Denny's Corp (DENN) 2007 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to Denny's fourth quarter 2007 earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (OPERATOR INSTRUCTIONS) Thank you. I would now like to turn the conference over to Mr. Alex Lewis, Vice President and Treasurer for Denny's Corporation. Mr. Lewis, you may begin your conference.

Thank you, Bonnie. Good afternoon, and thank you for joining us for Denny's fourth quarter 2007 investor conference call. This call is being broadcast simultaneously over the Internet. With me today from management are Nelson Marchioli, Denny's President and Chief Executive Officer; and Mark Wolfinger, Denny's Executive Vice President of Growth Initiatives and Chief Financial Officer. Mark will begin today's call with a financial review of our fourth quarter results. I will then provide commentary on our business outlook for 2008. After that, Nelson will provide his overview of our business and our strategic initiatives. After our prepared remarks, management will be available to answer questions during the remaining time.

Let me remind you that in accordance with the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995, the company knows that certain matters to be discussed by members of management during this call may constitute forward-looking statements. Management urges caution in considering its current trends and any outlook on our earnings provided on this call. Such statements are subject to risks, uncertainties, and other factors that may cause the actual performance of Denny's to be materially different from the performance indicated or implied by such statements. Such risks and factors are set forth in the company's annual report on Form 10-K for the year ended December 27, 2006 and on any subsequent quarterly reports on Form 10-Q. I'll now turn the call over to Mark Wolfinger, Denny's EVP and CFO.

Thank you, Alex and good afternoon. I will start my comments with a quick review of our fourth quarter sales performance. Company same store sales decreased 1.2%, comprised of a 7.1% decrease in guest count, partially offset by a 6.3% increase in average guest check. Approximately 4% of the guest check increase was attributable to price increases taken during the year to offset minimum wage hikes and commodity cost pressures. An additional 2% of the average guest check increase resulted from beneficial menu mix, as we did not offer a price point promotion in the fourth quarter, instead choosing to protect margin rather than discount in pursuit of guest traffic. Denny's franchise restaurants reported a 0.3% increase for same store sales in the fourth quarter. This, combined with company performance, resulted in a 0.2% decrease in same store sales across the Denny's system, a result in line with many in our industry but clearly below our expectations.

Looking at revenues for the fourth quarter you can clearly see the impact of our Franchise Growth Initiative. Sales at Denny's company owned restaurants decreased $30 million or 13% in the fourth quarter due to 74 fewer equivalent company restaurants compared with the same period in the prior year. The decline in company units resulted primarily from the sale of 130 company restaurants to franchisees under FGI. That we were able to sell 130 restaurants, which equates to 25% of the company base at the start of the year, is a credit to the demand for our brand and the appeal of our redesign development programs. The sequential decline in equivalent company units and company restaurant sales is expected to continue as we anticipate selling additional company restaurants.

Turning now to the quarterly operating margin table in our press release, our company restaurant operating margin in the fourth quarter was 12%, a decline of 3.6 percentage points compared with the prior year period. Lower sales in the fourth quarter resulted in a deleveraging of our fixed costs across the P&L. In addition, our primary cost lines, product and payroll, have been under pressure all year from commodity inflation and minimum wage hikes. Product costs increased by 0.2 percentage points in the fourth quarter, due primarily to increases in commodity costs. We were able to offset some of the food cost pressures through favorable menu mix shifts and pricing actions. Payroll and benefits costs for the fourth quarter increased 2 full percentage points to 42.6% of sales, due primarily to investment in staffing levels for both restaurant crew and management, in an effort to improve customer service and operational execution.

Moving down the P&L, occupancy costs increased 0.2 percentage points for the fourth quarter, due in part to fixed cost deleveraging. In aggregate, our other operating costs increased by 1.2 percentage points in the fourth quarter. Approximately 50% of this increase is due to a benefit to legal settlement expense in the prior year period. Legal settlement expense of $0.5 million or $500,000 in the fourth quarter compared with a prior year benefit of $0.7 million, resulted in a 0.6 percentage point of the margin decrease. Utility costs, repairs and maintenance expenses and other operating expenses increased slightly to account for the remainder of the margin decrease. Again, this was due in part to the expense deleveraging associated with our negative sales cost in the fourth quarter.

On the franchise side of our business, you can begin to see the positive impact of FGI taking shape. We sold 130 company restaurants to franchisees in 2007, 74 of which were sold in the fourth quarter, resulting in an 81 unit increase in equivalent franchise units compared with the prior year quarter. Franchise and license revenue increased $5.8 million, or 28% in the fourth quarter, due to a $3.1 million increase in up front franchise fees, and a $1.6 million increase in franchise rental income and a $1.1 million increase in royalties. Franchise income increased 4.8 million or 34% as the $5.8 million increase in franchise revenue far exceeded the $1 million increase in franchise expense, primarily rental expense on properties subleased to franchisees.

Moving on, general and administrative expense increased $1.1 million from the prior year period, as share based compensation decreased by $400,000 to partially offset a $1.5 million increase in core G&A expenses. The additional G&A was primarily staffing and incentive compensation, directed at our strategic growth initiatives including FGI, our new concept innovation efforts and our restaurant management training program.

