Chi-Chi's shuts all units; Outback buys site rights: Mexican chain, in Chapter 11, retains brand, operations, recipes, trade secrets

Nation's Restaurant News, Oct 4, 2004 by Sarah E. Lockyer

LOUISVILLE, KY. -- Chi-Chi's Inc. said adios last month and shuttered till 65 of its Mexican dinnerhouses as Outback Steakhouse Inc. completed its $42.5 million purchase of the rights to 76 properties and leases belonging to the bankrupt chain.

Chi-Chi's, which filed for Chapter 11 protection under the U.S. Bankruptcy Code last October, auctioned its assets July 29, and Tampa, Fla.-based Outback was named the successful bidder for the rights to 23 owned properties, 15 sale-leaseback properties with reversion rights and purchase options, 23 ground leases and 15 leases.

The decision to close the Chi-Chi's restaurants--whose net profit was $1.4 million on sales of $6.3 million in August--fell solely on the debtor, however, because Outback's purchase did not include the rights to Chi-Chi's brand, its restaurant operations or tiny recipes and trade secrets, according to Alan J. Friedman, the Mexican chain's counsel at Irell & Manella LLP in Newport Beach, Calif.

"We had decided that once the sale took place, we would not continue to operate," Friedman said. "It was an evolving strategy, and it was a function of economics. If someone wanted to pay the carrying costs of operating, then we would stay open."

During the weekend of Sept. 18, all 65 restaurants, which were located mainly in the Midwest and East, closed their doors for good. The chain's Web site stated that Chi-Chi's "would like to thank all of our loyal customers of the past 27 years and, with a tear in our eye, say Adios!"

A message on Chi-Chi's customer-service phone line said the restaurants were no longer in business, while executives at Irvine, Calif.-based Prandium Inc., the chain's owner, did not return calls seeking comment.

Employees at the chain, which boasted 137 units and annual systemwide sales of $205.9 million as recently as 2000, said they were unable to comment on the closures or the future of the chain out of fear that severance payments would be revoked. Attorney Friedman said the bankruptcy proceedings are far from over.

"Chapter 11 continues; it is not over yet," he said. "We retained the rights to sell [the name], but we're not sure what we're going to do. If someone was interested in buying, we would be interested in selling."

Chi-Chi's has had suitors during the course of its bankruptcy proceedings, but mainly for its land instead of its restaurant operations. Interested buyers included CC Acquisition Holding Co. LLC and Kimco Realty Corp., a real-estate investment trust that offered $35.2 million for the chain's leaseholds and properties before Outback won the bidding proceedings. One executive-level Chi-Chi's employee who requested anonymity said the chain's employees had hoped for Kimco to win the auction and then partner with a restaurant operator to keep the chain running.

However, Outback, which operates and franchises 1,103 restaurants, including the 852-unit namesake steakhouse chain, was named winner of the bidding Aug. 3. Outback said it plans to use a "significant number" of the properties for its own brands. In addition to Outback Steakhouses, the company operates Carrabba's Italian Grill, Bonefish Grill, Fleming's Prime Steakhouse and Wine Bar, Roy's, Cheeseburger in Paradise, Lee Roy Selmon's and Paul Lee's Chinese Kitchen.

Executives at Outback would not comment on the Chi-Chi's closures or outline a time frame for a determination about the use of the 76 restaurant properties and leases. The company's purchase of "designation rights" obligated it to cover all carrying costs and gave Outback one year to evaluate the sites, during which it can selectively take possession, transfer to others or require Chi-Chi's to retain any of them.

Attorney Friedman said the designation rights are expected to be used in all three ways.

"I am certain that there will be some spin-off," he said, "and that [some locations] will be used for other concepts [that don't belong to Outback]. We'll find out as time goes by."

Records indicate that interest in at least some of the sites could come from Jack in the Box Inc., El Pollo Loco Inc., Brinker International Inc. and Magic Restaurants LLC, parent of the 229-unit Fuddruckers chain. Attorneys for those companies were provided with instructions for the Chi-Chi's sale procedure, according to court documents.

Chi-Chi's bankruptcy is not the only problem owner Prandium has had to face. Last October it also filed for Chapter 11 bankrupcy reorganization for the 29-unit Koo Koo Roo and 14-unit Hamburger Hamlet chains. Those two concepts exited bankruptcy when, in February, Magic Restaurants purchased 18 Koo Koo Roo units for $5.1 million, and in March, Los Angeles businessman Andrew Tavakoli bought 12 Hamburger Hamlet restaurants for about $10 million.

In addition to those sales and the property designation rights deal with Outback, Prandium sold Chi-Chi's nonrestaurant trademarks, including those on its retail-marketed salsas and drink mixes, to Hormel for $2.2 million.

Meanwhile, Chi-Chi's will continue with the settlement of more than 300 lawsuits against it, stemming from a lethal hepatitis A outbreak that was linked to a single Chi-Chi's restaurant in Pennsylvania just weeks after the bankruptcy filing last fall. The outbreak claimed three lives and sickened at least 660 people. Chi-Chi's, which has settled more than 100 cases, sued three suppliers in July in a bid for financial help with settlement payouts. Those cases still are pending, according to court documents.