達登餐飲 (DRI) 2004 Q3 法說會逐字稿

Welcome to the Darden Restaurants third-quarter earnings release. (OPERATOR INSTRUCTIONS).

As a reminder, today's call is being recorded.

At this time, I would like to turn the conference over to Mr. Matthew Stroud.

Please go ahead, sir.

Good morning.

With me today are Joe Lee, Darden's Chairman and CEO;

Linda Dimopoulos, Darden's CFO;

Drew Madsen, President of Olive Garden;

Clarence Otis, President of Smokey Bones and Laurie Burns, President of Bahama Breeze.

We welcome those of you joining us by telephone or the Internet.

During the course of this conference call, Darden Restaurants' officers and employees may make forward-looking statements concerning the Company's expectations, goals or objectives.

These forward-looking statements could address future economic performance, restaurant openings, various financial parameters or similar matters.

By their nature, forward-looking statements involve risks and uncertainties that could cause actual results to materially differ from those anticipated in these statements.

These risks and uncertainties include competition in the restaurant industry, economic and market conditions, food and labor costs, the availability of suitable sites for new restaurants, government regulations and policies, changes in consumer tastes and demographic trends, weather conditions and acts of God and other risks and uncertainties discussed in the Company's SEC filings.

Because of these numerous variables, you're cautioned not to place undue reliance on any forward-looking statements that (indiscernible) or on behalf of the Company.

A copy of our press release announcing our earnings, the Form 8-K used to filed the release with the Securities and Exchange Commission, and any other financial and statistical information about the period covered in the conference call, including any information required by Regulation G, is available under the investor relations on our website at www.Darden.com.

We plan to release same-restaurant sales for fiscal March 2004 during the week of March 29.

We plan to release same restaurant sales results for fiscal April 2004 during the week of April 26.

We plan to release fiscal 2004 fourth quarter and annual earnings and same restaurant sales results for fiscal May 2004 during the week of June 21.

We released third-quarter earnings yesterday afternoon.

Results were available on FirstCall, PRNewswire and other wire services.

Now, for an overview of the quarter, I would like to turn it over to Joe.

Good morning, and thanks, everyone, for joining us today.

We did have a great quarter.

We reported third quarter earnings after tax of 77.9 million.

Diluted EPS was 46 cents, that's a new third-quarter record.

These results are consistent, though, with our pre-release of estimated earnings for the quarter.

Olive Garden had a tremendous quarter, another one, 38th, as a matter of fact, with results that once again exceeded our expectations.

Red Lobster showed strong improvement this quarter, and their results were better than anticipated.

Smokey Bones continued to expand; it's been well-received with a wide variety of markets; and we're confident in its long-term potential.

Bahama Breeze has made progress on its action plan for improvement; and we believe they are on track to improve their overall financial performance.

Casual dining continues to be a vibrant industry with excellent long-term growth prospects.

And recently, the industry has seen strong sales growth as the economy has rebounded and we anticipate that that should continue.

We are very confident that we are positioned to take full advantage of the opportunity our industry offers by delivering consistent, solid growth.

We will continue to have excellent in-restaurant operations, terrific marketing.

And we have a great platform for long-term success.

I will turn it over to Linda now to review our financial performance.

As Joe mentioned, we reported that earnings after tax in the third quarter were 77.9 million or 46 cents per diluted share, which is 11 cents above the prior year.

Third-quarter operating profit increased at Olive Garden and Red Lobster.

Bahama Breeze, Smokey Bones and new business were dilutive to earnings this quarter with a combined operating loss that was about flat to the same quarter last year due to the accelerated expansion of Smokey Bones.

Darden's total sales increased 5.1 percent in the third quarter, as a result of same restaurant sales growth at Olive Garden and our operations of 57 more restaurants than in the third quarter of the prior year.

Olive Garden's reported same-restaurant sales during the quarter with a 5.4 percent increase, is its 38th consecutive quarter of same-restaurant sales growth.

Red Lobster's quarterly same-restaurant sales declined 5.1 percent, although monthly, same restaurant sales results showed sequential month-to-month improvement.

