NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

References to the Company throughout these Notes to Condensed Consolidated Financial Statements are made using the first person notations of “we,” “us” and “our.”

Basis of presentation — The accompanying condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) and the rules and regulations of the Securities and Exchange Commission (“SEC”). In our opinion, all adjustments considered necessary for a fair presentation of financial condition and results of operations for these interim periods have been included. Operating results for one interim period are not necessarily indicative of the results for any other interim period or for the full year.

These financial statements should be read in conjunction with the consolidated financial statements and related notes contained in our Annual Report on Form 10-K for the fiscal year ended October 2, 2011 . The accounting policies used in preparing these condensed consolidated financial statements are the same as those described in our Form 10-K.

Principles of consolidation — The condensed consolidated financial statements include the accounts of the Company, its wholly-owned subsidiaries and the accounts of any variable interest entities where we are deemed the primary beneficiary. All significant intercompany transactions are eliminated. For information related to the variable interest entity included in our condensed consolidated financial statements, refer to Note 11, Variable Interest Entities .

Fiscal year — Our fiscal year is 52 or 53 weeks ending the Sunday closest to September 30 . Fiscal years 2012 and 2011 include 52 weeks. Our first quarter includes 16 weeks and all other quarters include 12 weeks. All comparisons between 2012 and 2011 refer to the 12-weeks (“quarter”) and 40-weeks (“year-to-date”) ended July 8, 2012 and July 10, 2011 , respectively, unless otherwise indicated.

Use of estimates — In preparing the condensed consolidated financial statements in conformity with U.S. GAAP, management is required to make certain assumptions and estimates that affect reported amounts of assets, liabilities, revenues, expenses and the disclosure of contingencies. In making these assumptions and estimates, management may from time to time seek advice and consider information provided by actuaries and other experts in a particular area. Actual amounts could differ materially from these estimates.

Refranchisings and franchise development — The following is a summary of the number of Jack in the Box restaurants sold to franchisees, the number of restaurants developed by franchisees and the related gains and fees recognized ( dollars in thousands ):

Franchise acquisitions — During fiscal 2012 and 2011 , we acquired Qdoba franchise restaurants in select markets where we believe there is continued opportunity for restaurant development. We account for the acquisition of franchised restaurants using the acquisition method of accounting for business combinations. The purchase price allocations were based on fair value estimates determined using significant unobservable inputs (Level 3). The goodwill recorded primarily relates to the sales growth potential of the markets acquired. The following table provides detail of the combined allocations in each period ( dollars in thousands ):

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rate swaps are based upon Level 2 inputs which include valuation models as reported by our counterparties. The key inputs for the valuation models are quoted market prices, interest rates and forward yield curves.

The fair values of the Company’s debt instruments are based on the amount of future cash flows associated with each instrument discounted using the Company’s borrowing rate. At July 8, 2012 , the carrying value of all financial instruments was not materially different from fair value, as the interest rates on variable rate debt approximated rates currently available to the Company. The estimated fair values of our capital lease obligations approximated their carrying values as of July 8, 2012 .

Non-financial assets and liabilities — The Company’s non-financial instruments, which primarily consist of property and equipment, goodwill and intangible assets, are reported at carrying value and are not required to be measured at fair value on a recurring basis. However, on a periodic basis (at least annually for goodwill and semi-annually for property and equipment) or whenever events or changes in circumstances indicate that their carrying value may not be recoverable, non-financial instruments are assessed for impairment. If applicable, the carrying values of the assets are written down to fair value.

In connection with our property and equipment impairment reviews during the 40-weeks ended July 8, 2012 , eight Jack in the Box restaurants determined to be underperforming or which we intend to close having a carrying amount of $2.7 million were written down to their implied fair value of $0.5 million , resulting in an impairment charge of $2.2 million . To determine fair value, we used the income approach, which assumes that the future cash flows reflect current market expectations. The future cash flows are generally based on the assumption that the highest and best use of the asset is to sell the store to a franchisee (market participant). These fair value measurements require significant judgment using Level 3 inputs, such as discounted cash flows, which are not observable from the market, directly or indirectly. Refer to Note 5, Impairment, Disposition of Property and Equipment, Restaurant Closing Costs and Restructuring, for additional information regarding impairment charges.

 

Objectives and strategies — We are exposed to interest rate volatility with regard to our variable rate debt. To reduce our exposure to rising interest rates, in August 2010 , we entered into two interest rate swap agreements that effectively convert $100.0 million of our variable rate term loan borrowings to a fixed-rate basis from September 2011 through September 2014 .

Financial position — The following derivative instruments were outstanding as of the end of each period ( in thousands ):

Financial performance — The following is a summary of the accumulated other comprehensive income (“OCI”) gain or loss activity related to our interest rate swap derivative instruments ( in thousands ):

Amounts reclassified from accumulated OCI into interest expense represent payments made to the counterparty for the effective portions of the interest rate swaps . During the periods presented, our interest rate swaps had no hedge ineffectiveness.

Impairment and other charges, net in the accompanying condensed consolidated statements of earnings is comprised of the following ( in thousands ):

Impairment — When events and circumstances indicate that our long-lived assets might be impaired and their carrying amount is greater than the undiscounted cash flows we expect to generate from such assets, we recognize an impairment loss as the amount by which the carrying value exceeds the fair value of the assets. We typically estimate fair value based on the estimated discounted cash flows of the related asset using marketplace participant assumptions. Impairment charges in 2012 primarily represent charges to write down the carrying value of five underperforming Jack in the Box restaurants and three Jack in the Box restaurants we intend to or have closed.

