Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

(Mark one)

x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 27, 2018

OR

 

¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     

Commission File Number: 001-36197

DEL TACO RESTAURANTS, INC.

(Exact name of registrant as specified in its charter)

 

 

Delaware		46-3340980
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification Number)
25521 Commercentre Drive Lake Forest, California		92630
(Address of principal executive offices)		(Zip Code)
(949) 462-9300
(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 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 whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act.

Large accelerated filer	¨		Accelerated filer	x
Non-accelerated filer	¨	(Do not check if a smaller reporting company)	Smaller reporting company	¨
			Emerging growth company	x

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act     x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

As of May 4, 2018, there were 38,452,666 shares of the registrant’s common stock issued and outstanding.

---

Table of Contents

Del Taco Restaurants, Inc.

Index

PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited)
Consolidated Balance Sheets as of March 27, 2018 (Unaudited) and January 2, 2018	1
Unaudited Consolidated Statements of Comprehensive Income for the Twelve Weeks Ended March 27, 2018 and the Twelve Weeks Ended March 28, 2017	2
Unaudited Consolidated Statements of Cash Flows for the Twelve Weeks Ended March 27, 2018 and the Twelve Weeks Ended March 28, 2017	3
Notes to Consolidated Financial Statements (Unaudited)	4
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	18
Item 3. Quantitative and Qualitative Disclosures about Market Risk	30
Item 4. Control and Procedures	32
PART II. OTHER INFORMATION
Item 1. Legal Proceedings	33
Item 1A. Risk Factors	33
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	33
Item 6. Exhibits	34

---

Table of Contents

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

Del Taco Restaurants, Inc.
Consolidated Balance Sheets
(In thousands, except share and per share data)
		March 27, 2018				January 2, 2018
Assets		(Unaudited)
Current assets:
Cash and cash equivalents		$	10,038			$	6,559
Accounts and other receivables, net		3,524				3,828
Inventories		2,739				2,712
Prepaid expenses and other current assets		3,216				6,784
Total current assets		19,517				19,883
Property and equipment, net		157,643				156,124
Goodwill		320,638				320,638
Trademarks		220,300				220,300
Intangible assets, net		20,711				21,498
Other assets, net		4,325				3,881
Total assets		$	743,134			$	742,324
Liabilities and shareholders’ equity
Current liabilities:
Accounts payable		$	16,040			$	18,759
Other accrued liabilities		32,947				35,257
Current portion of capital lease obligations and deemed landlord financing liabilities		1,309				1,415
Total current liabilities		50,296				55,431
Long-term debt, capital lease obligations and deemed landlord financing liabilities, excluding current portion, net		171,472				170,639
Deferred income taxes		68,644				68,574
Other non-current liabilities		32,562				31,431
Total liabilities		322,974				326,075
Commitments and contingencies (Note 13)
Shareholders’ equity:
Preferred stock, $0.0001 par value; 1,000,000 shares authorized; no shares issued and outstanding		—				—
Common stock, $0.0001 par value; 400,000,000 shares authorized; 38,448,916 shares issued and outstanding at March 27, 2018; 38,434,274 shares issued and outstanding at January 2, 2018		4				4
Additional paid-in capital		350,543				349,334
Accumulated other comprehensive income		194				14
Retained earnings		69,419				66,897
Total shareholders’ equity		420,160				416,249
Total liabilities and shareholders’ equity		$	743,134			$	742,324

See accompanying notes to consolidated financial statements.

1

---

Table of Contents

Del Taco Restaurants, Inc.
Consolidated Statements of Comprehensive Income
(Unaudited)
(In thousands, except share and per share data)
		12 Weeks Ended
		March 27, 2018				March 28, 2017
Revenue:
Company restaurant sales		$	105,109			$	101,222
Franchise revenue		3,792				3,613
Franchise advertising contributions		2,936				—
Franchise sublease income		717				510
Total revenue		112,554				105,345
Operating expenses:
Restaurant operating expenses:
Food and paper costs		28,973				27,918
Labor and related expenses		34,818				33,221
Occupancy and other operating expenses		21,986				20,718
General and administrative		10,429				9,305
Franchise advertising expenses		2,936				—
Depreciation and amortization		5,914				5,103
Occupancy and other - franchise subleases		638				481
Pre-opening costs		442				26
Restaurant closure charges, net		(13		)		9
Loss (gain) on disposal of assets, net		93				(49		)
Total operating expenses		106,216				96,732
Income from operations		6,338				8,613
Other expense
Interest expense		1,910				1,543
Total other expense		1,910				1,543
Income from operations before provision for income taxes		4,428				7,070
Provision for income taxes		1,199				2,832
Net income		3,229				4,238
Other comprehensive income (loss):
Change in fair value of interest rate cap, net of tax		174				(88		)
Reclassification of interest rate cap amortization included in net income		6				—
Total other comprehensive income (loss)		180				(88		)
Comprehensive income		$	3,409			$	4,150
Earnings per share:
Basic		$	0.08			$	0.11
Diluted		$	0.08			$	0.10
Weighted-average shares outstanding
Basic		38,441,707				39,003,935
Diluted		39,224,070				40,375,061

See accompanying notes to consolidated financial statements.

2

---

Table of Contents

Del Taco Restaurants, Inc.
Consolidated Statements of Cash Flows
(Unaudited)
(In thousands)
		12 Weeks Ended
		March 27, 2018				March 28, 2017
Operating activities
Net income		$	3,229			$	4,238
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		5,914				5,103
Amortization of favorable and unfavorable lease assets and liabilities, net		(118		)		(147		)
Amortization of deferred financing costs and debt discount		95				89
Stock-based compensation		1,274				1,069
Deferred income taxes		266				193
Loss (gain) on disposal of assets, net		93				(49		)
Restaurant closure charges		33				43
Changes in operating assets and liabilities:
Accounts and other receivables, net		1,017				994
Inventories		(27		)		88
Prepaid expenses and other current assets		3,568				1,914
Other assets		(16		)		(18		)
Accounts payable		(2,609		)		(402		)
Other accrued liabilities		(973		)		(280		)
Other non-current liabilities		654				(207		)
Net cash provided by operating activities		12,400				12,628
Investing activities
Purchases of property and equipment		(9,594		)		(5,650		)
Proceeds from disposal of property and equipment, net		573				—
Purchases of other assets		(474		)		(201		)
Proceeds from sale of company-operated restaurants		—				2,192
Net cash used in investing activities		(9,495		)		(3,659		)
Financing activities
Repurchase of common stock and warrants		(33		)		(8,010		)
Payment of tax withholding related to restricted stock vesting		(79		)		(59		)
Payments on capital leases and deemed landlord financing		(362		)		(379		)
Proceeds from revolving credit facility		5,000				3,000
Payments on revolving credit facility		(4,000		)		(3,000		)
Proceeds from exercise of stock options		48				—
Net cash provided by (used in) financing activities		574				(8,448		)
Increase in cash and cash equivalents		3,479				521
Cash and cash equivalents at beginning of period		6,559				8,795
Cash and cash equivalents at end of period		$	10,038			$	9,316
Supplemental cash flow information:
Cash paid during the period for interest		$	1,377			$	1,066
Cash paid during the period for income taxes		—				—
Supplemental schedule of non-cash activities:
Accrued property and equipment purchases		$	(1,492	)		$	2,883
Write-offs of accounts receivables		6				—
Amortization of interest rate cap into net income, net of tax		6				—
Change in other asset for fair value of interest rate cap recorded to other comprehensive loss, net of tax		174				(88		)

See accompanying notes to consolidated financial statements

3

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

1. Description of Business

Del Taco Restaurants, Inc. (f/k/a Levy Acquisition Corp. (“LAC”)) is a Delaware corporation headquartered in Lake Forest, California. The consolidated financial statements include the accounts of Del Taco Restaurants, Inc. and its wholly owned subsidiaries (collectively, the “Company” or “Del Taco”). The Company develops, franchises, owns, and operates Del Taco quick-service Mexican-American restaurants. At March 27, 2018, there were 315 company-operated and 251 franchise-operated Del Taco restaurants located in 14 states, including one franchise-operated unit in Guam. At March 28, 2017, there were 305 company-operated and 249 franchise-operated Del Taco restaurants located in 15 states, including one franchise-operated unit in Guam.

2. Basis of Presentation and Summary of Significant Accounting Policies

Basis of Presentation

The accompanying unaudited consolidated financial statements included herein have been prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) and the rules and regulations of the Securities and Exchange Commission (“SEC”). For additional information, these unaudited consolidated financial statements should be read in conjunction with the financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended January 2, 2018 ("2017 Form 10-K").

 

The Company’s fiscal year ends on the Tuesday closest to December 31. Fiscal year 2018 is a fifty-two week period ending January 1, 2019. Fiscal year 2017 is the fifty-two week period ended January 2, 2018. In a fifty-two week fiscal year, the first, second and third quarters each include twelve weeks of operations and the fourth quarter includes sixteen weeks of operations. For fiscal year 2018, the Company’s accompanying financial statements reflect the twelve weeks ended March 27, 2018. For fiscal year 2017, the Company’s accompanying financial statements reflect the twelve weeks ended March 28, 2017.

Effective January 3, 2018 (the first day of fiscal year 2018), the Company adopted the requirements of Accounting Standards Update ("ASU") No. 2014-09, Revenue from Contracts with Customers (Topic 606), as discussed below in Note 2, using the modified retrospective method of transition. Current year results have been prepared in accordance with the new standards.

In the opinion of management, the accompanying consolidated financial statements reflect all adjustments which are necessary for a fair presentation of the consolidated financial position, results of operations and cash flows for the periods presented. The results of operations for such interim periods are not necessarily indicative of results of operations to be expected for the full fiscal year.

Principles of Consolidation

The accompanying unaudited consolidated financial statements include the accounts of the Company and its wholly and majority owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.

Use of Estimates

The preparation of the consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Management believes that such estimates have been based on reasonable and supportable assumptions and the resulting estimates are reasonable for use in the preparation of the consolidated financial statements. Actual results could differ from these estimates. The Company’s significant estimates include estimates for impairment of goodwill, intangible assets and property and equipment, valuations provided in business combinations, insurance reserves, restaurant closure reserves, stock-based compensation, contingent liabilities, certain leasing activities and income tax valuation allowances.

4

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

Recently Issued Accounting Standards

In February 2016, the Financial Accounting Standards Board ("FASB") issued ASU No. 2016-02, Leases (Topic 842). This guidance will result in key changes to lease accounting and will aim to bring leases onto balance sheets to give investors, lenders, and other financial statement users a more comprehensive view of a company's long-term financial obligations as well as the assets it owns versus leases. The new leasing standard will be effective for fiscal years beginning after December 15, 2018, and for interim periods within those fiscal years. The new guidance requires a modified retrospective transition approach for all leases existing at, or entered into after, the date of initial application, with certain practical expedients available. The Company is in the process of implementing changes to its systems and processes in conjunction with its review of existing lease agreements. The cumulative effect of adoption will be recorded to retained earnings in the period of adoption. Based on a preliminary assessment, the Company expects that substantially all of its operating lease commitments will be subject to the new guidance and recognized as operating lease liabilities and right-of-use assets upon adoption, resulting in a material increase in the assets and liabilities on the Company's consolidated balance sheets.  The Company is continuing its evaluation, which may identify additional impacts this standard will have on its consolidated financial statements and related disclosures. The Company will adopt ASU No. 2016-02 during the first quarter of fiscal 2019.