Same restaurant sales for Olive Garden and Red Lobster were approximately 1 percent higher this quarter because of favorable weather comparisons.

Bahama Breeze will open one more restaurant this year, which will be a new lower-cost prototype opening next week in Robinson Township, Pennsylvania.

We will evaluate the results of this prototype before we make further decisions on expansions on expansions on expansion.

And we have transitioned to the new menu and added lunch service.

We are monitoring the progress of each restaurant individually against our expectations for financial performance and return on capital.

Smokey Bones opened six restaurants during the third quarter and has opened five more since the end of the quarter.

We plan to open a total of 30 restaurants in fiscal 2004, which is at the high end of the range we communicated earlier this year.

Restaurant-level profits of Smokey Bones more than doubled in the third quarter this year compared to last year.

In terms of margin analysis in the third quarter, food and beverage expenses were 80 basis points better than last year on a percentage of sales basis, primarily because the food and beverage costs at Red Lobster and Olive Garden were lower.

Specifically pricing and menu mix changes more than offset higher seafood costs related primarily to crab.

Other commodities, such as chicken and shrimp, were modestly favorable for the quarter.

Third-quarter labor expenses were 30 basis points lower than last year on a percentage of sales basis.

This favorability reflects better labor scheduling and labor management at (ph) our established concepts, despite higher wages this quarter.

Restaurant expenses in the third quarter were 20 basis points lower than last year on a percentage of sales basis.

There are two explanations for this.

First, total sales were stronger than last year resulting in more leverage on a fixed cost.

Second, pre-opening costs were lower this year as we opened ten fewer restaurants; and that's mostly due to timing.

We did not experience any favorability from workers' comp or utilities expense this quarter.

Selling, general and administrative expenses were flat to last year on a percentage of sales basis.

This category would have been favorable with the exception of some discretionary expenses.

Media spending was favorable versus last year by approximately 6 million, due to timing changes at both Red Lobster and Olive Garden.

The tax rate for the third quarter was down versus last year due to the favorable resolution of prior-year tax matters.

This benefit was offset by discretionary expenses we incurred in the third quarter, such as funding the Darden Restaurant Foundation, as well as costs incurred with Red Lobster's advertising agency change.

Finally, we re-purchased over 4.1 million shares of our common stock in the quarter.

Since beginning our repurchase program in December of 1995, we have now repurchased 104.8 million shares under authorization, totaling 115.4 million shares.

In dollars, this amounts to over 1.4 billion of share repurchase.

This demonstrates the significant cash flow we can consistently generate regardless of business challenges.

Now I will turn it over to Drew to discuss Olive Garden.

This was an exceptional quarter for Olive Garden.

Our third quarter results for total sales, operating profit, return on sales and return on capital all exceeded our expectations and represent the best quarterly performance in our 21-year history.

Same-restaurant guest count increased 2 percent for the quarter.

Same restaurant sales were up 5.4 percent, representing our 38th consecutive quarter of same restaurant sales increases.

The combination of 18 net new restaurants since last year and 5.4 percent same restaurant sales growth increased total sales by 9.1 percent.

The strong sales growth helped produce record quarterly operating profit that was also a significant double-digit increase over last year.

Operational excellence remains the foundation of this strong performance.

Our focus on running the cleanest and safest restaurants in the industry resulted in best-ever quality assurance goals.

Restaurant team member and management turnover are also at best-ever levels during the third quarter.

We continue to leverage our strong sales growth while eliminating unnecessary costs.

In particular, we reduced food, beverage and restaurant labor expenses as a percent of sales while maintaining high levels of guest satisfaction.

Compelling food news featured in great new advertising also played a significant role in our guest-count growth.

Six new products were featured during the quarter, including stuffed chicken marsala, chicken and portabella mushroom lasagna and currently, stake gorgonzola alfredo.

In summary, Olive Garden has a well-positioned and trusted brand, consistently superior in-restaurant operations, highly effective marketing and a demonstrated capacity for innovation.

We're focused on maintaining solid guest-count growth while further strengthening our guest experience and delivering outstanding financial results.

Now, I will turn it over to Laurie to talk about Bahama Breeze.

