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Franchisor Cosi Files Chapter 11 Bankruptcy

Fast-casual franchisor and restaurant operator Cosi Inc. [NASDAQ:COSI] announced today that it has filed for Chapter 11 bankruptcy in U.S. Bankruptcy Court, District of Massachusetts.

The company hopes to obtain bankruptcy court approval with a $4 million debtor-in-possession financing that it has obtained to keep it liquid during the bankruptcy process. The insolvent company's board of directors unanimously decided that Chapter 11 was in its best interests so as to continue business operations while the court supervises the sale of its business.

Cosi has entered into a nonbinding term sheet with its lenders, AB Opportunity Fund LLC, AB Value Partners LP and one or more entities affiliated with Milfam II LP. The creditors have proposed to purchase substantially all of Cosi's assets. Subject to bankruptcy court approval, their bid would serve as a "stalking horse" in a sale process under Section 363 of the Bankruptcy Code. That is to say, theirs could be a favorable bid, if the court approves, to prevent opportunists and low-ball offers for the company. The deal is nonbinding.

"We worked very hard to avoid this step," said Mark Demilio, Cosi's chairman of the board, but added, "The company cannot continue to operate in its current financial condition, and that the best alternative for the company and its creditors would be to accomplish a sale through the bankruptcy process."

Notice of the proposed sale to creditors will be given to third parties and competing bids will be solicited. Cosi's board of directors will manage the auction process and evaluate the bids in consultation with independent advisors.

The bankruptcy comes a month after struggling Cosi terminated then-CEO R.J. Dourney. Its chief financial officer also left.

Today Cosi's interim CEO, Patrick Bennett, reassured its creditors, "Cosi's core business and franchise base remain intact, and we filed with the liquidity resources necessary to carry out the restructuring plan." Bennett added: "We believe this process will allow the company to right-size its balance sheet, reduce its debt and focus on improving the business and stabilizing the brand." Prior to the Chapter 11 filing, Cosi closed 29 of its 74 company-owned restaurants.

Despite now being a diminished network of restaurants with an uncertain future, the company reassured franchisees that their businesses should not be affected.

"The 31 franchised locations are unaffected," stated the company.

Upon reading this, one quick service restaurant franchisee outside the Cosi system told this journal: "I always love how franchisors filing for bankruptcy tell their franchised outlets that they are unaffected. Bulls--t!"

The influential watcher of the industry, who wishes to remain anonymous, asks, "What's the value of those [franchised] stores right now?" The multiunit restaurant owner explains that if a Cosi franchisee now wants to sell its restaurant, the value of his Cosi branded restaurant just tumbled in the last few hours since the announcement of the bankruptcy.

The multiunit franchisee also points out that Cosi franchisees can immediately expect a fall in store support from their franchisor as the franchisor struggles with its own survival. "We've seen this scenario play out many times," says the franchisee. He also predicts that a number of vendors will likely drop out or demand cash-on-delivery from franchisees, even though their franchise is supposed to be independent of the franchisor's business.

Cosi says it will appoint a chief restructuring officer within 10 days to oversee its insolvency process.

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Don Sniegowski is editor of Blue MauMau, the daily news journal for franchise & small business owners. Call him at +1 (270) 321-1268, tweet @bluemaumau or email don@bluemaumau.org.