Recently Adopted Accounting Standards

In March 2016, the FASB issued ASU No. 2016-04, Liabilities-Extinguishment of Liabilities (Subtopic 405-20): Recognition of Breakage for Certain Prepaid Stored-Value Products, which is designed to provide guidance and eliminate diversity in the accounting for the derecognition of financial liabilities related to certain prepaid stored-value products using a revenue-like breakage model. The Company adopted the requirements of the new standard in the first fiscal quarter of 2018, utilizing the cumulative effect transition method. There was no material impact as a result of adopting this standard.

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), which provides a comprehensive new revenue recognition model that requires a company to recognize revenue in an amount that reflects the consideration it expects to receive for the transfer of promised goods or services to its customers. The standard also requires additional disclosure regarding the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. ASU No. 2014-09, also known as FASB Accounting Standards Codification ("ASC") Topic 606 ("Topic 606") supersedes the revenue recognition requirements in ASC Topic 605, Revenue Recognition ("Topic 605"). On January 3, 2018 (the first day of fiscal year 2018), the Company adopted the requirements of Topic 606, utilizing the modified retrospective method of transition. Adoption of the new standard resulted in changes to our accounting policies for revenue recognition, as detailed below. Topic 606 does not materially impact the recognition of company restaurant sales or franchise royalty income from franchisees included in franchise revenue. Franchise sublease income is not within the scope of this new guidance.

Franchise Fees

The adoption of Topic 606 changed the timing of the recognition of initial franchise fees, including franchise and development fees, and renewal fees, both included in franchise revenue in the consolidated statements of comprehensive income. Under Topic 605, initial franchise fees were recognized when all material obligations had been performed and conditions had been satisfied, typically when operations of a new franchise restaurant had commenced, and renewal fees were recognized when a renewal agreement became effective. Topic 606 requires franchise and renewal fees to be deferred and recognized over the term of the related franchise agreement for the respective restaurant. Franchise agreements typically have a term of 20 years. The impact of the deferral of initial franchise and renewal fees received in a given year may be offset by the recognition of revenue from fees retrospectively deferred from prior years. Upon adoption, the Company recorded approximately $0.7 million as a cumulative effect adjustment to opening retained earnings comprised of $1.0 million of deferred franchise fees included in other non-current liabilities on the consolidated balance sheet as of January 3, 2018 (the first day of fiscal year 2018) related to franchise and renewal fees previously recognized since the Business Combination on June 30, 2015, partially offset by an adjustment of $0.3 million to deferred taxes related to the $1.0 million of deferred franchise fees.

During the twelve weeks ended March 27, 2018, the Company recognized $13,000 in franchise revenue related to the amortization of the deferred franchise fees recognized at January 2, 2018 as a result of the adoption of Topic 606.

5

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

Deferred franchise fees are recognized straight-line over the term of the underlying agreement and the amount expected to be recognized in franchise revenue for amounts in deferred franchise fees as of March 27, 2018 is as follows (in thousands):

FY 2018		$	47
FY 2019		60
FY 2020		60
FY 2021		59
FY 2022		59
Thereafter		702
Total Deferred Franchise Fees		$	987

Advertising

The adoption of the new guidance changed the reporting of advertising contributions from franchisees and the related advertising expenses, which were not previously included in the consolidated statements of comprehensive income. Topic 606 requires these franchise advertising contributions and expenses to be reported on a gross basis in the consolidated statements of comprehensive income, which impacted our total revenues and expenses. However, the franchise advertising contributions and expenses are expected to be largely offsetting and therefore does not have a significant impact on reported net income. The current year impact to revenue for franchise advertising contributions and to expenses for franchise advertising expenses for the twelve weeks ended March 27, 2018 was an increase of $2.9 million for both as a result of applying Topic 606.

Other Revenue Transactions

Certain other franchise expenses have previously been recorded net of the related fees received from franchisees. Under Topic 606, the Company is now including these revenues and expenditures on a gross basis within the consolidated statements of comprehensive income. While this change materially impacted the gross amount of reported franchise revenue and related expenses on the consolidated statements of comprehensive income, the impact is an offsetting increase to both revenue and expense such that there is not a significant, if any, impact on operating income and net income. The current year impact to revenues for the twelve weeks ended March 27, 2018 was an increase of $0.2 million as a result of applying Topic 606, with an offsetting increase in expenses.

Comparison To Amounts if Previous Standards Had Been in Effect

The following tables reflect the impact of the adoption of Topic 606 on the Company's consolidated balance sheet as of March 27, 2018 and on the Company's consolidated statements of comprehensive income and cash flows from operating activities for the twelve weeks ended March 27, 2018 and the amounts as if Topic 605 was in effect ("Amounts Under Previous Standards") (in thousands):

6

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

		12 Weeks Ended March 27, 2018
		As Reported				Adjustments for Prior Revenue Recognition Standards				Amounts Under Previous Standards
Liabilities and shareholders’ equity
Current liabilities:
Accounts payable		$	16,040			$	—			$	16,040
Other accrued liabilities		32,947				—				32,947
Current portion of capital lease obligations and deemed landlord financing liabilities		1,309				—				1,309
Total current liabilities		50,296				—				50,296
Long-term debt, capital lease obligations and deemed landlord financing liabilities, excluding current portion, net		171,472				—				171,472
Deferred income taxes		68,644				260				68,904
Other non-current liabilities		32,562				(962		)		31,600
Total liabilities		322,974				(702		)		322,272
Shareholders’ equity:
Preferred stock		—				—				—
Common stock		4				—				4
Additional paid-in capital		350,543				—				350,543
Accumulated other comprehensive income		194				—				194
Retained earnings		69,419				702				70,121
Total shareholders’ equity		420,160				702				420,862
Total liabilities and shareholders’ equity		$	743,134			$	—			$	743,134

7

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

		12 Weeks Ended March 27, 2018
		As Reported				Adjustments for Prior Revenue Recognition Standards				Amounts Under Previous Standards
Revenue:
Company restaurant sales		$	105,109			$	—			$	105,109
Franchise revenue		3,792				(161		)		3,631
Franchise advertising contributions		2,936				(2,936		)		—
Franchise sublease income		717				—				717
Total revenue		112,554				(3,097		)		109,457
Operating expenses:
Restaurant operating expenses:
Food and paper costs		28,973				—				28,973
Labor and related expenses		34,818				—				34,818
Occupancy and other operating expenses		21,986				—				21,986
General and administrative		10,429				(153		)		10,276
Franchise advertising expenses		2,936				(2,936		)		—
Depreciation and amortization		5,914				—				5,914
Occupancy and other - franchise subleases		638				—				638
Pre-opening costs		442				—				442
Restaurant closure charges, net		(13		)		—				(13		)
Loss on disposal of assets, net		93				—				93
Total operating expenses		106,216				(3,089		)		103,127
Income from operations		6,338				(8		)		6,330
Other expense
Interest expense		1,910				—				1,910
Total other expense		1,910				—				1,910
Income from operations before provision for income taxes		4,428				(8		)		4,420
Provision for income taxes		1,199				(2		)		1,197
Net income		3,229				(6		)		3,223
Other comprehensive income:
Change in fair value of interest rate cap, net of tax		174				—				174
Reclassification of interest rate cap amortization included in net income		6				—				6
Total other comprehensive income		180				—				180
Comprehensive income		$	3,409			$	(6	)		$	3,403
Earnings per share:
Basic		$	0.08			$	—			$	0.08
Diluted		$	0.08			$	—			$	0.08

8

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

		12 Weeks Ended March 27, 2018
		As Reported				Adjustments for Prior Revenue Recognition Standards				Amounts Under Previous Standards
Operating activities
Net income		$	3,229			$	(6	)		$	3,223
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		5,914				—				5,914
Amortization of favorable and unfavorable lease assets and liabilities, net		(118		)		—				(118		)
Amortization of deferred financing costs and debt discount		95				—				95
Stock-based compensation		1,274				—				1,274
Deferred income taxes		266				(2		)		264
Loss on disposal of assets, net		93				—				93
Restaurant closure charges		33				—				33
Changes in operating assets and liabilities:
Accounts and other receivables, net		1,017				—				1,017
Inventories		(27		)		—				(27		)
Prepaid expenses and other current assets		3,568				—				3,568
Other assets		(16		)		—				(16		)
Accounts payable		(2,609		)		—				(2,609		)
Other accrued liabilities		(973		)		—				(973		)
Other non-current liabilities		654				8				662
Net cash provided by operating activities		$	12,400			$	—			$	12,400

Summary of Significant Accounting Policies

Except for the accounting policies for revenue recognition discussed below that were updated as a result of adopting ASU No. 2014-09, there have been no changes to our significant accounting policies described in the Annual Report on Form 10-K for the year ended January 2, 2018, filed with the SEC on March 15, 2018, that have had a material impact on our condensed consolidated financial statements and related notes.

Revenue Recognition

Company restaurant sales from the operation of company-operated restaurants are recognized when food and service is delivered to customers. Franchise revenue is comprised of (i) development fees, (ii) franchise fees, (iii) on-going royalties, (iv) renewal fees and (v) other franchise revenue. Development and franchise fees, portions of which are collected in advance and are non-refundable, received pursuant to individual development agreements, grant the right to develop franchise-operated restaurants in future periods in specific geographic areas. Both development fees and franchise fees are deferred and recognized as revenue over the term of the franchise agreement and renewal fees are deferred and recognized over the term of the renewal agreement. Development fees and franchise fees are also generally recognized as revenue upon the termination of the development agreement with the franchisee. Royalties from franchise-operated restaurants are based on a percentage of franchise restaurant sales and are recognized in the period the related franchise-operated restaurant sales occur. The Company reports revenue net of sales taxes collected from customers and remitted to governmental taxing authorities. Franchise sublease income is comprised of rental income associated with properties leased or subleased to franchisees and is recognized as revenue on an accrual basis.

9

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

Advertising Costs

Franchisees pay a monthly fee to the Company typically equal to 4% of their restaurants’ net sales as contributions for advertising and promotional services that the Company provides and are included in revenue in franchise advertising contributions on the consolidated statements of comprehensive income. Company-operated restaurants contribute to the advertising fund on the same basis as franchise-operated restaurants.

Production costs for radio and television advertising are expensed when the commercials are initially aired. Costs of distribution of advertising are charged to expense on the date the advertising is aired or distributed. The portion of these costs related to company-operated restaurants, as well as other marketing-related expenses for advertising are included in occupancy and other operating expenses in the consolidated statements of comprehensive income. The portion of these costs related to franchise-operated restaurants for advertising are included in franchise advertising expenses on the consolidated statements of comprehensive income.

3. Restaurant Closure Charges, Net

At March 27, 2018 and January 2, 2018, the restaurant closure liability is $2.4 million and $2.8 million, respectively. The details of the restaurant closure activities are discussed below.