Thanks, Drew.

We are encouraged about the improvements we're making in our business at Bahama Breeze.

Where strengthening our in-restaurant operations, menu offerings, new restaurant prototype and overall financial performance.

As Linda said, we are now serving lunch in all but one of our restaurants, and initial sales are in the range that we expected.

Moving forward, we anticipate our lunch business will continue to build, as awareness of that day (ph) part (ph) increases.

Lunch has also helped build our dinner business by introducing the brand to a new group of users.

In addition to sales growth from lunch, we have seen solid improvement in comparable sales at dinner over the last six months.

Guest response has been favorable to our new dinner menu, including the daily specials page.

In January, we introduced call-ahead seating companywide in response to guest feedback on lengthy wait times.

We also remodeled our lobby last summer to provide another comfortable waiting area in addition to the bar and deck, further improving the wait experience at Bahama Breeze.

We are particularly excited about the opening of our new prototype in Pittsburgh next Tuesday.

We reduced our initial investment by approximately 20 percent versus prior prototype, while retaining elements that help create the Bahama Breeze atmosphere that guests love -- big timbers, high ceilings and quality finishes.

Pittsburgh will open with lunch and call-ahead seating, and will also be testing a new all-day menu.

We look forward to having many of you visit us in this new location.

Now I'll turn it to Clarence to speak to Smokey Bones.

Thanks, Laurie.

We're pleased with our performance at Smokey Bones this quarter.

As Linda said, we opened six restaurants in the third quarter and since the end of the quarter, we have opened five more.

We will open a total of ten restaurants in the fourth quarter for total of 30 restaurant openings this fiscal year.

With the five openings that we have had since the end of the third quarter, we now have 64 restaurants, and we are operating in 17 states in 43 different markets.

In short, we are being enthusiastically received in a diverse group of regions.

As we have said before, the focus at Smokey Bones really is twofold.

First and foremost,. we want to expand at a pace that enables us to maintain the high levels of operating excellence that made Smokey Bones so successful to this point.

At the same time, though, we see the opportunity to become financially significant for Darden.

And we define that as computing, meaningfully, to the absolute earnings Darden generates and to Darden's earnings growth.

At Smokey Bones, we have been able to maintain operating excellence while expanding rapidly for two things.

First, we limit the spans of control of our multi-unit operations leaders; and we also have robust orientation and training systems for our restaurant managers and front-line employees.

Our approach requires significant financial investment.

But we believe that that is an investment that is well worth it, given Smokey Bones' significant potential.

That potential is to join a very short list of financially strong casual dining concepts with more than several hundred restaurants.

As a result of the investment, even though our restaurant earnings will be very strong this year, we expect a doubling in restaurant earnings for the year, just as we doubled in earnings this quarter.

Our preopening and other growth-related costs mean we will still generate an operating loss this year and be about as a dilutive to Darden's earnings per share as we were last year.

Finally, we did recently announce the addition of Lowe New York as our advertising agency of record.

In working with the Smokey Bones team, Lowe New York will help us ensure the brand continues to be positioned as strongly as possible.

Now I would like to turn it back over to Joe to discuss Red Lobster and offer some closing comments.

First, I will talk about Red Lobster for a few minutes and then make summary comments.

Red Lobster delivered stronger financial results this quarter than we had originally anticipated, as a result of better in-restaurant operations, better advertising and better cost management.

Additionally, Red Lobster's guest satisfaction has improved and the guest count declines have moderated.

While same-restaurant sales were down 5.1 percent for the quarter, we did see sequential improvement each month through the quarter; although, as we stated before, February clearly benefited from favorable weather conditions.

Our goal is sustained guest count growth.

To achieve it, Red Lobster needs even stronger focus on brilliant with the basics of in-restaurant operations as well as a well-rounded marketing plan that builds the brand and communicates the everyday strengths of the brand.

We will continue with even more disciplined cost management, as well as stronger entree offerings and items in the middle of the menu at price points between 10 and $15, that will strengthen the value that is available at Red Lobster.

As we address Red Lobster's areas of opportunity, we certainly expect some immediate benefits, as reflected in the effects that our advertising and cost management actions had on this quarter's results.

