Pizza Pizza

On December 31, 2012 the Pizza Pizza Royalty Income Fund (PPRIF) was converted to Pizza Pizza Royalty Corp. (PPRC) and all unitholders became shareholders on a one-for-one basis.

In 2007, the federal government amended the Income Tax Act (Canada) to include the Specified Investment Flow Through tax provisions, or SIFT Tax, which is an entity-level tax on Canadian publicly listed income trusts, including the Fund.

 The Fund became a taxable entity effective January 1, 2011. As a result of the SIFT Tax, the Fund´s taxation rate is equal to the rate applicable on income earned by a Canadian public corporation. The SIFT Tax reduces the Fund´s amount of cash available for distribution to unitholders.

 An additional rule under the SIFT Tax provisions allows enties such as the fund to convert from an income trust to a Canadian corporation on a tax-deferred rollover basis if the conversion is completed prior to January 1, 2013.  The Fund took advantage of the tax-deferred rollover option by converting to a corporation.  Other reasons for conversion include increased clarity in financial statement presentation plus greater financial flexibility going forward.The key terms and economics reflected in the partnership agreement and all other agreements between Pizza Pizza Limited and the Pizza Pizza Royalty Limited Partnership will not be affected by the corporate conversion.  PPRC and the Partnership will continue to operate independently from Pizza Pizza Limited, the private operating company.

Pizza Pizza Limited (“PPL”) is a privately held company that is the licensee of the Pizza Pizza and Pizza 73 trademarks owned and licensed by the Pizza Pizza Royalties Limited Partnership, a subsidieary of PPRC. PPL continues to be the franchisor of Pizza Pizza restaurants in Canada, providing management consulting services to Pizza Pizza franchisees and owns 50% of all Pizza 73 traditional restaurants. PPL also holds securities exchangeable for shares of PPRC that  if exchanged would give PPL a 26.5% interest in PPRC. The number of shares that PPL is entitled to receive upon exchange of these securities should, in the absence of restaurant closures, increase as new locations are added to the Royalty Pool.

Very often you may hear the media speak of payout ratios when discussing royalty entities. The ratio can be used to judge an an entities health and ability to meet its obligations, including its dividend payment.

A payout ratio is calculated by dividing a trust´s annual distribution per share by annual earnings per share. Restaurant royalty trusts, historically, have tended to have higher payout ratios than oil and gas trusts since restaurant royalty trusts are not exposed to operating and capital expenditure requirements.

For the twelve months ended December 31, 2011 the payout ratio was 90%.  PPRC has accumulated a cash reserve to cover seasonality and any unforeseen administrative costs with the source of the reserve coming from the percentage of earnings not distributed.

Our payout ratio will always be relatively high, say to the oil and gas industries, since we do not have capital expenditures or employees.  Net profit generated after taxes, interest and administrative expenses is available for distribution.  Therefore, after establishing a resonable cash reserve, the majority of net, monthly cash generated  is available for distribution to shareholders with the final decision resting with the Board.

The current distribution is 6.25 cents per share per month, or $0.75 per share per year. Distributions are paid on the 15th day of each month.

After the December 2012 distribution, future distribution will continue in the form of monthly dividends.

Dividends are set by the Board of Directors and are reviewed monthly.

Pizza Pizza Royalty Corp.’s trading symbol will be PZA; it’s very close to the symbol under which the Fund traded which was PZA.UN.

If shares are trading at $10.00 and the annual distribution is $0.72, then the return or yield is 7.2%.

Yield = (annual dividend divided by share purchase price)

For Canadian taxpayers, in 2012, 67.5% of the distributions paid by Pizza Pizza Royalty Income Fund was taxable as an eligible dividend and 32.5% was considered a return of capital. This is very important for taxpayers holding units outside a tax-deferred plan.

In the future PPRC dividend will be 100% eligible taxable dividends (Canadian taxpayers).

Foreign shareholders should consult your tax advisor.

Return of capital acts as a tax deferral for investors.  Pizza Pizza Royalty Income Fund’s monthly distribution had a return of capital component through the December 2012 distribution.

When you purchased a unit, say for $10.00, this is your capital or cost basis. The return of capital is a tax-deferred mechanism which decreases your original cost basis as opposed to being immediately taxable at marginal rates. In 2012 Pizza Pizza Royalty Income Fund´s distribution was 32.5% return of capital.

If, in future years, you decide to sell your unit and the price is higher than your adjusted cost basis, the difference between the selling price and the adjusted cost basis is treated as a capital gain which rate is usually much lower than a taxpayer´s marginal rate. Please consult with your tax advisor for further explanations. Your adjusted cost basis must be tracked each year.

Future monthly distributions by PPRC will be considered eligible taxable dividends for Canadian taxpayers and will not contain a return of capital compenent due to the fact that PPRC is a corporation rather than an income trust.

All Unitholders will receive a T3 Form on which the taxable portion and return of capital portion will be separated and detailed.

For 2012 distributions, 32.5% is treated as a return of capital and 67.5% will be treated as a taxable eligible dividend for Canadian taxpayers. 

Beginning with 2013, dividends paid by PPRC will be fully taxable eligible dividend to Canadian shareholders.

The income reported on the T3´s provided to Unitholders of record on December 31, 2012 will include the distribution for the period December 1 to 31, 2012. As distributions are paid monthly in arrears, this distribution of December´s income, paid January 15, 2013 is required to be included in the prior year´s T3.