Next, depreciation and amortization decreased $1.4 million from the prior year quarter, due primarily to the sale of our restaurant operations, and real estate assets over the past year. The most significant line item impacting operating income is operating gains, losses and other charges on a net basis which increased $14 million over the prior year period due primarily to $20.4 million in asset sale gains this quarter compared with $9.1 million in the prior year period. In addition, restructuring charges and exit costs which are included in this line item as well decreased $2.7 million due to cost in the prior year period resulting from the closure of underperforming restaurants. Due in large part to the increase in asset sale gains, operating income increased by $7.5 million to $30.2 million in the fourth quarter. Excluding the higher gains and lower restructuring charges, operating income decreased $6.6 million on a $24.1 million increase in total revenue.

Below operating income, interest expense decreased by $3.1 million or approximately 30% to $10.2 million in the fourth quarter. This included a $2.6 million decrease in cash interest expense to $9.1 million for the quarter as a result of lower debt balances and improved borrowing costs. In addition, non cash interest expense decreased by $500,000 due to reduced amortization of a deferred financing cost.

Now to the bottom line. We reported net income in the fourth quarter of $16.7 million, or $0.17 per diluted common share, an increase of $14.4 million compared with the prior year period. Again, the primary driver of the higher income was a $14 million increase in asset sale gains. Because of the significant impact to our P&L from non operating, non recurring or non cash items, we give earnings guidance based on our internal profitability measurement, adjusted income before taxes. We believe this measure best reflects the ongoing earnings of our business. For the fourth quarter, adjusted income decreased $3.9 million to $3.4 million. For the full year, adjusted income decreased $2 million to $10.5 million, which was above our initial guidance range of zero to $10 million from February and our upwardly revised range of $8 million to $10 million from October. We are disappointed that we did not show growth in this measure during 2007. However, given that our GAAP reported revenue decreased by $55 million, a $2 million decrease in adjusted income is not unexpected.

Regarding restaurant portfolio activity, the Denny's system increased by seven units during the fourth quarter, as 13 new restaurants were opened while six were closed. This was the largest quarterly increase in our system since the third quarter of 2000. The company restaurant portfolio declined by a net of 74 restaurants in the fourth quarter, as two new company restaurants were opened, two were closed, and 74 were sold to franchisee operators. The franchise restaurant portfolio increased by a net of 81 restaurants in the fourth quarter, as franchisees opened 11 new restaurants, closed four, and purchased 74 company restaurants. Our portfolio growth in the fourth quarter contributed to positive net growth for the full year for the first time in seven years. While it was only plus one restaurant for the year, it is a major step forward from the past few years, when we have averaged a decline of 30 units per year. We are certainly looking to build on this growth in the coming years.

Moving on to capital expenditures, our cash capital spending for the fourth quarter was approximately $12 million, bringing our year-to-date total to $33.1 million. Of our total capital spend, approximately $12 million was directed to growth initiatives, including new unit openings, restaurant acquisitions and new concept innovation. While reconciling our income numbers is difficult due to the sizable impact from FGI, or the Franchise Growth Initiative, the progress we are making on increasing free cash flow is more evident. In 2007, cash flow from operations increased $10.3 million or 26% to $50.5 million. Capital spending in 2007 was approximately equal to 2006, yielding a $10.3 million increase in free cash flow as well.

Turning to our balance sheet, we continue to make substantial progress on our commitment to reduce debt and improve our financial flexibility. We generated net proceeds from asset sales of $44.7 million in the fourth quarter, primarily from the sale of 74 company restaurant operations and certain related real estate. During the quarter, we paid down our debt balances by $55.1 million through asset sale proceeds and free cash flow. Year-to-date, we have reduced our outstanding indebtedness by $100.3 million or approximately 22%. If we look back two years, we have reduced our total debt by approximately $201 million or more than 36%.

That wraps up my review of our fourth quarter results. While the operating environment remains difficult, we continue to make progress on our strategic initiatives to drive system growth and optimize our company restaurant portfolio. The reception among current and prospective franchisees to FGI has been encouraging and the program is well ahead of our expectations. Of the 130 restaurants sold in 2007, 47 were sold to 14 new franchisees. The attraction of this many experienced energized franchise operators to our system is a testimony to our brand and its potential. As the primary purpose of our FGI program is to facilitate growth across the Denny's system, we are pleased to report that the franchisees who purchased company restaurants this quarter also signed development agreements to build 49 new franchise restaurants. This brings the year-to-date total for development commitments attributable to FGI to 67 restaurants.

In addition to FGI, we are offering development agreements in areas that do not have company restaurants for sale but have significant opportunity for growth. We call this program our market growth incentive plan, or MGIP. In the fourth quarter, we signed development agreements for 17 such restaurant locations, bringing the year-to-date MGIP development commitments to 53. In total, we signed development agreements for 120 new franchise restaurants this past year. We will begin to see the execution of these new restaurant commitments in late 2008, but the majority of the agreements call for a first opening in 2009. The average development timeline is approximately five years, yielding 25 or so openings each year. We will continue to build our development pipeline through FGI transactions as well as our MGIP program.