Restaurant Closures and Lease Reserves

The following table represents other restaurant closure liability activity related to restaurant closures prior to 2015 and sublease income shortfalls (in thousands):

		Total
Balance at January 2, 2018		$	1,213
Charges for accretion in current period		17
Cash payments		(334		)
Balance at March 27, 2018		$	896

The current portion of the restaurant closure liability is $0.2 million at March 27, 2018 and $0.5 million at January 2, 2018, respectively, and is included in other accrued liabilities in the consolidated balance sheets. The non-current portion of the restaurant closure liability is $0.7 million at both March 27, 2018 and January 2, 2018 and is included in other non-current liabilities in the consolidated balance sheets.

Restaurant Closure and Other Related Charges for 12 Underperforming Restaurants

During the fourth fiscal quarter of 2015, the Company closed 12 company-operated restaurants. During the twelve weeks ended March 27, 2018, the Company recorded accretion expense related to the closures, offset by $47,000 of sublease income from leases which are treated as deemed landlord financing. A summary of the restaurant closure liability activity, all of which relates to contract termination costs, for these 12 closed restaurants consisted of the following (in thousands):

		Total
Balance at January 2, 2018		$	1,611
Charges for accretion in current period		16
Cash payments		(141		)
Balance at March 27, 2018		$	1,486

The current portion of the restaurant closure liability is $0.3 million at both March 27, 2018 and January 2, 2018 and is included in other accrued liabilities in the consolidated balance sheets. The non-current portion of the restaurant closure liability is $1.2

10

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

million and $1.3 million at March 27, 2018 and January 2, 2018, respectively, and is included in other non-current liabilities in the consolidated balance sheets.

4. Goodwill and other Intangible Assets

Goodwill was $320.6 million at both March 27, 2018 and January 2, 2018.

There have been no changes in the carrying amount of trademarks since January 2, 2018.

The Company’s other intangible assets at March 27, 2018 and January 2, 2018 consisted of the following (in thousands):

		March 27, 2018												January 2, 2018
		Gross Carrying Amount				Accumulated Amortization				Net				Gross Carrying Amount				Accumulated Amortization				Net
Favorable lease assets		$	13,707			$	(4,814	)		$	8,893			$	13,744			$	(4,442	)		$	9,302
Franchise rights		15,203				(3,569		)		11,634				15,284				(3,282		)		12,002
Reacquired franchise rights		243				(59		)		184				243				(49		)		194
Total amortized other intangible assets		$	29,153			$	(8,442	)		$	20,711			$	29,271			$	(7,773	)		$	21,498

During the twelve weeks ended March 27, 2018, the Company wrote-off $37,000 of favorable lease assets related to the termination of a lease and $0.1 million of franchise rights associated with the closure of one franchise-operated restaurant.

5. Debt, Obligations Under Capital Leases and Deemed Landlord Financing Liabilities

The Company’s long-term debt, capital lease obligations and deemed landlord financing liabilities at March 27, 2018 and January 2, 2018 consisted of the following (in thousands):

 

		March 27, 2018				January 2, 2018
2015 Senior Credit Facility, net of debt discount of $680 and $747 and deferred financing costs of $230 and $252 at March 27, 2018 and January 2, 2018, respectively		$	153,090			$	152,001
Total outstanding indebtedness		153,090				152,001
Obligations under capital leases and deemed landlord financing liabilities		19,691				20,053
Total debt		172,781				172,054
Less: amounts due within one year		1,309				1,415
Total amounts due after one year, net		$	171,472			$	170,639

 

At March 27, 2018 and January 2, 2018, the Company assessed the amounts recorded under the 2015 Senior Credit Facility and determined that such amounts approximated fair value.

2015 Revolving Credit Facility

On August 4, 2015, the Company refinanced its existing senior credit facility and entered into a new credit agreement (the “Credit Agreement”). The Credit Agreement, which matures on August 4, 2020, provides for a $250 million revolving credit facility (the “2015 Senior Credit Facility”).

The Credit Agreement contains certain financial covenants, including the maintenance of a consolidated total lease adjusted leverage ratio and a consolidated fixed charge coverage ratio. The Company was in compliance with the financial covenants as of March 27, 2018. Substantially all of the assets of the Company are pledged as collateral under the 2015 Senior Credit Facility.

11

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

At March 27, 2018, the weighted-average interest rate on the outstanding balance of the 2015 Senior Credit Facility was 3.4%. At March 27, 2018, the Company had a total of $77.8 million of availability for additional borrowings under the 2015 Senior Credit Facility as the Company had $154.0 million of outstanding borrowings and letters of credit outstanding of $18.2 million which reduce availability under the 2015 Senior Credit Facility.

6. Derivative Instruments

In June 2016, the Company entered into an interest rate cap agreement that became effective July 1, 2016, to hedge cash flows associated with interest rate fluctuations on variable rate debt, with a termination date of March 31, 2020 ("2016 Interest Rate Cap Agreement"). The 2016 Interest Rate Cap Agreement had an initial notional amount of $70.0 million of the 2015 Senior Credit Facility that effectively converted that portion of the outstanding balance of the 2015 Senior Credit Facility from variable rate debt to capped variable rate debt, resulting in a change in the applicable interest rate from an interest rate of one-month LIBOR plus the applicable margin (as provided by the 2015 Senior Credit Facility) to a capped interest rate of 2.00% plus the applicable margin. During the period from July 1, 2016 through March 27, 2018, the 2016 Interest Rate Cap Agreement had no hedge ineffectiveness.

2016 Interest Rate Cap Agreement

To ensure the effectiveness of the 2016 Interest Rate Cap Agreement, the Company elected the one-month LIBOR rate option for its variable rate interest payments on term balances equal to or in excess of the applicable notional amount of the interest rate cap agreement as of each reset date. The reset dates and other critical terms on the term loans perfectly match with the interest rate cap reset dates and other critical terms during the twelve weeks ended March 27, 2018.

During the twelve weeks ended March 27, 2018, the Company reclassified $6,000 of interest expense related to the hedges of these transactions into earnings. As of March 27, 2018, the Company was hedging forecasted transactions expected to occur through March 31, 2020. Assuming interest rates at March 27, 2018 remain constant, $0.3 million of interest expense related to hedges of these transactions is expected to be reclassified into earnings over the next 24 months. The Company intends to ensure that this hedge remains effective, therefore, approximately $0.1 million is expected to be reclassified into interest expense over the next 12 months.

The effective portion of the 2016 Interest Rate Cap Agreement through March 27, 2018 was included in accumulated other comprehensive income.

7. Fair Value Measurements

The fair values of cash and cash equivalents, accounts receivable, accounts payable and other accrued liabilities approximate their carrying amounts due to their short maturities. The carrying value of the 2015 Senior Credit Facility approximated fair value. The 2016 Interest Rate Cap Agreement is recorded at fair value in the Company’s consolidated balance sheets.

As of March 27, 2018 and January 2, 2018, the Company held certain assets and liabilities that are required to be measured at fair value on a recurring basis. For both periods, this included a derivative instrument related to interest rates. The Company determined the fair value of the interest rate cap contract based on counterparty quotes, with appropriate adjustments for any significant impact of nonperformance risk of the parties to the interest rate cap contract. Therefore, the Company categorized this interest rate cap contract as Level 2 fair value measurements. The fair value of the 2016 Interest Rate Cap Agreement was $0.6 million and $0.3 million at March 27, 2018 and January 2, 2018, respectively, and is included in other assets in the consolidated balance sheets.

12

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

The Company's assets and liabilities measured at fair value on a recurring basis as of March 27, 2018 and January 2, 2018 were as follows (in thousands):

	March 27, 2018 (Unaudited)				Markets for Identical Assets (Level 1)				Observable Inputs (Level 2)				Unobservable Inputs (Level 3)
2016 Interest Rate Cap Agreement	$	572			$	—			$	572			$	—
Total assets measured at fair value	$	572			$	—			$	572			$	—
	January 2, 2018				Markets for Identical Assets (Level 1)				Observable Inputs (Level 2)				Unobservable Inputs (Level 3)
2016 Interest Rate Cap Agreement	$	332			$	—			$	332			$	—
Total assets measured at fair value	$	332			$	—			$	332			$	—

8. Other Accrued Liabilities and Other Non-current Liabilities

A summary of other accrued liabilities follows (in thousands):

 

		March 27, 2018				January 2, 2018
Employee compensation and related items		$	10,544			$	12,945
Accrued insurance		6,713				7,232
Accrued sales tax		3,749				3,987
Accrued advertising		2,402				728
Accrued real property tax		1,905				1,331
Restaurant closure liability		493				794
Other		7,141				8,240
		$	32,947			$	35,257

 

A summary of other non-current liabilities follows (in thousands):

 

		March 27, 2018				January 2, 2018
Unfavorable lease liabilities		$	13,941			$	14,469
Insurance reserves		6,866				5,965
Deferred rent liability		3,146				2,972
Deferred development and initial franchise fees		2,549				1,335
Restaurant closure liability		1,890				2,030
Unearned trade discount, non-current		1,057				1,149
Deferred gift card income		836				1,234
Other		2,277				2,277
		$	32,562			$	31,431

9. Stock-Based Compensation

In connection with the approval of the Business Combination, the Del Taco Restaurants, Inc. 2015 Omnibus Incentive Plan (the “2015 Plan”) was approved by shareholders to offer eligible employees, directors and consultants cash and stock-based incentive awards. Awards under the 2015 Plan are generally not restricted to any specific form or structure and could include, without limitation, stock options, stock appreciation rights, restricted stock, other stock-based awards, other cash-based

13

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

compensation and performance awards. Under the plan, there were 3,300,000 shares of common stock reserved and authorized. At March 27, 2018, there were 1,374,844 shares of common stock available for grant under the 2015 Plan.

Stock-Based Compensation Expense

The total compensation expense related to the 2015 Plan was $1.3 million and $1.1 million for the twelve weeks ended March 27, 2018 and March 28, 2017, respectively.

Restricted Stock Awards

A summary of outstanding and unvested restricted stock activity as of March 27, 2018 and changes during the period from January 2, 2018 through March 27, 2018 are as follows:

 

		Shares			Weighted-Average Grant Date Fair Value
Nonvested at January 2, 2018		1,088,910			$	11.92
Granted		20,000			12.29
Vested		(16,250	)		12.26
Forfeited		—			—
Nonvested at March 27, 2018		1,092,660			$	11.93

For both the twelve weeks ended March 27, 2018 and March 28, 2017, the Company made payments of $0.1 million related to tax withholding obligations for the vesting of restricted stock awards in exchange for 9,892 and 4,686 shares withheld, respectively. As of March 27, 2018, there was $7.8 million of unrecognized expense, net of estimated forfeitures, related to restricted stock awards which is expected to be recognized over a weighted-average remaining period of 2.3 years. The fair value of these awards was determined based on the Company’s stock price on the grant date.