Historically, over the past ten years our same store sales growth has averaged 4%.

At this time we do not provide forward-looking estimates.

The following is a summary of the distributions from July 2005, at the IPO, through to January 2013:

At the initial public offering units traded at $0.80 per year per unit. Distributions were increased six times from July 5, 2005 to 12/31/10 at which time the annualized distribution equalled $0.93.  

Effective January 1, 2011, the Fund’s trustees adopted a new distribution policy that reflected the Fund’s obligation to pay SIFT tax.  The 2011 distribution was reset at $0.70 per unit. Effective May 2012, the Fund announced a 2.7% increase in its monthly cash distribution to $0.06 per unit or $0.72 annually .

In January 2013, PPRC increased the monthly dividend to $0.0625 per share or $0.75 annually.

Same store sales growth is the driver of shareholder yield growth.

Shares trade under the symbol is PZA on the Toronto and Alpha Stock Exchange.

A 15-minute delayed price fund information is available on the homepage of this website or by logging onto tsx.com. Unit prices are also quoted in most major Canadian newspapers.

There are currently 21,818,392 publicly traded shares outstanding and 29,704,077 shares outstanding on a fully diluted basis.

At 12/31/12 Pizza Pizza Limited owned 7,885,685 equivalent shares accounting for the difference in the publicly traded and fully diluted.

Shares are traded on the Toronto Stock Exchange under the symbol PZA.

There are currently 21,818,392 units outstanding.

To purchase shares please contact your brokerage firm.

Pizza Pizza Royalty Income Fund began trading on the Toronto Stock Exchange on July 6, 2005.

Please reference the Annual Information Form found on the website or on sedar.

For the taxable year 2012 the standard corporate tax rate was 26.5% however PPRC’s effective tax rate is trending below 20% for 2012.

The effective tax rate is calculated by dividing current income tax by the cash received from operations by during the year.

PPRC takes full advantage of significant tax shelter which includes interest on borrowings, amortization of rights and marks and administrative expenses.

The Fund has a $47 million term loan with a syndicate of Chartered Canadian Banks. The $47 million term loan has an interest rate locked in at 4.37% using an interest SWAP until December 2016.

No. A dividend reinvestment program, or `DRIP”, is a mechanism that allows investors to elect to receive dividends (or distributions in the case of income trusts) in securities as opposed to cash. The company paying the dividend/distribution retains the cash that would have been paid for reinvestment. In essence, a DRIP equates to periodic small offerings of shares or units by the company or fund.

Alternatively, most brokerage firms offer a feature similar to a “DRIP” which allows investors to rollover monthly cash distributions for additional shares.

On January 1 of each year (the “Adjustment Date”), an adjustment is made to the Royalty Pool to “vend-in” new Pizza Pizza restaurants that have been opened, less any restaurants which have closed, by the December 31 and for new Pizza 73 restaurants that were open on or prior to September 1 of the previous year, less any restaurants which have closed, prior to that Adjustment Date. At each adjustment date PPRC pays PPL, in securities exchangeable for shares, 92.5% of the amount reflecting the value of any increase in the royalty at that time. The adjustment for new restaurants added to the Royalty Pool is designed to be accretive to current shareholders due to the 7.5% discount in payment to PPL.

On January 1, 2012 there are 690 restaurants in the Fund´s Royalty Pool, comprised of 601 Pizza Pizza restaurants and 89 Pizza 73 restaurants.  This number will change with the next January 1 adjustment date.

The interests of Pizza Pizza Limited and shareholders are closely aligned as PPL owns 26.5% of the fully diluted shares of PPRC.

As well, new restaurants are vended into the Royalty Pool annually for which PPL is compensated in equivalent shares based on the License and Royalty Agreement.

Details can be found in the Annual Information Return or on sedar.

Distributable cash is a common term used by royalty entities to describe the amount of cash that is generated from operations and is available for distribution to shareholders.

Pizza Pizza Royalty Corp. (PPRC) is a top-line royalty entity and not exposed to operating activities or capital expenditures requirements of Pizza Pizza Limited or the Roaylty Pool restaurants. PPRC receives a 6% royalty on system sales of Pizza Pizza restaurants and a 9% rolyalty on system sales of Pizza 73 restaurants.

Prior to distributions to shareholders, disbursements are made for income taxes, interest on the credit faciltiy and administrative expenses.

Since the initial public offering, a reasonable reserve has been maintained to smooth out distributions, to guard against abrupt economic downturns and/or unforeseen administrative expenses. 

Effective January 1, 2013, PPL owns the equivalent of 27.1% of the shares of PPRC on a fully diluted basis.

The percentage may change with each January 1 Adjustment Date when new restaurants are added to the Royalty Pool of restaurants.

The number of restaurants in the Royalty Pool is adjusted once a year on January 1 to include the royalties from restaurants which opened in the prior year less closed restaurants.

Therefore at any given time there may be restaurants which have opened after January 1  and are not in the Royalty Pool until the following January 1.

For more information about PPRC, please contact:

Curt Feltner, Chief Financial Officer     T. (416) 967 1010 ext. 07

cfeltner@pizzapizza.ca

500 Kipling Avenue
Toronto, Ontario
M8Z 5E5