to 1994. 5. Watermarc Form 10-Q, quarterly report, for the three-month, and nine-month periods ending March 29, 1998. 6. COMPACT DISCLOSURE RECORDS summary information regarding Watermarc for the fiscal periods 1994-1997. 7. A review of 10-K's filed by approximately 160 peer group companies with regard to similar transactions. 8. Various Internal Revenue Service letter rulings and court cases regarding the deductibility of fees for shareholder loan guarantees and concerning the reasonableness of said fees. 9. Other miscellaneous information regarding share pricing, warrants and warrant valuation techniques from a variety of sources. 10. Other information deemed appropriate for this opinion. The above information is on file at the offices of ETD&A. Many of the conclusions about the nature of the business, stock and warrant histories, and the future outlook for the Company were derived from public data and U.S. Securities and Exchange Commission filings and were not confirmed by actual audit. Moreover, we have assumed the accuracy of the financial statements presented to us and have accepted as authentic the documents reviewed by us. During the course of our review, nothing has come to our attention which would cause us to believe that the information reviewed was inaccurate or misleading. However, we express no opinion as to the accuracy of said data. Our opinion is necessarily based solely upon information available to us and business, market, economic and other conditions as they exist on, and can be evaluated as of, the date hereof. E. TED DAVIS & ASSOCIATES, INC. PAGE 2 WATERMARC FOOD MANAGEMENT CO. SEPTEMBER 30, 1998 Factors considered in determining the reasonableness of the transaction include the following: 1. Given the financial condition of the Company, it is extremely unlikely that loans and other credit sources would be available without guarantees. 2. The Company's operations are continuing to show losses, and as the latest 10-Q notes: "The Company's continuation as a going concern in both the short-term and the long-term is dependent upon its ability to generate sufficient cash flow to meet its obligations on a timely basis, to obtain addition financing or capital and to refinance its debt and ultimately attain profitable operations." 3. Peer group and court cases support reasonable fees for loan origination and/or loan guarantees that range from one to as high as five percent of the amount borrowed. 4. Historical, peer group, and theoretical calculations of Warrant value ranges indicate that the value of the warrants being received are generally less than reasonable fees associated with similar debt guarantees. 5. The guarantees are not pro rata among the shareholders and no other shareholders are being asked to guarantee the debt, nor have any stepped forward to do so. Based on the foregoing and such other factors as we consider relevant, it is our opinion that the plan to issue Warrants as compensation for guarantees and other financial assistance to Mr. Ghulam Bombaywala as described in the Agreement is reasonable to the shareholders from a financial point of view. QUALIFICATIONS AND CERTIFICATION. The undersigned certifies that: 1. We hold ourselves out to the public as an appraiser and perform appraisals with regard to public and privately held stock on a regular basis. 2. We have read the pertinent Regulations regarding appraisals for property, stock values, and/or interest in partnerships, and in our opinion are qualified to make an opinion on the transaction covered by the Agreement under those regulations. E. TED DAVIS & ASSOCIATES, INC. PAGE 3 WATERMARC FOOD MANAGEMENT CO. SEPTEMBER 30, 1998 3. ETD&A has no relation or affiliation with Watermarc Food Management Co. or Ghulam Bombaywala, or any other subsidiaries or affiliates to either party, is in no way a party to any stock transactions with the Company or affiliates, and has never been employed by the Company, or any affiliates or owners in a capacity other than that of an independent consultant, contractor, and/or appraiser. 4. No part of the fee arrangement was contingent on the results reported herein and ETD&A received no fees based on a percentage of the assets the subject of the transaction. Sincerely, E. TED DAVIS & ASSOCIATES, INC. /s/ E. TED DAVIS E. Ted Davis, President E. TED DAVIS & ASSOCIATES, INC. PAGE 4 -----END PRIVACY-ENHANCED MESSAGE-----