Before commenting on our 2008 guidance, I would like to look back at our execution of strategic objectives activities over the past two years. We have made substantial progress on our financial reengineering plan for Denny's. We began this process with the intent of rationalizing our asset base from both a real property and an operational perspective. We wanted to focus on improving our returns and finding the highest and best use of our assets. In 2006, we divested 86 non core real estate assets for net proceeds of $91 million. These were primarily restaurants we owned but leased to franchisee operators. We applied these proceeds to reduce our outstanding debt. The improvements in our balance sheet were recognized by the credit rating agencies with upgrades in all of our debt instruments. We then used these upgrades as a catalyst to refinance our credit facility with extended term and much lower borrowing costs.

In 2007, we moved from asset rationalization to operational rationalization. We recognized the need to energize growth across our franchise system and to narrow the operational footprint of our company operations. This led to our Franchise Growth Initiative which has been a great success and has allowed us to operate a more favorable portfolio of company restaurants while benefiting from a growing franchise base as well. We will continue to optimize our business model, but the future mix of company and franchise restaurants will be determined by the demand for restaurants and the availability of capital to fund transactions. While so far both these factors have been positive, we cannot predict how that may change in this challenging environment.

Before I have Alex walk you through our specific financial guidance, I will caution you that our visibility into 2008 is uncertain given the difficult operating environment we continue to face. The challenge of reduced consumer spending and increased input costs from last year has continued. I have not read any economic research or industry reports to give me reason to go against our sales trends or those of the industry as a whole while preparing our guidance for 2008. We are certainly optimistic about our marketing and operational initiatives, but we will remain cautious until we can report a sustainable change in trends. With that, I will turn the call over to Alex Lewis.

Thank you, Mark and good afternoon everyone. I would like to take a few minutes to expand upon the business outlook section in today's press release. There are several important items to note prior to evaluating our 2008 financial guidance. The first of which is due to our 364 day operating calendar, it is necessary in 2008 to report on 53 operating weeks compared with the normal 52 weeks in order to keep our fiscal year end aligned with the calendar year end. The second expectation is that our company equivalent units will be 150 lower in 2008 than in 2007 based on the impact of FGI across both years. The uncertain and varied timing of FGI transactions year over year will make revenue projections difficult and reliance on equivalent units important. For example, because most of the fourth quarter FGI transactions took place close to year end, there were 454 company equivalent units in the fourth quarter, while the end of the period units were considerably lower at 394. Even taking the average of the beginning and ending unit counts for the quarter would have been 431 units, still too low for reconciling our revenue in the quarter.

The following estimates for full year 2008 are based on 2007 results and management's expectations at this time. We expect the same store sales will remain negative in the range of negative 2% to flat for the full year. Underlying this assumption is moderately positive growth in average guest check, primarily from the necessary price increases, offset by negative guest traffic for much of the year. Based on the results from 2007, we would expect franchise restaurants to continue performing about 1 percentage point higher than company restaurants on a same store sales basis. We expect to open approximately four to six new company restaurants this year and for franchisees to open 30 to 34 new restaurants. Based on a conservative analysis of potential closures, we anticipate the system should grow by a net five restaurants in 2008. The bulk of our development pipeline will begin to open in 2009 and thereafter. We expect to sell 75 to 100 company restaurants under FGI in 2008. This is somewhat less than the 130 sold in 2007, due primarily to the large number of transactions that were completed if December and some of the current issues in the credit markets. We're in the process of rebuilding our transaction pipeline and expect to begin closing new deals in March.

Due primarily to the impact of FGI, we expect company restaurant sales to decline by approximately $185 million to between $650 million and $670 million. Conversely, franchise revenue is expected to increase approximately $18 million, to between $112 million and $114 million. Due to the high margin nature of our franchise revenue, this revenue increase should contribute approximately $12 million to franchise margin.

At this time we expect company restaurant operating margins will be approximately flat with 2007. This is due in part to the negative sales leverage on our expectation of minus 2 to flat same store sales. This will certainly have an impact from a percentage margin standpoint on the fixed cost components of our P&L. More specifically, we expect improvements in product cost margins to offset continued pressures on labor. Our outlook for improved product cost margins is attributable to menu management more than a positive outlook for commodity costs. We expect our food cost basket for the year to increase 3 to 4% from 2007. Underlying that assumption is that we are locked for the year on approximately two-thirds of our commodity costs. We do expect to offset these increases and even improve on our margins from 2007 through a redesign of our promotional items to provide a better food cost margin while still delivering a compelling value. We expect payroll margins will remain under pressure in 2008 from continued minimum wage hikes, negative sales leverage, and a commitment to maintain management staffing level standards.