But we also know it's going to take time for the benefits of the other actions, the actions like the menu development work, the change in our ad agency partners and brand positioning to come through.

We announced yesterday that the Richards Group has been named our advertising agency of record for Red Lobster.

We are certainly pleased to work with this outstanding group of people.

And together, we intend to successfully position Red Lobster so that it remains America's favorite place for seafood.

Finally, we're making progress on our search for a President of Red Lobster.

We have a short list now -- talented and internal and external candidates.

And we plan to make the decision within the next few months.

We want to go ahead and get onto your questions.

So let me summarize briefly by saying we are really pleased with the results this quarter.

We have got a solid management team that is committed to building a great company that will last for generations.

Olive Garden continues to demonstrate our strong brand positioning, brilliant with the basics of in-restaurant operations, great restaurant support, compelling advertising, combined to drive excellent guest satisfaction and consistent guest count growth.

Red Lobster is making progress on improving in-restaurant operations, restaurant support and advertising.

And this quarter's results reflect some of that progress.

We still know we have got a long ways to go and we have got work ahead of us in each of these areas that will take some time to complete.

Bahama Breeze continues to build its business.

We feel good about their action plan to improve profitability and returns on capital.

And we will continue to very closely monitor each restaurant's progress and take additional action, if necessary.

Smokey Bones represents a meaningful business opportunity for Darden.

It's maintaining a strong operational focus, where the guest experience is not compromised and it continues to expand rapidly while delivering excellent food and service.

And also, at Grey worldwide the agency for Olive Garden, the addition of the Richards Group at Red Lobster, and Lowe New York at Smokey Bones, I am pleased to say we believe we have got three of the world's finest advertising agencies working on Darden's brands.

We have two $2 billion brands and two emerging brands, and a focus on operating excellence and effective brand-building.

We're responding to the challenges we have seen in our business.

And I'm confident that we will achieve long-term success now and for generations.

We will open it up for questions.

(OPERATOR INSTRUCTIONS).

Coralie Witter, Goldman Sachs.

I had a question on the expense side.

Last year at this time, you had two one-off larger expenses, about 5 -- just over 5 million in a workers' comp charge and 10 million incremental in advertising.

And if we adjust for those expenses and look at where restaurant expenses and SG&A as a percent of sales came out, it looks like they actually went up.

And so the question I have is, are there any other unusual expenses this year that prevented those from improving more, taking into consideration that you probably got a lot of fixed cost leveraged at Olive Garden, but certainly not at Red Lobster?

Just in terms of -- to clarify what we just talked about in terms of restaurant expenses -- we did not see a reduction in workers' comp.

As we've said all along, we did not have a one-time catch-up this quarter, but we have been accruing at higher levels this year.

So the net of that did not result in a positive impact this quarter.

We continue to see good performance in our incidence rate.

And we will -- we are looking forward to having some of those reductions.

But that did not occur this quarter.

Also with utilities, we did not see -- we continue to experience higher utility rates.

So the favorability that we noted in restaurant expenses is related to the two things I mentioned.

First, the timing of restaurant openings -- we had fewer this quarter.

And that is really just a timing thing; we are going to have more in the fourth quarter.

The other is just the sales leverage.

These tend to be more fixed costs.

And so we did receive (ph) leverage as these sales flowed through.

While our workers' comp charge are still remaining high, it's really important to note what Linda said about incident rates.

We're dropping the incident rates, and we expect that to help us in future years.

But that will not be a near-term help.

Matt DiFrisco, Harris Nesbitt.

I understand you are looking to still open the Olive Gardens.

I guess you are then looking for ten, is it, in the fourth quarter; can you just be clear on that?

Also, the implied average weekly sales from Olive Garden seems to be slightly lagging the same-store sales.

That has not been really the case except for the last two quarters.

Is there a difference in square footage with the new Olive Garden growth?

Or is there -- are you happy with the new store openings?

Is there something going on there where there is a little bit of a lag and they're taking a little longer to get up to speed versus the prior year's class?

First of all, we are still on track to open in the 20 to 25 range for new restaurants this year.