Disposition of property and equipment — We also recognize accelerated depreciation and other costs on the disposition of property and equipment. When we decide to dispose of a long-lived asset, depreciable lives are adjusted based on the estimated disposal date, and accelerated depreciation is recorded. Other disposal costs primarily relate to charges from our ongoing re-image and logo program and normal capital maintenance activities.

Restaurant closing costs consist of future lease commitments, net of anticipated sublease rentals and expected ancillary costs. Total accrued restaurant closing costs, included in accrued liabilities and other long-term liabilities, changed as follows ( in thousands ):

Additions and adjustments in all periods primarily relate to revisions to certain sublease and cost assumptions.

Restructuring costs — During fiscal 2012, we have been engaged in a comprehensive review of our organization structure, including evaluating opportunities for outsourcing, restructuring of certain functions and workforce reductions. As part of these cost-saving initiatives, we announced a voluntary early retirement program (“VERP”) to eligible employees and initiated workforce reductions. Restructuring costs consist primarily of pension and employee termination costs related to the VERP offered by the Company. The following is a summary of these costs in each period ( in thousands ):

Refer to Note 7, Retirement Plans , for further information regarding the costs associated with enhanced pension benefits. Total accrued severance costs related to our restructuring activities are included in accrued liabilities and changed as follows in each period ( in thousands ):

As part of the ongoing review of our organization structure, we expect to incur additional charges related to this activity; however, we are unable to reasonably estimate the additional costs at this time.

The income tax provisions reflect year-to-date effective tax rates of 34.3% in 2012 and 35.0% in 2011 . The final annual tax rate cannot be determined until the end of the fiscal year; therefore, the actual 2012 rate could differ from our current estimates.

At July 8, 2012 , our gross unrecognized tax benefits associated with uncertain income tax positions were $0.9 million , which if recognized would favorably impact the effective income tax rate. The gross unrecognized tax benefits increased by $0.3 million from the end of fiscal year 2011 based on a preliminary assessment of a state income tax audit. It is reasonably possible that changes to the gross unrecognized tax benefits will be required within the next twelve months due to the possible settlement of state tax audits.

The major jurisdictions in which the Company files income tax returns include the United States and states in which we operate that impose an income tax. The federal statutes of limitations have not expired for fiscal years 2009 and forward. The statutes of limitations for California and Texas, which constitute the Company’s major state tax jurisdictions, have not expired for fiscal years 2001 and 2007 , respectively, and forward. Generally, the statutes of limitations for the other state jurisdictions have not expired for fiscal years 2009 and forward.

 

Defined benefit pension plans — We sponsor a defined benefit pension plan (our “Primary Plan”) covering substantially all full-time employees, which will no longer accrue benefits effective December 31, 2015 and was closed to new participants effective January 1, 2011 . We also sponsor an unfunded supplemental executive retirement plan, which provides certain employees additional pension benefits and was closed to new participants effective January 1, 2007 . Benefits under both plans are based on the employees’ years of service and compensation over defined periods of employment.

In April 2012 , we announced a voluntary early retirement program to eligible employees. The offering period for participation in the VERP had ended as of July 8, 2012 . As a result, we incurred a charge in the quarter and an increase to our pension benefit obligation (“PBO”) of $6.2 million for enhanced retirement benefits under our Primary Plan. Additionally, we were required to re-measure the liability for our Primary Plan as of June 30, 2012 .  The discount rate and long-term rate of return on plan assets used for the June 30th   re-measurement were 4.78% and 7.25% compared to 5.60% and 7.75% , respectively, at the end of fiscal 2011 .  In connection with the re-measurement, the PBO of our Primary Plan increased $42.4 million due to actuarial losses arising during the period with a corresponding increase to accumulated other comprehensive loss, net. Refer to Note 9, Stockholders ’ Equity , for additional information.  

Postretirement healthcare plans — We sponsor healthcare plans that provide postretirement medical benefits to certain employees who meet minimum age and service requirements. The plans are contributory, with retiree contributions adjusted annually, and contain other cost-sharing features such as deductibles and coinsurance.

Net periodic benefit cost — The components of net periodic benefit cost were as follows in each period ( in thousands ):  

Future cash flows — Our policy is to fund our plans at or above the minimum required by law. As of the date of our last actuarial funding valuation, there was a $14.9 million minimum requirement that will be satisfied by September 15, 2013 . Details regarding 2012 contributions are as follows ( in thousands ):

We will continue to evaluate contributions to our funded defined benefit pension plan based on changes in pension assets as a result of asset performance in the current market and economic environment.

 

We offer share-based compensation plans to attract, retain and motivate key officers, employees and non-employee directors to work toward the financial success of the Company. In fiscal 2012 , we granted the following share-based compensation awards:

The components of share-based compensation expense recognized in each period are as follows ( in thousands ):

9.    STOCKHOLDERS’ EQUITY

Repurchases of common stock — In May 2011 , the Board of Directors approved a program to repurchase up to $100.0 million in shares of our common stock expiring November 2012 . During the first quarter, we repurchased approximately 0.3 million shares at an aggregate cost of $6.4 million , completing the May 2011 authorization. In November 2011 , the

Board of Directors approved a new program to repurchase $100.0 million in shares of our common stock expiring November 2013. As of the end of the third quarter, $100.0 million remains available under this authorization.

Comprehensive income — Our total comprehensive income, net of taxes, was as follows ( in thousands ):