Our income guidance is presented based on two metrics which we will detail in all of our earnings release. Adjusted EBITDA and adjusted income before taxes. We employ adjusted EBITDA as it is the metric used to determine covenant compliance under our credit facility. Adjusted income before taxes is our internal profitability metric which we believe most closely represents our ongoing business income. Please refer to the historical reconciliation of both of these metrics to net income in today's press release. Our adjusted EBITDA estimate of $83 million to $89 million is $4 million to $10 million below 2007's results of $93 million. Keep in mind that the decrease in EBITDA results primarily from the anticipated total revenue decline of approximately $167 million. Our adjusted income before taxes estimate for 2008 is $8 million to $14 million, the midpoint of which is $11 million or approximately flat with our 2007 results. While our goal is certainly to grow adjusted income, our 2008 guidance is based on the challenging environment and the impact of our strategic initiative to sell company operations and consequently decrease both revenue and income.

Two other items of note for 2008 are cash interest expense and cash capital spending. We expect cash interest expense to decrease approximately $6 million in 2008 to $32 million based on recent and planned debt reductions. Non cash interest should follow 2007 at approximately $4 million, yielding net interest expense as reported on our P&L of approximately $36 million for 2008.

Turning to capital expenditures. We completed 2007 with cash capital spending of approximately $33 million. Our estimate for 2008 is slightly higher at $35 million. This increase is attributable to investment in growth capital projects as we do expect facilities maintenance to decrease approximately $4 million based on the reduced company restaurant portfolio. On the investment side, we have allocated capital for new company restaurants in our traditional format, new Pilot travel center locations and a mix of new concept implementations as we continue our development and testing around Denny's Fresh Express. I will now turn the call over to Nelson Marchioli, Denny's President and CEO.

Thank you, Alex, and good afternoon. Denny's customers, like many others, have been adjusting to economic difficulties and have been re-evaluating their discretionary spending. They are forced to make budgetary or value driven choices and dining out appears to be one of the first expenditures to be impacted. They haven't stopped eating out, nor do we think they will, but softness has been persistent.

Despite these challenging conditions, I'm pleased that we were able to meet, even slightly exceed our earnings guidance for 2007. We protected our bottom line by focusing on profitable sales and accelerating our Franchise Growth Initiative. After the first quarter of 2007, we determined that our value promotions, while well received, were not providing the profit margin nor the guest traffic necessary to cover rising costs. We moved away from value promotions for the rest of the year to improve operating margins. While this may have added to increasingly difficult guest traffic trends, our focus was to provide the highest net profit. We're absolutely committed to increasing profitable guest traffic. To that end, we have reengineered our price point promotions for '08 with an emphasis on tiered pricing and lower plate costs without lessening the perceived value. The first new value promotion features our Complete Breakfast Trio starting at $5.99. We are confident that our new value promotions for this year will be well received, and this along with several other initiatives will help to improve our recent sales trends while protecting profit margins.

On January 28th, we launched our new Real Breakfast 24/7 marketing campaign. This campaign reinforces Denny's ownership of real breakfast and takes on those providing a fake breakfast. This campaign is more aggressive than what you've seen from Denny's in the past, but we're confident in our competitive position and are ready to take on all breakfast competitors. MPD for example, Food World estimated that 1.7 billion breakfast occasions are consumed on premise at quick service restaurants alone. That is an opportunity for Denny's if we can effectively communicate our superior product offerings and exceed the speed and hospitality expectations of our guests.

Hopefully you have seen our new television commercials which feature Tony Sirico, formerly Paulie on the hit show "The Sopranos." If not, you can view them any time on the Denny's website under the Don't Fall For Fake link. Tony's don't-mess-with-me attitude serves us well in the TV spots where he is out to bust fake breakfast. Attracting the guests with this strong message is only the beginning. We must provide a terrific experience that reinforces the superior breakfast at Denny's, 24/7.

To that end, we have made considerable investments in our operations. Last year, we realigned our field management structure as well as some support functions. We reinvested much of these savings back into restaurant level operations through a commitment to meet and maintain our management staffing standards and the development of a management training program that I believe ultimately will be a competitive advantage. 12 months ago, our restaurant management staffing levels had fallen due to internal and external factors. We made a commitment to remedy the situation. At the end of '07, our restaurants had a full complement of management for the first time in a long time. This is a considerable investment, but one we feel is necessary to continue to improve our guest service ratings and to attract and retain high quality management and employees. The investment in an expanded and consistent training function will enable managers to become consistent, strong business leaders. We have built a training team and a curriculum that will allow Denny's to break through the service and execution barriers that may have impeded our progress in the past. We expect to see a return on these investments in our sales, our traffic, and in our operating margins.

I will close my remarks with a few words about some of the exciting growth opportunities ahead for the Denny's brand. Yesterday I visited the first Denny's location in a Pilot Travel Center in Mt. Vernon, Illinois. While we only have one unit open so far, this development partnership is a good fit for both Pilot and Denny's. Pilot delivers a consistent traffic flow to our front door and we give their patrons another reason to choose Pilot for their fuel and other travel needs. We look forward to a long and profitable relationship as we leverage Pilot's key highway locations for strong new Denny's restaurants.