Those new restaurants have slightly lower seating capacity than some of our existing restaurants, but equal to our slightly higher sales than our existing restaurants.

So we are not seeing any dilution there.

In fact, new restaurants that we have opened in the last three years in total are generating significant incremental sales and profit, and have been an important part of the record profit and record returns that we generated this quarter -- actually have been generating all year.

In terms of same-restaurant sales, we have been positive for 38 quarters.

And we are almost 5.5 percent this quarter.

So we are very pleased with the topline growth that we're getting.

Mitch Speiser, Lehman Brothers.

This is Jeff Bernstein on behalf of Mitch.

We noted that inventory levels were up about 23 percent in the quarter.

I was wondering if this has anything to do with the potential shrimp tariffs related to the anti-dumping investigation?

If so, what are your thoughts on the magnitude of these potential tariffs and the impact on Red Lobster's margins going forward?

The inventory is a result of building up of certain products that we will be, therefore, buying at the rate pricing.

And we do that from time to time, as we looked at forecasted prices and availabilities of product, and we will cover out ahead.

In the case of shrimp, we are covered out on in past the first quarter of next fiscal year.

And directly related to the shrimp tariff, that is just beginning to move as an issue.

And I think we are monitoring it very carefully.

Our 35 years of buying seafood from around the world will really help us out, as anything might happen to certain countries on the shrimp dumping or tariff issues.

It's a little early to be making specific comments.

But rest assured, we have been monitoring this situation as it unfolds.

John Glass, CIBC.

At Red Lobster specifically, could you be a little more specific about the cost-cutting or cost-savings initiatives you have done?

You have gotten double-digit profit growth on negative same-store sales, which is unusual for restaurant chains, and maybe implying there were some easy cuts to make.

Can you just talk about, is it some labor, specifically the restaurant-level area management, or maybe overhead costs that were easy to reduce?

There were several things that brought the cost down. labor being one of them.

We have labor management tools, similar (indiscernible) not being operated exactly in accordance with our history.

And so we have done a better job of in-restaurant management of labor.

There has been, additionally, the fact that we've dropped into a practice of running promotions; like last year, it (ph) spiked (ph) the traffic but was hurting us on margin.

And we are not doing those type of promotions as much any more.

We are being very careful to do promotions and do advertising that has a better margin for us.

When you look at year-to-year comparisons, there are some comparisons like that that are helping us out.

And third, it's a combination of items like that that have helped the cost go down.

Also, we have had the good shrimp prices; but we have had some increasing prices on crab and lobster.

So we had a minor increase in some of our costs that was adequately covered by mix change and the way we promoted items on the menu.

Robert Derrington, Morgan Keegan.

Could you give us, Joe, some color on the turnover rate within the different brands versus previous periods?

Also, how the hourly wage rate compares versus what you have seen in the past?

We will just let Clarence and Drew talk about -- and Laurie, their areas -- and then I will mention Red Lobster's.

As I said earlier, our turnover is at best-ever levels.

It's well below industry norms on all three things that we look at, restaurant team member turnover, manager turnover and general manager turnover.

At the restaurant level for restaurant teams, it's below 90 percent.

And for total managers, it's in the low 20s.

At Smokey Bones, we have seen really strong positive favorable trends, reductions in turnover, among our managers; and that is both general managers and other restaurant managers.

And we feel great about that because that is such a pivot point for operating excellence. especially when you're in a high-growth mode like we are.

On the front line employee side, we are below industry averages.

We are not experiencing quite the same low levels as Red Lobster and Olive Garden.

Part of that is how we higher for new restaurants.

We do hire more people than we will settle in with at those restaurants, because we recognize that we do get some melt at new restaurants.

So that's driving that.

But at the manager level, as I said, very good trends and experience.

Laurie is looking at ways to improve the overall operations of Bahama Breeze.

And she is putting in a new action plan.

So there are several people who are being moved to different areas within that Company.

And those numbers are in line with what Laurie has been forecasting.

For Red Lobster, the turnover rates for all employees are down.

For general managers, there has been a slight increase this quarter, much of that having to do with involuntary turnover, and some with voluntary.