Stock Options

A summary of stock option activity as of March 27, 2018 and changes during the period from January 2, 2018 through March 27, 2018 are as follows:

		Options			Weighted Average Exercise Price				Weighted Average Remaining Contractual Term		Aggregate Intrinsic Value
									(in years)		(in thousands)
Options outstanding at January 2, 2018		417,000			$	11.04			5.5		$	641
Granted		—			—
Exercised		(4,750	)		10.06
Forfeited/Expired		(26,500	)		11.25
Options outstanding at March 27, 2018		385,750			$	11.04			5.2		$	135
Options exercisable at March 27, 2018		115,498			$	10.12			4.5		$	37
Options exercisable and expected to vest at March 27, 2018		359,553			$	10.98			5.2		$	126

The aggregate intrinsic value in the table above is the amount by which the current market price of the Company's stock exceeds the exercise price on January 2, 2018 and March 27, 2018, respectively.

As of March 27, 2018, there was $0.7 million of unrecognized stock compensation expense, net of estimated forfeitures, related to stock option grants which is expected to be recognized over a weighted-average remaining period of 2.4 years.

14

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

10. Shareholders’ Equity

On February 26, 2016, the Company's Board of Directors authorized a share repurchase program covering up to $25.0 million in the aggregate of the Company's common stock and warrants which was effective immediately and expires upon completion of the repurchase program, unless terminated earlier by the Board of Directors. On August 23, 2016, the Company announced that the Board of Directors increased the repurchase program by $25.0 million, to $50.0 million. Purchases under the program may be made in open market or privately negotiated transactions. During the twelve weeks ended March 27, 2018, the Company repurchased 9,811 warrants for an average price per warrant of $3.37 for an aggregate cost of approximately $33,000, including incremental direct costs to acquire the warrants. The Company expects to retire the repurchased shares and therefore has accounted for them as constructively retired as of March 27, 2018. As of March 27, 2018, there was approximately $20.9 million remaining under the share repurchase program. The Company has no obligations to repurchase shares or warrants under this authorization, and the timing and value of shares and warrants purchased will depend on the Company's stock price, warrant price, market conditions and other factors.

11. Earnings per Share

Basic income per share is calculated by dividing net income attributable to Del Taco’s common shareholders for the period by the weighted average number of common shares outstanding for the period. In computing dilutive income per share, basic income per share is adjusted for the assumed issuance of all applicable potentially dilutive share-based awards, including warrants, restricted stock, common stock options and restricted stock units.

Below are basic and diluted net income per share for the periods indicated (amounts in thousands except share and per share data):

 

		12 Weeks Ended
		March 27, 2018				March 28, 2017
Numerator:
Net income		$	3,229			$	4,238
Denominator:
Weighted-average shares outstanding - basic		38,441,707				39,003,935
Dilutive effect of unvested restricted stock		306,583				454,810
Dilutive effect of stock options		21,454				23,190
Dilutive effect of warrants		454,326				893,126
Weighted-average shares outstanding - diluted		39,224,070				40,375,061
Net income per share - basic		0.08				$	0.11
Net income per share - diluted		0.08				$	0.10
Antidilutive stock options, unvested restricted stock awards and warrants excluded from the computations		128,048				36,500

Antidilutive stock options, unvested restricted stock and warrants were excluded from the computation of diluted net income per share due to the assumed proceeds from the award’s exercise or vesting being greater than the average market price of the common shares.

12. Income Taxes

The effective income tax rates were 27.1% and 40.1% for the twelve weeks ended March 27, 2018 and March 28, 2017, respectively. The provision for income taxes consisted of income tax expense of $1.2 million and $2.8 million for the twelve weeks ended March 27, 2018 and March 28, 2017, respectively.

The income tax expense for the twelve weeks ended March 27, 2018 is driven by the estimated effective income tax rate of 27.1% which primarily consists of statutory federal and state tax rates based on apportioned income and the impact of non-tax

15

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

deductible compensation to executives partially offset by federal targeted job credits. The income tax expense for the twelve weeks ended March 28, 2017 is driven by the estimated effective income tax rate of 40.1% which primarily consists of statutory federal and state tax rates based on apportioned income, partially offset by federal targeted job credits.

On December 22, 2017, the Tax Cuts and Jobs Act, (the “Act”) was enacted, reducing the U.S. federal corporate income tax rate from 35% to 21%, among other changes, for tax years beginning after December 31, 2017.

The SEC staff issued Staff Accounting Bulletin 118, ("SAB 118") which provides guidance on accounting for the tax effects of the Act for which the accounting under ASC 740, Income Taxes (“ASC 740”) is incomplete. To the extent that a company's accounting for certain income tax effects of the Act is incomplete but it is able to determine a reasonable estimate, it must record a provisional estimate in the financial statements. If a company cannot determine a provisional estimate to be included in the financial statements, it should continue to apply ASC 740 on the basis of the provisions of the tax laws that were in effect immediately before enactment of the Act.

The Company re-measured the applicable deferred tax assets and liabilities based on the rates at which they are expected to reverse. However, the Company is still analyzing certain aspects of the Act and refining its calculations, which could potentially affect the measurement of these balances or potentially give rise to new deferred tax amounts. The Company will continue to analyze additional information and guidance related to the Act as supplemental legislation, regulatory guidance, or evolving technical interpretations become available. The final impacts may differ from the recorded amounts as of March 27, 2018, and the Company will continue to refine such amounts within the measurement period provided by SAB 118. The Company expects to complete its analysis no later than the fourth quarter of 2018.

Management believes it is more likely than not that all deferred tax assets will be realized and therefore no valuation allowance as of March 27, 2018 and January 2, 2018 is required.

13. Commitments and Contingencies

The primary claims in the Company’s business are workers’ compensation and general liabilities. These insurance programs are self-insured or high deductible programs with excess coverage that management believes is sufficient to adequately protect the Company. In the opinion of management, adequate provision has been made for all incurred claims up to the self-insured or high deductible limits, including provision for estimated claims incurred but not reported. Because of the uncertainty of the ultimate resolution of outstanding claims, as well as the uncertainty regarding claims incurred but not reported, it is possible that management’s provision for these losses could change materially. However, no estimate can currently be made of the range of additional losses.

Purchasing Commitments

The Company enters into various purchase obligations in the ordinary course of business, generally of short term nature. Those that are binding primarily relate to commitments for food purchases and supplies, amounts owed under contractor and subcontractor agreements, orders submitted for equipment for restaurants under construction, information technology service agreements and marketing initiatives, some of which are related to both company-operated and franchise-operated locations. The Company also has a long-term beverage supply agreement with a major beverage vendor whereby marketing rebates are provided to the Company and its franchisees based upon the volumes of purchases for system-wide restaurants which vary according to demand for beverage syrup. This contract has terms extending into 2021. The Company’s future estimated cash payments under existing contractual purchase obligations for goods and services as of March 27, 2018, are approximately $67.5 million. The Company has excluded agreements that are cancelable without penalty.

Litigation

In March 2014, a former Del Taco employee filed a purported class action complaint alleging that Del Taco has not appropriately provided meal breaks and failed to pay wages to its California hourly employees. Discovery is in process and Del Taco intends to assert all of its defenses to this threatened class action and the individual claims. Del Taco has several defenses to the action that it believes could prevent the certification of the class, as well as the potential assessment of any damages on a

16

---

Table of Contents

Del Taco Restaurants, Inc.

Notes to Consolidated Financial Statements (continued)

(Unaudited)

class basis. Legal proceedings are inherently unpredictable, and the Company is not able to predict the ultimate outcome or cost of the unresolved matter. However, based on management’s current understanding of the relevant facts and circumstances, the Company does not believe that these proceedings give rise to a probable or estimable loss and should not have a material adverse effect on the Company’s financial position, operations or cash flows. Therefore, Del Taco has not recorded any amount for the claim as of March 27, 2018.

The Company and its subsidiaries are parties to other legal proceedings incidental to their businesses, including claims alleging the Company’s restaurants do not comply with the Americans with Disabilities Act of 1990. In the opinion of management, based upon information currently available, the ultimate liability with respect to those other actions will not have a material effect on the operating results, cash flows or the financial position of the Company. However, due to the risks and uncertainties inherent in legal proceedings and litigation, actual results could differ from expectations.

17

---

Table of Contents

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis of financial condition and results of operations should be read in conjunction with the Company's audited consolidated financial statements for the fiscal year ended January 2, 2018, and related notes thereto, along with the related Management’s Discussion and Analysis of Financial Condition and Results of Operations included in the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission (“SEC”) on March 15, 2018.

In addition to historical information, this discussion and analysis contains forward-looking statements that involve risks and uncertainties such as the number of restaurants we intend to open and estimates of our effective tax rates. We use words such as “estimates,” “projected,” “expects,” “anticipates,” “forecasts,” “plans,” “intends,” “believes,” “seeks,” “may,” “will,” “should,” “future,” “propose,” “preliminary,” “guidance” and variations of these words or similar expressions (or the negative versions of such words or expressions) to identify forward-looking statements.  These statements are based on assumptions and information available to us as of the date any such statements are made and are subject to risks and uncertainties.  These risks and uncertainties include, without limitation, consumer demand, our inability to successfully open company-operated or franchise-operated restaurants or establish new markets, competition in our markets, our inability to grow and manage growth profitably, adverse changes in food and supply costs, our inability to access additional capital, changes in applicable laws or regulations, food safety and foodborne illness concerns, our inability to manage existing and to obtain additional franchisees, our inability to attract and retain qualified personnel, our inability to profitably expand into new markets, and the possibility that we may be adversely affected by other economic, business, and/or competitive factors.  Our actual results may differ materially from those anticipated in these forward-looking statements due to these risks and uncertainties, as well as others, including, without limitation, those discussed in Item 1A. Risk Factors in our Annual Report on Form 10-K for our fiscal year ended January 2, 2018. We assume no obligation to update or revise these forward-looking statements as a result of new information, future events or any other reason.

Fiscal Year

We operate on a 52- or 53-week fiscal year ending on the Tuesday closest to December 31 for financial reporting purposes. Fiscal year 2017 is the 52-week period ended January 2, 2018 ("Fiscal 2017"). Fiscal year 2018 will be a 52-week period ended January 1, 2019 ("Fiscal 2018").

Overview

We are a nationwide operator and franchisor of restaurants featuring fresh and fast cuisine, including both Mexican inspired and American classic dishes. As of March 27, 2018, we have 566 Del Taco restaurants, a majority of these in the Pacific Southwest. In each of our restaurants, our food is made to order in working kitchens. We serve our customers fresh and high-quality food typical of fast casual restaurants but with the speed, convenience and value associated with traditional quick service restaurants (“QSRs”). With attributes of both a fast casual restaurant and a QSR — a combination we call QSR+ — we occupy a place in the restaurant market distinct from our competitors. With a menu designed to appeal to a wide variety of budgets and tastes and recently updated interior and exterior designs across most of our entire system, we believe that we are poised for growth, operating within the fastest growing segment of the restaurant industry, the limited service restaurant (“LSR”) segment. With an average system check of $7.41 during Fiscal 2017, we offer a compelling value proposition relative to both QSR and fast casual peers.