We are also increasing our concept innovation efforts in order to evolve the Denny's brand and to ensure we remain relevant. While still in early development, our Fresh Express by Denny's leverages Denny's breakfast heritage in a more contemporary setting that offers high quality ingredients that are portable and convenient. We now have one Fresh Express location open in the form of a restaurant in a restaurant and two smaller Fresh Express counters placed inside traditional Denny's facilities. We'll continue to test a variety of facility types, including a stand-alone Fresh Express by Denny's and additional counters for our existing restaurants in '08. During our consumer testing we have received considerable positive feedback and reinforcement for this concept. But we still have much work to do in order to transition good ideas into good business. We'll be undertaking several new concept, new product and new facility tests this year.

Denny's is becoming innovative and is engaged in a dynamic research and development process. It may be a while before we're ready to move forward with some of these innovations. But we're certainly excited and motivated about the possibilities. And we are discovering for the Denny's brand-new opportunities that are quite considerable ahead of us. I want to thank our employees, our franchisees, for all they do to make Denny's better each and every day, and of course our shareholders and investors for their ongoing support. As always, I thank you for your interest in Denny's. I'll now turn the call back to Alex.

Okay. With that, Bonnie, if you could open us up for Q&A we would appreciate it.

(OPERATOR INSTRUCTIONS) We'll pause for just a moment to compile the Q&A roster. Your first question comes from Bryan Hunt of Wachovia.

Hi, Bryan.

Hello, how are you? I was was wondering if you could talk about, one, the expected store type, you've got your stores quartiled out in terms of performance, that remain to be sold and use of proceeds look like it was a little in excess of $500,000 last year. Will those proceeds continue to be used, the ones that are sold in 2008, to pay down debt?

Brian, it's Mark. How are you today?

I'm fine, how are you?

I think the first part of your question, we'll talk about sort of the store focus. I mean, clearly we have continued to focus on -- if you recall the chart where you've seen the five quintiles, the 130 stores that we sold during this past fiscal year were primarily in the quintile 3, 4, and 5 category. I think the average was probably quintile 4. And obviously the balance of those proceeds or the bulk of the proceeds went to pay down debt. So as we move forward in '08 I think it will be a pretty similar focus and again we'll continue to take the most of those proceeds and continue to reduce our debt. That's been a stated purpose on our part.

Is there more real estate tied up in the ones that you're focusing on selling then in 2007 or are these transactions basically real estate free?

It ranges, sort of all over the board. In some cases we're on the head lease, in some cases we do own the fee. Similar to what we've been in 2006 with the sale of the real estate in which we were the landlord for our franchisees, we have stated as well that we're not long-term in the landlord business. If there's real estate to be sold with the transaction, we would prefer to do that. Again, that range is based on where we are if the country and what kind of real estate holding exists there.

I'll respect your wishes and get back in the queue.

Thank you, Bryan.

Your next question comes from Karen Eltrich of Goldman Sachs.

Couple questions -- as Alex knows I was very impressed with the Fresh Express concept. I was curious, the menu items look fantastic. Is there any test for that in a traditional Denny's to, again, enhance the -- I know you already have a good takeout business, but build it more? Or are you first just doing it in this laboratory?

The answer is yes. It's Nelson, Karen. Nice to hear from you. We are doing both. We see the real opportunity over the next couple years and as we test these new products and new concepts in fresh express that obviously you experienced, we see it as a perfect place to test things and to bring it into the base brand when appropriate. So you will see both occur.

Fantastic. And then second quick question. You did mention the obvious statement of the credit markets are what they are. Are you seeing a pullback in lending at this point or is that kind of you guys being cautious?

Karen, it's Mark. As you know me, I'm always a little bit cautious. Clearly, there's a lot of volatility out there in the credit markets. I mean, you're much closer than I am.

More than I'd like to be.

Exactly. All we're doing is cautioning folks. To answer your question, have we seen any kind of significant pullback. No we haven't. But we know there's volatility out there in the markets. And again, as I mentioned in my comments, we got off to a very strong start with FGI, exceeded our expectations in '07 with the sale of 130 stores. We want to make sure everyone realizes the risks that are out there in this program.

Thank you very much.

Thanks, Karen.

Your next question comes from Brian Moore of Wedbush Morgan Securities.

Good afternoon.

Hi, Brian.

Question on the G&A guidance. Is it flat nominally, percentage basis and could you speak to perhaps why there's not a larger leverage opportunity there?

Well, yes, what we're talking about there is flat on a dollars basis for '08. Now, what we have said and we said I think on the last presentation is we are undertaking a G&A review. That will be taking place starting in the first quarter. We probably won't be able to talk about it until we get to the end of the second quarter. But clearly we sold a whole lot of restaurants, just a few really weeks ago at this point. So there hasn't been an opportunity yet to pull back from that. But we are looking at a very broad look at our G&A and trying to be a bigger, stronger franchiser and what the implications are with that.

Brian, I think Alex's point, again, 130 in the year but 74 of those were sold in the fourth quarter. So obviously as FGI picks up acceleration there we still have some more work to do on our cost structure. With a model now that is 75% franchise, we realize the G&A could be an opportunity for us.

