The Austin Chronicle

Schlotzsky's on the Block: End Game?

By Amy Smith, November 19, 2004, News

Schlotzsky's Inc., the deli chain once worth an estimated $60 million, is going on the auction block for a fire-sale price of $25 million. A federal judge was expected to consider the company's sale request Wednesday (at press time) to allow the franchiser to auction off "substantially all of its assets" in what may be the sandwich-maker's swan song as an Austin-based institution.

With bids due Dec. 1, the auction will take place Dec. 2 and the winner declared the following day. The bad news is that shareholders and unsecured creditors will be left empty-handed after the sale. The company said that outstanding liabilities and claims make it "highly unlikely" that the chain's investors will receive any proceeds from the sale.

The company's fired CEO John Wooley, who remains Schlotzsky's largest shareholder, has been predicting such an outcome since the company filed for bankruptcy Aug. 3, when its shares were worth $7.3 million. He said the company's actions since the bankruptcy suggest a move to "wash out the shareholders, depress the interests of the unsecured creditors, and justify a cheap, quick sale. Pocket fees and go home."

Company officials deny Wooley's claims. "The bankruptcy itself was triggered by the liabilities the company had accumulated over the past five years and the inability of the company, after four years of declines in systemwide sales and store counts, to service its liabilities in a timely manner," said spokeswoman Anne Braidish. This was the basis the board of directors used to fire Wooley and his brother Jeff, a senior vice-president, on June 17. The board brought in Sam Coats as chief executive and president and charged him with putting the company back on track. Coats had entered into talks with several interested investors but decided to expedite the sale process through an auction. "With the number of interested parties coming forward in the past several days and weeks, we determined that it was in the company's best interest to forgo naming a stalking horse at this stage," Coats said. Schlotzsky's, meanwhile, has asked the bankruptcy judge to delay the company's Dec. 1 deadline for submitting a turnaround plan to the court.

The decision to put the company up for auction follows the company's second-quarter report that it ate $86.8 million in the weeks leading up to its bankruptcy. Schlotzsky's attributed its biggest hit – $55.5 million – to its decision to terminate the company's 13-year-old area-developer program, which aims to develop franchise restaurants in various territories. Wooley, for his part, takes issue with the company framing the huge writedown as an action that occurred during the second quarter, which ended June 30. He points to the company's legal motions filed after the bankruptcy that seek permission to cancel its remaining area developer contracts. "These are clearly third- or fourth-quarter activities," he said. "This [second-quarter report] lets them create a story of why they had to file for bankruptcy. This way, they can say they lost millions before the bankruptcy."

In another turn of events Tuesday, the company said it would not be releasing a proxy statement before its Dec. 9 shareholder meeting. The proxy solicitation is tied to the 2003 annual report, which is currently held up in a dispute between the company and the U.S. Securities and Exchange Commission, over the company's "intangible assets" classification for payments made to area developers over the last eight years. Intangible assets generally refer to brand names or copyrights that can't readily be converted to cash. In any case, without the proxy statement, shareholders will not know what issues they'll be voting on in advance of the Dec. 9 meeting.

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