18

---

Table of Contents

Highlights and Trends

First Quarter 2018 Highlights

Our first quarter 2018 results and highlights include the following:

•	Total revenues increased 6.8% for the twelve weeks ended March 27, 2018 to $112.6 million compared to $105.3 million for the twelve weeks ended March 28, 2017 primarily due to growth in company-operated and franchise-operated same store sales and additional restaurants open during 2018 compared to 2017, as well as the impact of adopting new revenue recognition standards.

•	During the twelve weeks ended March 27, 2018, we opened a total of three new company-operated restaurants and closed one franchised restaurant. During the twelve weeks ended March 28, 2017, we opened a total of three new franchise-operated restaurants.

Same Store Sales

Same store sales growth reflects the change in year-over-year sales for the same store base. We include a restaurant in the same store base in the accounting period following its 18th full month of operations and exclude restaurant closures. The following table shows the same store sales growth for the twelve weeks ended March 27, 2018 and March 28, 2017:

	12 Weeks Ended
	March 27, 2018			March 28, 2017
Company-operated same store sales	2.6	%		4.0	%
Franchise-operated same store sales	5.2	%		4.4	%
System-wide same store sales	3.7	%		4.2	%

The increase in company-operated same store sales in the twelve weeks ended March 27, 2018 was driven by an increase in average check size of 2.6% compared to the twelve weeks ended March 28, 2017. The increase in company-operated same store sales in the twelve weeks ended March 28, 2017 was driven by an increase in average check size of 3.7% and an increase in traffic of 0.3% compared to the twelve weeks ended March 22, 2016.

Restaurant Development

Del Taco restaurant counts at the end of the twelve weeks ended March 27, 2018 and March 28, 2017, are as follows: 

		12 Weeks Ended
		March 27, 2018			March 28, 2017
Company-operated restaurant activity:
Beginning of period		312			310
Openings		3			—
Closures		—			—
Sold to franchisees		—			(5	)
Restaurants at end of period		315			305
Franchise-operated restaurant activity:
Beginning of period		252			241
Openings		—			3
Closures		(1	)		—
Purchased from Company		—			5
Restaurants at end of period		251			249
Total restaurant activity:
Beginning of period		564			551
Openings		3			3
Closures		(1	)		—
Restaurants at end of period		566			554

19

---

Table of Contents

Since 2012, we have focused on repositioning our brand, increasing brand awareness, re-imaging our restaurants, strengthening operational capabilities and refinancing indebtedness to build a foundation for future organic and new unit growth. New restaurant development is expected to contribute to our growth strategy. We currently plan to open an estimated 25 to 28 system-wide restaurants in Fiscal 2018. From time to time, we and our franchisees may close restaurants.

Key Performance Indicators

In assessing the performance of our business, management utilizes a variety of financial and performance measures.

These key measures include company restaurant sales, same store sales, company-operated average unit volumes, restaurant contribution and restaurant contribution margin, number of new restaurant openings, EBITDA and Adjusted EBITDA.

Company Restaurant Sales

Company restaurant sales consists of sales of food and beverages in company-operated restaurants net of promotional allowances, employee meals and other discounts. Company restaurant sales in any period is directly influenced by the number of operating weeks in such period, the number of open restaurants, same store sales and per restaurant sales.

Seasonal factors and the timing of holidays cause revenue to fluctuate from quarter to quarter. Revenue per restaurant is typically lower in the first quarter due to reduced January traffic. As a result of seasonality, quarterly and annual results of operations and key performance indicators such as company restaurant sales and same store sales may fluctuate.

Same Store Sales Growth

We regularly monitor company, franchise and total system same store sales. Same store sales growth reflects the change in year-over-year sales for the comparable company, franchise and total system restaurant base. We include a restaurant in the same store base in the accounting period following its 18th full month of operations and exclude restaurant closures. As of March 27, 2018 and March 28, 2017, there were 292 and 295 restaurants, respectively, in the comparable company-operated restaurant base. As of March 27, 2018 and March 28, 2017, there were 241 and 235 restaurants, respectively, in the comparable franchise-operated restaurant base. This measure highlights the performance of existing restaurants as the impact of new restaurant openings is excluded. Same store sales growth can be generated by an increase in the number of transactions and/or by increases in the average check resulting from a shift in menu mix and/or higher prices resulting from new products, promotions or price increases.

Company-Operated Average Unit Volumes

We measure company-operated average unit volumes (AUVs) on both a weekly and an annual basis. Weekly AUVs are calculated by dividing the sales from comparable company-operated restaurants over a seven day period from Wednesday to Tuesday by the number of comparable restaurants. Annual AUVs are calculated by dividing sales for the trailing 52-week period for all company-operated restaurants that are in the comparable base by the total number of restaurants in the comparable base for such period. This measurement allows management to assess changes in consumer traffic and spending patterns at our company-operated restaurants and the overall performance of the restaurant base.

Restaurant Contribution and Restaurant Contribution Margin

Restaurant contribution and restaurant contribution margin are neither required by, nor presented in accordance with U.S. GAAP. Restaurant contribution is defined as company restaurant sales less restaurant operating expenses, which are food and paper costs, labor and related expenses and occupancy and other operating expenses. Restaurant contribution margin is defined as restaurant contribution as a percentage of company restaurant sales. Restaurant contribution and restaurant contribution margin are supplemental measures of operating performance of restaurants and the calculations thereof may not be comparable to those reported by other companies. Restaurant contribution and restaurant contribution margin have limitations as analytical tools, and you should not consider them in isolation or as substitutes for analysis of results as reported under U.S. GAAP. Management believes that restaurant contribution and restaurant contribution margin are important tools for investors because they are widely-used metrics within the restaurant industry to evaluate restaurant-level productivity, efficiency and performance. Management uses restaurant contribution and restaurant contribution margin as key performance indicators to evaluate the profitability of incremental sales at Del Taco restaurants, to evaluate restaurant performance across periods and to evaluate restaurant financial performance compared with competitors. See the heading entitled "Management's Use of Non-GAAP Financial Measures" for the reconciliation of restaurant contribution to company restaurant sales.

20

---

Table of Contents

Number of New Restaurant Openings

The number of restaurant openings reflects the number of new restaurants opened by us and our franchisees during a particular reporting period. Before a new restaurant opens, we and our franchisees incur pre-opening costs, as described below. Some new restaurants open with an initial start-up period of higher than normal sales volumes, which subsequently decrease to stabilized levels. Typically new restaurants experience normal inefficiencies in the form of higher food and paper, labor and other direct operating expenses and, as a result, restaurant contribution margins are generally lower during the start-up period of operation. Typically, the average start-up period after which new company restaurant sales and restaurant operating expenses normalize is approximately 26 to 52 weeks. In new markets, the length of time before average company restaurant sales and restaurant operating expenses for new restaurants stabilize is less predictable and can be longer as a result of limited knowledge of these markets and consumers’ limited awareness of our brand. When we enter new markets, we may be exposed to start-up times that are longer and restaurant contribution margins that are lower than typical historical experience, and these new restaurants may not be profitable and their sales performance may not follow historical patterns.

EBITDA and Adjusted EBITDA

EBITDA represents net income (loss) before interest expense, provision for income taxes, depreciation and amortization. Adjusted EBITDA represents net income (loss) before interest expense, provision for income taxes, depreciation, amortization and items that we do not consider representative of ongoing operating performance, as identified in the reconciliation table under the heading entitled "Management's Use of Non-GAAP Financial Measures."

EBITDA and Adjusted EBITDA as presented in this quarterly report are supplemental measures of performance that are neither required by, nor presented in accordance with U.S. GAAP. EBITDA and Adjusted EBITDA are not measurements of financial performance under U.S. GAAP and should not be considered as alternatives to net income (loss), income from operations or any other performance measures derived in accordance with U.S. GAAP or as alternatives to cash flow from operating activities as a measure of liquidity. In addition, in evaluating EBITDA and Adjusted EBITDA, you should be aware that in the future we may incur expenses or charges such as those added back to calculate EBITDA and Adjusted EBITDA. Our presentation of EBITDA and Adjusted EBITDA should not be construed as an inference that future results will be unaffected by unusual or nonrecurring items.

EBITDA and Adjusted EBITDA have limitations as analytical tools, and you should not consider them in isolation, or as substitutes for analysis of results as reported under U.S. GAAP. Some of these limitations include but are not limited to:

 

(i)	they do not reflect cash expenditures, or future requirements for capital expenditures or contractual commitments;

(ii)	they do not reflect changes in, or cash requirements for, working capital needs;

(iii)	they do not reflect the significant interest expense, or the cash requirements necessary to service interest or principal payments, on debt;

(iv)	although depreciation and amortization are non-cash charges, the assets being depreciated and amortized will often have to be replaced in the future, and EBITDA and Adjusted EBITDA do not reflect any cash requirements for such replacements;

(v)	they do not adjust for all non-cash income or expense items that are reflected in the statements of cash flows;

(vi)	they do not reflect the impact of earnings or charges resulting from matters we consider not to be indicative of ongoing operations; and

(vii)	other companies in the industry may calculate these measures differently than we do, limiting their usefulness as comparative measures.

We compensate for these limitations by providing specific information regarding the U.S. GAAP amounts excluded from such non-GAAP financial measures. We further compensate for the limitations in the use of non-GAAP financial measures by presenting comparable U.S. GAAP measures more prominently.

We believe EBITDA and Adjusted EBITDA facilitate operating performance comparisons from period to period by isolating the effects of some items that vary from period to period without any correlation to core operating performance or that vary widely among similar companies. These potential differences may be caused by variations in capital structures (affecting interest expense), tax positions (such as the impact on periods or changes in effective tax rates or net operating losses) and the age and book depreciation of facilities and equipment (affecting relative depreciation expense). We also present EBITDA and Adjusted EBITDA because (i) we believe these measures are frequently used by securities analysts, investors and other interested parties to evaluate companies in their industry, (ii) we believe investors will find these measures useful in assessing our ability to service or incur indebtedness, and (iii) we use EBITDA and Adjusted EBITDA internally as benchmarks to

21

---

Table of Contents

compare performance to that of competitors. See the heading entitled "Management's Use of Non-GAAP Financial Measures" for the reconciliation of EBITDA and Adjusted EBITDA to net income (loss).

Key Financial Definitions

Company Restaurant Sales

Company restaurant sales represents sale of food and beverages in company-operated restaurants, net of promotional allowances, employee meals and other discounts. Company restaurant sales in any period is directly influenced by the number of operating weeks in such period, the number of open restaurants, same store sales performance and per restaurant sales.

Franchise Revenue

Franchise revenue consists of franchise royalty income from the franchisee and, to a lesser extent, renewal fees and franchise fees from franchise owners for new franchise restaurant openings, as well as other franchise fees. Franchise fees are collected upon signing a franchise agreement and deferred and recognized as revenue over the term of the franchise agreement and renewal fees are deferred and recognized over the term of the renewal agreement.

Franchise Advertising Contributions

Franchise advertising contributions consists of a percentage of franchise restaurant's net sales, typically 4%, paid to the Company for advertising and promotional services that the Company provides.

Franchise Sublease Income

Franchise sublease income consists of rental income received from franchisees related to properties where we have subleased a leasehold interest to the franchisee but remain primarily liable to the landlord.