If you go back to last year, some of the savings that we were seeing as we said on this call and in other times, we have reinvested in the training department. That is an additive to G&A. We have made other reinvestments. The new concept innovation in these items, growth, franchise development teams, we have had to make some investments that really happened all during the year last year, and that certainly has an impact on '08 as we roll through that with a full year.

Great. And then just maybe a follow-up, perhaps with a view toward 2009 with maybe flat to slightly positive, 2% type comp, at least. What would be your expectation for kind of the longer term store level margin potential for company owned stores? In terms of basis points, in terms of increase or decrease?

Brian, I mean, we haven't obviously talked about 2009 outlook yet. But I think to your question, again, if you recall that chart we used in all of your external presentations it has the five quintile breakout of the five different bars of the company performance. Clearly as we have focused more on the quintile 4, as I mentioned, that was sort of the average type of store we sold, the 130, that obviously we're focused on trying to move toward a higher margin company base. I answered that question without specifics because we haven't provided that kind of direction as of yet.

Can I ask Nelson one final question related to staffing and training? Could you speak to what's happening there and what you're most excited about?

What I'm excited about -- first, let me tell you what kind of training we had before. It was remotely done by a variety of resources that we have in the company. What we're doing is centralizing the training function for new hires in particular, and from that I believe we will be far more disciplined and consistent in our training and I see several benefits coming from that as it relates to sales and profitability.

Thank you very much.

Thank you.

Thanks, Brian.

Your next question comes from Reza Vahabzadeh of Lehman Brothers.

Good afternoon.

Hi.

Hi. As you were refranchising and reducing the base of the company operated stores, can you sort of collapse the G&A cost base to reflect the lower company operated net profit to deal with the smaller basis stores or is that going to happen over a much longer time?

Well, I mean, again, to our G&A intentions, we certainly are looking at how to be the best franchiser and how to -- what programs, what services, all those things we need to do to be the best franchiser we can be. We're certainly moving our mix in that direction. It is going to take time to work through that and again, we're, as Mark said a minute ago, we're pretty new to this process. It's really just occurred that most of these restaurants were sold. We're certainly looking at moving forward and we'll rightsize our G&A accordingly based on what we think we need to do to be the best franchiser.

Labor expense increase in the fourth quarter, it wasn't clear to me. Was that because of just the increased staffing or because of increased training or sort of a combination of all that?

It wouldn't have been training. That would be be have been more staffing. The training department itself will run more through G&A. That was more what we talked about the management staffing levels. We have through the year last year really made a lot of progress to finally get our restaurants up to what we consider par staffing, to be staffed at where they were supposed to be. At the beginning of the year they were far from that. Our HR department and ops team worked really hard to get fully staffed by year end. Obviously that's an investment cost. We made that investment. As Nelson said, we expect to start seeing that investment pay off in improved service, in higher sales, in higher margins as well.

Got it. $3.1 million increase in franchise fees, is that just from the new stores the franchisees opened up or acquired from the company?

Yes, it's both. It's the new stores, because remember, I think there were 11 franchise openings the fourth quarter, in addition to the 74 FGI transactions. They do have the $40,000 up front fee during those transactions, so we get that in at that time.

And last housekeeping item, what was the rent expense for the year?

Hold on one second. Sorry. Here we go. Rent expense for the year is $50 million, flat, $50.0 million.

Thank you much.

Thank you.

Your next question comes from Michael Gallo of CL King.

Hi, good afternoon.

Hi, Michael.

Just want to come back to the G&A question. Coming back to the operational realignment that you announced in September, I believe that was an $8 million to $9 million reduction, $3 million of which was going to be reinvested in initiatives to drive sales growth and about $1 million that was expected to hit in the fourth quarter. That alone I guess would suggest roughly $5 million in savings on a G&A basis, '08 over '07 and that was before you sold not only a substantial number of units in the fourth quarter but your expectation that you'll sell a substantial number of units in '08. I guess I'm still struggling with why you would expect, given all of those factors, the G&A wouldn't be down 2008 to 2007 and why you wouldn't expect to be exiting the year 2008, assuming that your forecasts are right on FGI, with a G&A run rate that's substantially below 2007.

Well, I'll take this first. Anybody want to jump in? The realignment did not anticipate savings at the G&A level. If you remember going back to the realignment, we basically said $8 million or $9 million in savings and that was spread equally across company management labor at the company restaurant level. What you see in payroll and benefits line, what you see on the franchise cost line, and what you saw at G&A. Now, what we also said was we were taking about $3 million of those savings and going back into G&A. So from the realignment there was no intent to have G&A ultimately be any lower because of the training department and other initiatives. Frankly part of the reason we did the alignment was to help fund the new concept innovation, the Franchise Development, the training department, and some of these other investments. On a go forward basis we are, again, actively engaged in a G&A review process, and really I think more of a process to focus again on how to be the best franchiser and what other comparable Best-in-Class franchisers' G&A and services look like. We can't give this yet. We're not there. So later in the year, we might have a different outlook, but right now, this is the guidance as given.

Just any general feel as you looked at some other franchisers, whether it be G&A per company unit or per franchise unit basis, where you think ultimately you should be? I'm not talking about where you are right now, but looking out say exiting 2008 if you assume your forecast is correct, is it a G&A per company store that we should be looking at in terms of how we should expect that stair step to work?

I don't think we can give you that until we're done with our process. We're just not there yet. I think I could tell you historically we've had pretty low G&A compared to a lot of folks but clearly we are changing our business model and our G&A will have to change to reflect that. We're just not there yet.

Okay. Perfect. Then just final question, just want to come back to the guidance on adjusted EBITDA. Was there any cash restructuring and/or cost based compensation expense that you built into that number? Or is that --

There's always going to be some there, Michael. Remember, a big part of that is closed store leases, so leases that we closed over the past few years or even more than that, properties that we closed, continue to pay the rents on. Now, it was -- it is lower. Year-over-year, I would say that was about $10 million versus about $5 million in '08. So we've got about $5 million less in our '08 plan than in '07. And that primarily goes back to costs related to severance and the restructuring and realignment that took place in late '07. We've got about $5 million of those type of payments. Also, year over year the same number, about $900,000 of cash payments for share based compensation. So in the end we've got $6 million in cash payments in '08 going against our EBITDA.

That number is about $6 million.

Right.

Final question, in terms of just any sense for -- I'm not sure if this was answered earlier, but should we expect that the FGI sales would be similar, kind of average tier 4 in terms of types of units that you're marketing for 2008, or are we moving more into the tier 3s? Or do we expect it to be pretty even again?

It's Mark. Actually, I think I addressed this a little bit earlier in the conversation, but just to make sure I'm consistent. We're targeting that quintile 4 type of target, based on early in the fiscal year and based on where we stand in the transaction process.

If you just take the last three quintiles, and we sold some at the higher end, but not a whole lot, that was 300 units to begin the year. 130 out of those 300 units were sold. That means 170 out of those 300 units in those quintiles are still available.

The other aspect is we're trying to make sure that we consolidate and make more efficient our field structure. Obviously all of the quintile 4s and quintile 3s don't line in one market. To Alex's point, we're also obviously trying to make sure we streamline and make more efficient our company operations.

Okay. Great. That's very helpful. Thank you.

Thanks, Mike.

Next question comes from Tony Brenner of Roth Capital Partners.

Hi, Tony.

Hi. I'm going to forego my G&A question.

Thank you, Tony.

How many franchisees purchased those 74 stores in the fourth quarter?

In the fourth quarter, I'm looking here -- 19. 19 franchisees.

75 to 100 units that you indicate you're going -- you intend to sell in 2008, is that the remainder of the stores that you intend to sell or -- ?

Tony, it's Mark. That's the current target. Obviously subject in my comments to the credit markets and obviously the demand that exists out there. I think I sort of talked through this a little bit through my opening comments but we're -- we haven't given obviously a final targeted number at this point in time. From our standpoint, 2007 got off to a much stronger start than we expected and clearly it's led to a lot of new store development agreements being signed. So it's very good for growing the brand. So back to your question, the target for '08 is 75 to 100. We've not given anything beyond that, into 2009. We'll sort of know as we go along as we said in the past.

And does the projection of $36 million in income statement interest expense reflect any proceeds from those sales?

Probably around the midpoint or so. Of the 75 to 100.

Your next question comes from Steve Anderson of MKM Partners.

I'm calling to ask -- I don't know if you addressed this already, if you had any particular region of the country that showed particular weakness or softness? Or one region has outperformed another?

Generally it's pretty even across the board. A few years ago we used to talk about different regions, but generally all areas of the country are behaving in a similar way. You will get different days where things will be slightly better or slightly worse geographically. But generally, the entire country is responding in a similar fashion.

Is that it, Steve?

That's it.

Okay. Great. Thanks.

Next question comes from Bryan Hunt of Wachovia.

Hey, Bryan, you're back.

I'm back. I was wondering if you could talk about the third of food and beverage costs that are unhedged and whether, one, what the major categories are, two and whether you're unhedged by choice.

This is Nelson. We do contract by choice. We manage by target. Some will be high. Some will be low. As I think has already opinion mentioned about two-thirds are contracted. We really only technically hedge natural gas when we go out. But dairy and pork are -- is the majority of the third, other than produce, is what is currently uncontracted for. We see opportunity in pork at this particular time. You'll see us get committed as we go through the year on the pork side. Dairy has been difficult. Even under normal conditions, it's very difficult to contract. Because of all the different dairy boards across the country. And cheese block is just very difficult at this point in time. The consumer, you can see it in your own favorite grocery store, what you're paying for a gallon of milk today or a pound of cheese is dramatically higher. And I'm quite surprised the American consumer hasn't switched off of some of this stuff. But as long as the demand at retail continues where it is now, food service won't get a break. But to answer your question, pork and dairy are the major areas that we are uncontracted for but we'll get more and more committed on pork as we see the opportunities unfold that we anticipate.