Food and Paper Costs

Food and paper costs include the direct costs associated with food, beverage and packaging of menu items. The components of food and paper costs are variable in nature, change with sales volume and are impacted by menu mix and are subject to increases or decreases based on fluctuations in commodity costs. Other important factors causing fluctuations in food and paper costs include seasonality, promotional activity and restaurant level management of food and paper waste. Food and paper are a significant expense and can be expected to grow proportionally as company restaurant sales grows.

Labor and Related Expenses

Labor and related expenses include all restaurant-level management and hourly labor costs, including wages, benefits, bonuses, workers’ compensation expense, group health insurance, paid leave and payroll taxes. Like other expense items, we expect labor and related expenses to grow proportionately as company restaurant sales grows. Factors that influence fluctuations in labor and related expenses include minimum wage, paid sick leave and payroll tax legislation, health care and workers compensation costs and the performance of Del Taco restaurants.

Occupancy and Other Operating Expenses

Occupancy and other operating expenses include all other restaurant-level operating expenses, such as rent, utilities, restaurant supplies, repairs and maintenance, credit and debit card processing fees, advertising, insurance, common area maintenance, real estate taxes and other restaurant operating costs.

General and Administrative Expenses

General and administrative expenses are comprised of expenses associated with corporate and regional supervision functions that support the operations of existing restaurants and development of new restaurants, including compensation and benefits, travel expenses, stock-based compensation expenses, legal and professional fees, information systems, corporate office occupancy costs and other related corporate costs. Also included are expenses above the restaurant level, including salaries for field management, such as area and regional managers, and franchise operational support. General and administrative expenses are expected to grow as we grow, including incremental legal, accounting, insurance, investor relations and other expenses that will be incurred as a public company.

22

---

Table of Contents

Franchise Advertising Expenses

Franchise advertising expenses consist of the franchise portion of advertising expense.

Depreciation and Amortization

Depreciation and amortization expenses are periodic non-cash charges that consist of depreciation of fixed assets, including leasehold improvements and equipment, and amortization of various intangible assets primarily including franchise rights.

Occupancy and Other – Franchise Subleases

Occupancy and other – franchise subleases includes rent, property taxes and common area maintenance paid on properties subleased to franchisees where we remain primarily liable to the landlord.

Pre-opening Costs

Pre-opening costs are incurred in connection with opening of new restaurants and incurred prior to opening, including restaurant labor related to the hiring and training of restaurant employees, as well as supplies, occupancy and other operating expenses associated with the opening of new restaurants. Pre-opening costs are expensed as incurred.

Restaurant Closure Charges, Net

Restaurant closure charges, net, consists primarily of the future obligations associated with the closure or net sublease shortfall of a restaurant, including the present value of future lease obligations net of estimated sublease income, if any, accretion of the liability during the reporting period, any positive or negative adjustments to the liability as more information becomes available, sublease income from leases which are treated as deemed landlord financing as well as direct costs related to the restaurant closure.

Loss (Gain) on Disposal of Assets, Net

Loss on disposal of assets, net includes the loss on disposal of assets related to sales, retirements and replacement or write-off of leasehold improvements, furniture, fixtures or equipment in the ordinary course of business, net of amortization of deferred gains on asset sales associated with sale-leaseback transactions and gains or losses recorded associated with the sale of company-operated stores to franchisees.

Interest Expense

Interest expense consists primarily of interest expense on outstanding debt including capital lease obligations and deemed landlord financing liabilities. Deferred financing costs and debt discount are amortized at cost over the life of the related debt.

Provision for Income Taxes

Provision for income taxes consists of federal and state current and deferred income tax expense.

23

---

Table of Contents

Results of Operations

Comparison of Results of Operations for the Twelve Weeks Ended March 27, 2018 and Twelve Weeks Ended March 28, 2017

The following table presents operating results for the twelve weeks ended March 27, 2018 and twelve weeks ended March 28, 2017, in absolute terms and expressed as a percentage of total revenue (or company restaurant sales), as compared below:

 

		12 Weeks Ended
		March 27, 2018							March 28, 2017							Increase / (Decrease)
(Dollar amounts in thousands)		($)				(%)			($)				(%)			($)				(%)
Statement of Operations Data:
Revenue:
Company restaurant sales		$	105,109			93.4	%		$	101,222			96.1	%		$	3,887			3.8	%
Franchise revenue		3,792				3.4			3,613				3.4			179				5.0
Franchise advertising contributions		2,936				2.6			—				—			2,936				*
Franchise sublease income		717				0.6			510				0.5			207				40.6
Total revenue		112,554				100.0			105,345				100.0			7,209				6.8
Operating expenses
Restaurant operating expenses:
Food and paper costs		28,973				27.6		(1)	27,918				27.6		(1)	1,055				3.8
Labor and related expenses		34,818				33.1		(1)	33,221				32.8		(1)	1,597				4.8
Occupancy and other operating expenses		21,986				20.9		(1)	20,718				20.5		(1)	1,268				6.1
Total restaurant operating expenses		85,777				81.6		(1)	81,857				80.9		(1)	3,920				4.8
General and administrative		10,429				9.3			9,305				8.8			1,124				12.1
Franchise advertising expenses		2,936				2.6			—				—			2,936				*
Depreciation and amortization		5,914				5.3			5,103				4.8			811				15.9
Occupancy and other-franchise subleases		638				0.6			481				0.5			157				32.6
Pre-opening costs		442				0.4			26				*			416				*
Restaurant closure charges, net		(13		)		*			9				*			(22		)		*
Loss (gain) on disposal of assets, net		93				0.1			(49		)		*			142				*
Total operating expenses		106,216				94.4			96,732				91.6			9,484				9.8
Income from operations		6,338				5.6			8,613				8.4			(2,275		)		(26.4	)
Other expense
Interest expense		1,910				1.7			1,543				1.5			367				23.8
Total other expense		1,910				1.7			1,543				1.5			367				23.8
Income from operations before provision for income taxes		4,428				3.9			7,070				6.7			(2,642		)		(37.4	)
Provision for income taxes		1,199				1.1			2,832				2.7			(1,633		)		(57.7	)
Net income		$	3,229			2.9	%		$	4,238			4.0	%		$	(1,009	)		(23.8	)%

(1)	As a percentage of company restaurant sales.

*	Immaterial/not meaningful

 Company Restaurant Sales

Company restaurant sales increased $3.9 million, or 3.8%, for the twelve weeks ended March 27, 2018, primarily due to an increase in company-operated same store sales of 2.6% as well as additional restaurants open during 2018 compared to 2017. The growth in company-operated same store sales was primarily the result of an increase in average check size of 2.6% compared to the prior period.

24

---

Table of Contents

Franchise Revenue

Franchise revenue increased $0.2 million, or 5.0%, for the twelve weeks ended March 27, 2018, primarily due to an increase in franchise-operated same store sales of 5.2% and additional restaurants open during 2018 compared to 2017, partially offset by a reduction in initial fees.

Franchise Advertising Contributions

Franchise advertising contributions were $2.9 million for the twelve weeks ended March 27, 2018. There were no franchise advertising contributions for the twelve weeks ended March 28, 2017 since we adopted new revenue recognition standards at the start of fiscal 2018. See footnote 2 for more information regarding the requirements for the new revenue recognition standards.

Franchise Sublease Income

Franchise sublease income increased $0.2 million, or 40.6%, for the twelve weeks ended March 27, 2018, primarily due to sublease income related to the sale of company-operated stores to franchisees during the first quarter of 2017 in which we retained the leasehold interest to the real estate.

Food and Paper Costs

Food and paper costs increased $1.1 million, or 3.8% for the twelve weeks ended March 27, 2018 due to an increase in company restaurant sales and the impact of modest commodity cost inflation. As a percentage of company restaurant sales, food and paper costs remained the same at 27.6% for the twelve weeks ended March 27, 2018 compared to the twelve weeks ended March 28, 2017. This consistent percentage was the result of modest menu price increases that offset the impact of modest commodity inflation.

Labor and Related Expenses

Labor and related expenses increased $1.6 million, or 4.8% for the twelve weeks ended March 27, 2018, primarily due to increased labor costs resulting from a California minimum wage increase on January 1, 2018, a Los Angeles minimum wage increase on July 1, 2017 and an increase in payroll related taxes, partially offset by a reduction in workers compensation expense based on lower payments and reserves related to underlying claims activity. As a percentage of company restaurant sales, labor and related expenses were 33.1% for the twelve weeks ended March 27, 2018 compared to 32.8% for the twelve weeks ended March 28, 2017. This percentage increase resulted primarily from the impact of the increased California minimum wage and Los Angeles minimum wage and increased payroll tax expense discussed above, mostly offset by the impact of modest menu price increases and reduced workers compensation expense.

Occupancy and Other Operating Expenses

Occupancy and other operating expenses increased $1.3 million, or 6.1% for the twelve weeks ended March 27, 2018, primarily due to increases in advertising, occupancy costs, repairs and maintenance expense and credit and debit card processing fees. As a percentage of company restaurant sales, occupancy and other operating expenses were 20.9% for the twelve weeks ended March 27, 2018 compared to 20.5% for the twelve weeks ended March 28, 2017. This percentage increase resulted primarily from increased advertising based on the timing of expenditures, as well as increased repairs and maintenance expense, occupancy costs and credit and debit card processing fees discussed above.

General and Administrative Expenses

General and administrative expenses increased $1.1 million, or 12.1% for the twelve weeks ended March 27, 2018, primarily due to an increase in stock-based compensation, legal and related expenses, incremental public company costs to support Sarbanes-Oxley Section 404(b) compliance in 2018 and the expense side of the other franchise revenues that are now reported on a gross basis, partially offset by a reduction in performance-based management incentive compensation. As a percentage of total revenue, general and administrative expense was 9.3% for the twelve weeks ended March 27, 2018 compared to 8.8% for the twelve weeks ended March 28, 2017. The increase as a percent of total revenue was due to the increases described above, partially offset by the decrease discussed above and the impact of increased revenues.

25

---

Table of Contents

Franchise Advertising Expenses

Franchise advertising expenses were $2.9 million for the twelve weeks ended March 27, 2018 and directly related to franchise advertising expenses. These amounts offset against franchise advertising contributions included in revenue. There were no franchise advertising expenses for the twelve weeks ended March 28, 2017 since we adopted new revenue recognition standards at the start of fiscal 2018. See footnote 2 for more information regarding the requirements for the new revenue recognition standards.

Depreciation and Amortization

Depreciation and amortization expenses increased $0.8 million, or 15.9% for the twelve weeks ended March 27, 2018, primarily due to the addition of new assets and the write-off of a franchise right asset related to the franchise restaurant that closed in the first quarter. As a percentage of total revenue, depreciation and amortization expenses was 5.3% for the twelve weeks ended March 27, 2018 compared to 4.8% for the twelve weeks ended March 28, 2017.

Occupancy and Other – Franchise Sublease

Occupancy and other – franchise sublease was $0.6 million and $0.5 million for the twelve weeks ended March 27, 2018 and March 28, 2017, respectively. The increase was primarily due to sublease expense related to the sale of company-operated restaurants to franchisees during the first quarter of 2017.