All right. Nelson and then a final question. Maybe something more fun that you like to talk about. Your new to-go packaging, where you can fit in the Grand Slam. How is that being accepted and how are you marketing that where it's available?

Well, we're marketing it in a limited way. It's only available at Fresh Express in a few outlets where we're testing it. We expect it to go chain-wide in May and there will be a significant mention in our national media campaign in support of that innovation.

Okay. And then with regards to your national media campaign, are you spending -- are you all planning to spend more money on advertising in '08 relative to '07? And if so, could you give us the type of metrics?

It's flat to '07.

Thank you very much.

Next question comes from Nicole Torraco of Murray Capital.

Hi, guys. The debt reduction that you're projecting for 2008, would you be able to put a rough number around that?

No, not at this point. I mean, that's going to be obviously dependent on how many of the other line items you meet in your guidance and also where we end up with these, which units get sold for which proceeds and those. Because there is a wide variety of proceeds from one unit to another on FGI. So we'll go forward with that. But we've been averaging about, again, about $0.5 million, somewhere in that neighborhood, including the franchise fee that we've been taking in on each unit. So you can sort of back into some of that. Now, we do have some baskets where we can hold back small amounts. As Mark said our goal is to pay down debt. That is our number one use of proceeds.

Okay. The cash payments for restructuring charges and exit costs in your EBITDA calculation, what is the expense running through your income statement associated with that?

Those are expense for restructuring in previous periods. If we closed a store today, we'll basically put the MPV or the lease stream through the P&L at that point in time. But then we pay those payments out in cash over a year, two years, three years, whatever the term may be left. So it comes through as restructuring and exit costs and now it's bundled into operating gains, losses and other charges, net. It's bundled into operating gains, losses, and other charges net. It's bundled into that on the P&L.

I understand that. I was asking if you knew what the figure was for the year that was bundled in there that's associated with those restructuring charges.

As of today, zero. Unless you have some action related to a lease, there won't be an income statement. There always are, but theoretically you take that charge when you know that. There's no known P&L impact from those or impairment, you take impairment when you know it. If you know it today, you take it today.

Then one last question. On the decline in same store sales for the quarter of 1.2%, you said that was below your expectation. Was that an expectation that you had given in the prior call or was that an internal expectation? Because my recollection was that you had given expectation for the full year '07 same store sales to increase 0.3%. And that was exactly where it came out. So I'm just wondering.

We started the year with minus 1 to 1. I think we tightened it to zero to 1. We hit 0.3. Clearly that was not our internal expectation. We wanted more from the year than that. But that was our realistic guidance looking at the year when we did.

All right. Thanks.

Mr. Lewis, I'm showing top of the hour. Would you like to take further questions?

We'll take one more.

Your next question comes from of Rishi Parekh of KBC Financial.

How are you doing? Of the 75 to 100 stores, can you give us an idea of where they're primarily located?

Only if you're willing to be the buyer. No, I mean, at this point in time, no, we don't have letters of intent for 75 to 100. We have negotiations and interested parties and those kind of things across the country. But they will be somewhere in the United States, we know that.

Can you give us an idea of what the pro forma G&A rent expense will be in 2008?

No. We said G&A, subject to incentive compensation, share based compensation and those items that move around would be basically flat.

I meant D&A, not G&A.

Oh, D&A. No, because again, that's going to be really determined by the assets that are sold during the year and different timing. Clearly it's coming down. The fourth quarter run rate is a good place to start and it will probably come down from there.

What's a run rate rent expense today?

The rent expense again is $50 million. What you'll see in the leases owed section of our 10-K will be $50 million.

When you take into consideration of all the stores sold, where do you think it will be?

Well, that may not -- again, if we rent a store and we sell it to a franchisee, we're still on the hook for that rent and they're now our sublease. So it moves around. But that expense is still out there. It moves to the franchise P&L from the company, P&L but the expense remains.

What's your comfort level in terms of leverage? Is it -- has it changed in light of what's been going on in the markets out there or -- ?

This is Mark. I would tell you that clearly as we have said in I think all of our past two years of presentations, this management team is very focused on continued deleveraging and I don't think we've finalized a goal. We've certainly said we would like to see it in the low threes. We ended the year in the high threes, 3.8 times, if I recall. From our standpoint, clearly it's also interesting situation where Denny's has been deleveraging. We've seen other entities actually leveraging up. But we believe we need to continue to deleverage. Maybe not as aggressively as we have the last couple of years, the $200 million paydown. But we're going to continue to deleverage the balance sheet.

Okay. Sorry, just one more question. With regard to the franchisees, have the terms changed or will they change going forward?

I'm sorry, what terms are you referring to?

In the sense of having new franchisees sign up, royalty (inaudible) costs, et cetera?

No. If you look at our UFOC, same as what's stated in the UFOC.

Okay. Thank you.

Thank you. All right, with no more questions we'll end it there. Thank you for your attendance and as always, if you have any further questions, feel free to give me a call.

This concludes today's conference call. You may now disconnect.