Pre-opening Costs

Pre-opening costs were $0.4 million for the twelve weeks ended March 27, 2018 compared to $26,000 for the twelve weeks ended March 28, 2017. The increase was due to an increased level of pre-opening activity compared to the prior year.

Restaurant Closure Charges, Net

Restaurant closure charges, net, were $(13,000) for the twelve weeks ended March 27, 2018 compared to $9,000 for the twelve weeks ended March 28, 2017. The current quarter activity primarily includes sublease income from leases which are treated as deemed landlord financing, partially offset by accretion expense. The twelve weeks ended March 28, 2017 includes accretion expense, partially offset by sublease income from leases which are treated as deemed landlord financing.

Loss (Gain) on Disposal of Assets, Net

Loss (gain) on disposal of assets, net was $0.1 million and $(49,000) for the twelve weeks ended March 27, 2018 and March 28, 2017, respectively. Current year net loss was primarily related to write-off of leasehold improvements associated with two temporary company restaurant closures, mostly offset by insurance recovery and a gain on the disposal of assets. The two temporary closures were related to a fire at one restaurant and a construction defect matter at another restaurant. We expect to record future gains related to additional insurance proceeds and legal recoveries and expect the temporary closures will impact per week operating results until the restaurants reopen in the fourth quarter of 2018 or first half of 2019. Prior year net gain was related to net gains recorded associated with the sale of company-operated stores to franchisees.

Interest Expense

Interest expense was $1.9 million and $1.5 million for the twelve weeks ended March 27, 2018 and March 28, 2017, respectively. The increase is primarily due to an increase in interest rates and a higher level of debt outstanding compared to the prior year.

Provision for Income Taxes

The effective income tax rates were 27.1% for the twelve weeks ended March 27, 2018 compared to 40.1% for the twelve weeks ended March 28, 2017. The provision for income taxes consisted of income tax expense of $1.2 million for the twelve weeks ended March 27, 2018 and $2.8 million for the twelve weeks ended March 28, 2017. The income tax expense related to the twelve weeks ended March 27, 2018 is driven by our estimated annual effective income tax rate which primarily consists of statutory federal and state tax rates based on apportioned income and the impact of non-tax deductible compensation to executives, partially offset by federal targeted job credits. The income tax expense related to the twelve weeks ended March 28, 2017 is driven by our estimated annual effective income tax rate which primarily consists of statutory federal and state tax rates based on apportioned income, partially offset by federal targeted job credits.

26

---

Table of Contents

Liquidity and Capital Resources

Potential Impacts of Market Conditions on Capital Resources

In recent years, we have experienced increases in same store sales and restaurant contribution. However, the restaurant industry is highly competitive and uncertainty exists as to the sustainability of these favorable trends.

We believe that expected cash flow from operations, available cash of $10.0 million at March 27, 2018 and available borrowing capacity of $77.8 million at March 27, 2018 will be adequate to fund debt service requirements, operating lease obligations, capital expenditures and working capital obligations for at least the next 12 months. However, the ability to continue to meet these requirements and obligations will depend on, among other things, the ability to achieve anticipated levels of revenue and cash flow and the ability to manage costs and working capital successfully.

Summary of Cash Flows

Our primary sources of liquidity and capital resources have been cash provided from operations, cash and cash equivalents, and our senior secured credit facilities. Our primary requirements for liquidity and capital are new restaurants, existing restaurant capital investments (primarily maintenance and roll-out of equipment related to our strategy to emphasize freshness and speed), investments in infrastructure and information technology, interest payments on debt, lease obligations, income tax payments, purchases under our share and warrant repurchase program and working capital and general corporate needs. The working capital requirements are not significant since customers pay for their purchases in cash or by payment card (credit or debit) at the time of sale. Thus, we are able to sell many inventory items before we have to pay suppliers for such items since we typically have payment terms for our food and paper suppliers. Our company-operated restaurants do not require significant inventories.

The following table presents summary cash flow information for the periods indicated (in thousands).

 

		12 Weeks Ended
		March 27, 2018				March 28, 2017
Net cash provided by (used in)
Operating activities		$	12,400			$	12,628
Investing activities		(9,495		)		(3,659		)
Financing activities		574				(8,448		)
Net increase in cash		$	3,479			$	521

Cash Flows Provided by Operating Activities

In the twelve weeks ended March 27, 2018, cash flows provided by operating activities were $12.4 million. The cash flows provided by operating activities resulted from net income of $3.2 million, non-cash adjustments for asset depreciation and amortization of $5.9 million and stock-based compensation of $1.3 million, deferred income taxes of $0.3 million, a loss on disposal of assets of $0.1 million and net working capital requirements of $1.6 million.

In the twelve weeks ended March 28, 2017, cash flows provided by operating activities were $12.6 million. The cash flows provided by operating activities resulted from net income of $4.2 million, non-cash adjustment for asset depreciation and amortization of $5.0 million, stock-based compensation of $1.1 million, deferred income taxes of $0.2 million and net working capital requirements of $2.1 million.

Cash Flows Used in Investing Activities

In the twelve weeks ended March 27, 2018, cash flows used in investing activities were $9.5 million, which were primarily the result of purchase of property and equipment and other assets of $10.1 million, partially offset by proceeds from the disposal of property and equipment for $0.6 million.

In the twelve weeks ended March 28, 2017, cash flows used in investing activities were $3.7 million, which were primarily the result of the purchase of property and equipment and other assets of $5.9 million, partially offset by proceeds from the sale of five company-operated restaurants for $2.2 million.

27

---

Table of Contents

Cash Flows Used in Financing Activities

In the twelve weeks ended March 27, 2018, cash flows provided by financing activities were $0.6 million. The cash flows provided by financing activities were primarily the result of proceeds from exercise of stock options of $48,000, offset by the repurchase of 9,811 warrants for an aggregate purchase price of $33,000, including incremental direct costs to acquire the shares and warrants, payments of tax withholding of $0.1 million related to restricted stock vesting and payments on capital lease and deemed landlord financing totaling $0.4 million. In addition, during the twelve weeks ended March 27, 2018, we borrowed $5.0 million on the revolving credit facility and made payments of $4.0 million on the revolving credit facility.

In the twelve weeks ended March 28, 2017, cash flows used in financing activities were $8.4 million. The cash flows used in financing activities were primarily the result of the repurchase of approximately 641,165 shares of our common stock for an aggregate purchase price of $8.0 million, including incremental direct costs to acquire the shares, payments on capital lease and deemed landlord financing totaling $0.4 million and payments of tax withholding of $0.1 million related to restricted stock vesting. During the twelve weeks ended March 28, 2017, we borrowed $3.0 million on the revolving credit facility and made payments of $3.0 million on the revolving credit facility.

Debt and Other Obligations

Senior Credit Facility

On August 4, 2015, we refinanced our existing senior credit facility and entered into the 2015 Senior Credit Facility which matures on August 4, 2020, and provides for a $250 million revolving credit facility. The 2015 Senior Credit Facility contains certain financial covenants, including the maintenance of a consolidated total lease adjusted leverage ratio and a consolidated fixed charge coverage ratio. We were in compliance with the financial covenants as of March 27, 2018.

The 2015 Senior Credit Facility does not have scheduled principal payments until its maturity on August 4, 2020.

At March 27, 2018, the weighted-average interest rate on the outstanding balance of the 2015 Senior Credit Facility was 3.4%. As of March 27, 2018 there were $154.0 million of borrowings under the 2015 Senior Credit Facility and letters of credit outstanding of $18.2 million. Unused borrowing capacity at March 27, 2018 was $77.8 million.

Hedging Arrangements

In June 2016, we entered into an interest rate cap agreement that became effective July 1, 2016, to hedge cash flows associated with interest rate fluctuations on variable rate debt, with a termination date of March 31, 2020 ("2016 Interest Rate Cap Agreement"). The 2016 Interest Rate Cap Agreement had an initial notional amount of $70.0 million of the 2015 Senior Credit Facility that effectively converted that portion of the outstanding balance of the 2015 Senior Credit Facility from variable rate debt to capped variable rate debt, resulting in a change in the applicable interest rate from an interest rate of one-month LIBOR plus the applicable percentage (as provided by the 2015 Senior Credit Facility) to a capped interest rate of 2.00% plus the applicable percentage.

Stock Repurchase Program

In February 2016, the Board of Directors authorized a share repurchase program under which we may purchase up to $25.0 million in the aggregate of our common stock and warrants, which expires upon completion of the repurchase program, unless terminated earlier by the Board of Directors. On August 23, 2016, we announced that the Board of Directors increased the repurchase program by $25.0 million, to $50.0 million. Purchases under the program may be made in open market or privately negotiated transactions. During the twelve weeks ended March 27, 2018, we repurchased 9,811 warrants for an average price per warrant of $3.37 for an aggregate cost of approximately $33,000, including incremental direct costs to acquire the warrants. As of March 27, 2018, there was approximately $20.9 million remaining under the share repurchase program. We have no obligations to repurchase shares or warrants under this authorization, and the timing and value of shares and warrants purchased will depend on our stock price, warrant price, market conditions and other factors.

28

---

Table of Contents

Management's Use of Non-GAAP Financial Measures

A reconciliation of company restaurant sales to restaurant contribution is provided below (in thousands):

 

		12 Weeks Ended
		March 27, 2018				March 28, 2017
Company restaurant sales		$	105,109			$	101,222
Restaurant operating expenses		85,777				81,857
Restaurant contribution		$	19,332			$	19,365
Restaurant contribution margin		18.4		%		19.1		%

The following table sets forth reconciliations of net income to EBITDA and Adjusted EBITDA (in thousands):

 

		12 Weeks Ended
		March 27, 2018				March 28, 2017
Net income		$	3,229			$	4,238
Non-GAAP adjustments:
Provision for income taxes		1,199				2,832
Interest expense		1,910				1,543
Depreciation and amortization		5,914				5,103
EBITDA		12,252				13,716
Stock-based compensation expense (a)		1,274				1,069
Loss (gain) on disposal of assets, net (b)		93				(49		)
Restaurant closure charges, net (c)		(13		)		9
Amortization of favorable and unfavorable lease assets and liabilities, net (d)		(118		)		(147		)
Pre-opening costs (e)		442				26
Adjusted EBITDA		$	13,930			$	14,624

(a)	Includes non-cash, stock-based compensation.

(b)

Loss (gain) on disposal of assets, net includes the loss or gain on disposal of assets related to sales, retirements and replacement or write-off of leasehold improvements or equipment in the ordinary course of business, net of amortization of deferred gains on asset sales associated with sale-leaseback transactions, gains or losses recorded associated with the sale of company-operated restaurants to franchisees and gains or losses recorded associated with the sale of company-operated stores to franchisees.

(c)	Includes costs related to future obligations associated with the closure or net sublease shortfall of a restaurant, partially offset by sublease income from leases which are treated as deemed landlord financing.

(d)	Includes amortization of favorable lease assets and unfavorable lease liabilities.

(e)	Pre-opening costs consist of costs directly associated with the opening of new restaurants and incurred prior to opening, including restaurant labor, supplies, cash and non-cash rent expense and other related pre-opening costs. These are generally incurred over the three to five months prior to opening.

29

---

Table of Contents

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Interest Rate Risk

We are exposed to market risk from changes in interest rates on our senior credit facility, which currently bears interest at variable rates. However, we seek to mitigate our variable interest rate risk on our senior credit facility by entering into an interest rate derivative on a portion of the senior credit facility, as discussed above under “—Liquidity and Capital Resources—Debt and Other Obligations—Hedging Arrangements” As of March 27, 2018, we had outstanding variable rate borrowings of $154.0 million. A 100 basis point increase in the effective interest rate applied to this borrowing would result in a pre-tax interest expense increase of approximately $1.5 million on an annualized basis, excluding the effect of our existing 2016 Interest Rate Cap Agreement.

Commodity Price Risk

We purchase certain products that are affected by commodity prices and are, therefore, subject to price volatility caused by weather, market conditions, potential cross-border taxes and tariffs and other factors which are not considered predictable or within our control. Although these products are subject to changes in commodity prices, certain purchasing contracts or pricing arrangements used contain risk management techniques designed to minimize price volatility. In many cases, we believe we will be able to address material commodity cost increases by adjusting menu pricing or making other operational adjustments that increase productivity. However, increases in commodity prices, without adjustments to menu prices, could increase restaurant operating costs as a percentage of restaurant sales.

Inflation

Inflation has an impact on food, paper, construction, utility, labor and benefits, rent, general and administrative and other costs, all of which can materially impact operations. We have a substantial number of hourly employees who are paid wage rates at or based on the applicable federal, state or local minimum wage and increases in the minimum wage will increase labor costs.

On July 1, 2014, the State of California (where most of our restaurants are located) increased its minimum wage to $9.00 per hour (from $8.00 per hour), and it increased to $10.00 per hour on January 1, 2016 and $10.50 per hour on January 1, 2017. On March 31, 2016, the California Legislature passed legislation which was designed to raise the statewide minimum wage gradually until it reaches $15.00 per hour in 2022 and it was signed into law on April 4, 2016. Under the new California law, minimum wage increased to $10.50 per hour in 2017, increased to $11.00 in 2018 and will then increase by an additional dollar each calendar year through 2022 when it reaches $15.00 per hour. Based on our current number of restaurants in California, this is expected to impact 375 restaurants in California of which 255 are company-operated and 120 are franchise-operated.

In addition, in September 2015, the Los Angeles County Board of Supervisors approved increases to the minimum wage to $15.00 per hour by 2020 with the first phase of the wage increase to $10.50 effective on July 1, 2016, followed by an increase to $12.00 per hour on July 1, 2017, $13.25 on July 1, 2018, and $14.25 on July 1, 2019 until it reaches $15.00 per hour on July 1, 2020. Also, in June 2016, the Los Angeles City Council approved a sick paid leave ordinance to provide six days of paid sick leave per year, with carry-over of 72 hours, effective July 1, 2016. These local ordinances impacted 25 company-owned restaurants and eight franchise-owned restaurants in the City of Los Angeles and in the unincorporated areas of the County of Los Angeles.

On March 14, 2016, the Pasadena City Council adopted an ordinance to increase Pasadena’s minimum wage. Beginning on July 1, 2016, employers with 26 or more employees must pay a minimum wage of $10.50 per hour to all employees who work at least 2 hours per week within Pasadena’s geographic bounds. The minimum wage increased to $12.00 per hour on July 1, 2017, and will increase to $13.25 per hour on July 1, 2018. This impacted two company-operated restaurants.

On June 7, 2016, San Diego voters voted in favor of an ordinance to increase San Diego's minimum wage rate and allow employees working within the San Diego city limits to earn one hour of paid sick leave for every 30 hours worked. The San Diego City Council certified this minimum wage increase on July 11, 2016 with the increase taking effect on July 11, 2016. Under this ordinance, for any employee who works at least two hours within San Diego city limits, minimum wage increased to $10.50 per hour on July 11, 2016, $11.50 per hour in 2017 and beginning 2019, the minimum wage rate will increase annually to an amount that corresponds to the prior year's increase, if any, in the cost of living. In addition, the ordinance provides up to five days of paid sick leave and allows unused sick leave to be carried over to the following year. This ordinance impacted three company-operated restaurants and two franchise-operated restaurants.

On November 8, 2016, Arizona voters voted in favor to increase the state minimum wage to $10.00 per hour effective January 1, 2017 (from $8.05 per hour) and to allow employees to earn one hour of paid sick leave for every 30 hours worked effective

30

---

Table of Contents

July 1, 2017. The minimum wage will increase to $10.50 per hour in 2018, $11.00 per hour in 2019, and $12.00 per hour in 2020. The law provides up to five days of paid sick leave per year. The new law impacted three company-operated restaurants and 33 franchise-operated restaurants.

Other municipalities may set minimum wages above the applicable federal or state standards. The federal minimum wage has been $7.25 per hour since July 24, 2009. Additional federally-mandated, state-mandated or locally mandated minimum wages may be raised in the future. Furthermore, on July 1, 2015, the Healthy Workplaces, Healthy Families Act of 2014 went into effect for California employees, which provides up to three days of paid sick leave for employees who work more than 30 days within a year.

We may be unable to increase our menu prices in order to pass future increased labor costs on to our customers, in which case our margins would be negatively affected, which could have a material adverse effect on our business, financial condition and results of operations. In addition, if our menu prices are increased to cover increased labor costs, the higher prices could adversely affect sales and thereby reduce our margins and profitability.

Critical Accounting Policies and Use of Estimates

The preparation of the consolidated financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. We believe that such estimates have been based on reasonable and supportable assumptions and the resulting estimates are reasonable for use in the preparation of the consolidated financial statements. Actual results could differ from these estimates. Our significant estimates include estimates for impairment of goodwill, intangible assets and property and equipment, insurance reserves, restaurant closure reserves, stock-based compensation, contingent liabilities and income tax valuation allowances.

Accounting policies are an integral part of our financial statements. A thorough understanding of these accounting policies is essential when reviewing our reported results of operations and our financial position. Management believes that the critical accounting policies and estimates involve the most difficult management judgments due to the sensitivity of the methods and assumptions used. For a description of our critical accounting policies, refer to “Critical Accounting Policies and Use of Estimates” in Item 7 of Part II of our Annual Report on Form 10-K for the fiscal year ended January 2, 2018 filed with the SEC on March 15, 2018. There have been no material changes in any of our critical accounting policies during the twelve week period ended March 27, 2018, except as described in Note 2 of the notes to the accompanying unaudited consolidated financial statements, included elsewhere in this quarterly report on Form 10-Q.

Recently Issued Accounting Standards

See Note 2, Basis of Presentation, of the notes to the accompanying unaudited consolidated financial statements, included elsewhere in this quarterly report on Form 10-Q, for a description of the recently issued accounting standards.

31

---

Table of Contents

Item 4. Controls and Procedures

Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures

Under the supervision and with the participation of our senior management, consisting of our chief executive officer and our chief financial officer, we conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the end of the period covered by this report (the “Evaluation Date”). Based on that evaluation, the Company’s management, including our chief executive officer and chief financial officer, concluded that as of the Evaluation Date our disclosure controls and procedures were effective.

Our controls and procedures are based on assumptions. Additionally, even effective controls and procedures only provide reasonable assurance of achieving their objectives. Accordingly, we cannot guarantee that our controls and procedures will succeed or be adhered to in all circumstances.

We have evaluated our disclosure controls and procedures with the participation, and under the supervision, of our management, including our chief executive and chief financial officers. Based on this evaluation, our chief executive and chief financial officers have concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report.

Changes in Internal Control over Financial Reporting

No changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the period covered by this report that have materially affected or are reasonably likely to materially affect our internal control over financial reporting.

32

---

Table of Contents

PART II – OTHER INFORMATION

Item 1. Legal Proceedings

See Note 13, Commitments and Contingencies, of the notes to the unaudited consolidated financial statements for a discussion of our legal matters.

Item 1A. Risk Factors

See “Item 1A. Risk Factors” included in the Annual Report on Form 10-K for the fiscal year ended January 2, 2018 filed with the SEC on March 15, 2018 for a discussion of our risk factors. There have been no material changes to our risk factors.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

On March 7, 2016, we announced that our Board of Directors authorized a share repurchase program under which we may purchase up to $25.0 million in the aggregate of our common stock and warrants. On August 23, 2016, we announced the Board of Directors increased the repurchase program by $25.0 million, to $50.0 million. Purchases under the program may be made in open market or privately negotiated transactions and expires upon completion of the program, unless earlier terminated by our Board of Directors. During the twelve weeks ended March 27, 2018, we repurchased 9,811 warrants for an average price per warrant of $3.37 for an aggregate cost of approximately $33,000, including incremental direct costs to acquire the warrants. As of March 27, 2018, there was approximately $20.9 million remaining under the share repurchase program.

The following table summarizes shares and warrants repurchased during the quarter ended March 27, 2018. The average price paid per share and warrant in column (b) below does not include the cost of brokerage fees or the incremental direct costs to acquire the shares.

		(a)						(b)								(c)						(d)
		Total number of shares/warrants purchased						Average price paid per share				Average price paid per warrant				Total number of shares purchased as part of publicly announced programs			Total number of warrants purchased as part of publicly announced programs			Maximum dollar value that may yet be purchased under these programs
		Common Stock			Warrants
January 3, 2018 - January 30, 2018		—			4,782			$	—			$	3.47			—			4,782			$	20,920,248
January 31, 2018 - February 27, 2018		—			4,548			$	—			$	3.27			—			4,548			$	20,905,377
February 28, 2018 - March 27, 2018		—			481			$	—			$	3.32			—			481			$	20,903,780
Total		—			9,811			$	—			$	3.37			—			9,811			$	20,903,780

33

---

Table of Contents

Item 6. Exhibits

 

Exhibit No.		Description
31.1		Certification of the Chief Executive Officer required by Rule 13a-14(a) or Rule 15d-14(a).
31.2		Certification of the Chief Financial Officer required by Rule 13a-14(a) or Rule 15d-14(a).
32.1		Certification of the Chief Executive Officer required by Rule 13a-14(b) or Rule 15d-14(b) and 18 U.S.C. 1350.
32.2		Certification of the Chief Financial Officer required by Rule 13a-14(b) or Rule 15d-14(b) and 18 U.S.C. 1350.
101.INS		XBRL Instance Document.
101.SCH		XBRL Taxonomy Extension Schema Document.
101.CAL		XBRL Taxonomy Extension Calculation Linkbase Document.
101.LAB		XBRL Taxonomy Extension Label Linkbase Document.
101.PRE		XBRL Taxonomy Extension Presentation Linkbase Document.
101.DEF		XBRL Taxonomy Extension Definition Document.

34

---

Table of Contents

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, thereunto duly authorized.

 

DEL TACO RESTAURANTS, INC.

Date: May 4, 2018

/s/ John D. Cappasola, Jr.

Name: John D. Cappasola, Jr.

Title: President and Chief Executive Officer

(principal executive officer)

/s/ Steven L. Brake

Name: Steven L. Brake

Title: Executive Vice President and Chief Financial Officer

(principal financial officer)

35