Wage rates have dropped.

It was running at the roughly the 2 percent range -- excuse me, maintaining at the 2 to 2.5 percent range; and was running roughly that same range last year.

Bryan Elliott, Raymond James.

Conspicuously absent in the press release was any forward earnings commentary.

I know you although have been kind of debating after this period of EPS volatility what to do when that volatility began to recede, with respect to your traditional, fairly distinct or specific earnings guidance history.

Where do we stand on that?

Are we in a new policy mode here?

Can you clarify what the implications of the press release are and what we can expect going forward?

You are correct.

We did not put any guidance in the release.

I think you should take from that that the previous guidance we have given out, which would go back to the pre-announcement of the earnings for the quarter, still stands today.

If we had a change, we would be obligated to update that guidance.

As there is no change, we are not giving any updates to it.

As far as going forward, we will give you some looksey (ph) probably into next year when we get to June.

But at this point in time, we are not going to give you any more future guidance regarding fiscal year '05 or beyond.

Jonathan Waite and McDonald Investments.

First off, I'm wondering if you could -- obviously without tipping your hand to your competitors -- maybe just some thoughts on marketing for Red Lobster going forward?

Second off (ph) Bahama Breeze, I wondering on lunch, what kind of day part are we talking about?

I am just thinking about modeling here, what I should -- how I should think about average weekly sales for Bahama Breeze going forward; and how that lunch part changes your operating margins?

Do you want to go ahead and talk about Bahama Breeze, Laurie?

Lunch at Bahama Breeze, we're seeing within the range of our expectations.

And as I mentioned earlier, we are expecting to continue to see it build as more people become aware of the day part.

On the marketing for Red Lobster, I think the best advice we can go here without tipping our hand too much is -- don't expect significant businesses in the media rates and media expenses in the near-term for the rest of this year versus our historical patterns.

As far as the specific type of campaigns, we've just switched over to the Richards Group.

That work is under way.

So we would not want to say much about that, because it is under development.

Then the immediate advertising we will do from now through the end of the fiscal year will be coming from the Richards Group, as well; and that will be a bridge type of ad.

And while we certainly have that nailed down, related (ph) to traffic very soon, we are not going to comment about what it is or exactly what the offer will be.

Jason Whitmer, FTN Midwest Research.

Could you talk a little bit more further on Red Lobster in terms of material or visible changes at the unit level, whether it be just your image, your menu, your promos; and how that might be seen by the customer base?

That would again be getting pretty specific on where we might be going with Red Lobster's position.

So I don't want to do that.

Red Lobster has stood for value; it's stood for where America goes for seafood; it's stood for the seafood lover in you.

And what we do forward will be very closely aligned to those same positionings.

Glenn Guard, Legg Mason.

A real quick Smokey Bones question.

I know you are not talking about fiscal '05 yet.

But it is only a handful of months away here.

And with 30 units built this year, can we expect more than that in fiscal '05?

Also Clarence, any color in terms of what you have learned so far, things that were different, things you would have done differently at Smokey Bones that maybe you've brought to the table?

I'd say on next year, we probably can expect at least 30.

So we will certainly be in a similar ballpark in terms of new restaurant openings.

I don't know that there will be a whole lot more than that.

But we are right now working on plans.

And 30 sounds about right as sort of a minimum number.

In terms of lessons learned, there are a lot of lessons learned.

I think one of the most important things that we have done and had happened about two and a half or so ago was we did change our location strategy.

And so today, we really are focused on A (ph) trade locations and A (ph) sites.

So (indiscernible).

When we initially started Smokey Bones, we were testing how well we could do in trade areas that were more B (ph) and C, D (ph) and C sort of sites -- and see if we could deliver the volumes we wanted; and benefit from the upfront per-unit investment savings that we get with that strategy.

What we've found is that we did solid volumes, but we leave a lot on the table compared to what we do at the A site, A trade area.

So we got about six or seven of the earlier strategy restaurants.

We would have located those in different places.

But we are now up to over 60 restaurants; and so it's a decreasing percentage of our overall portfolio.

Peter Oakes, Piper Jaffray.

I was curious what the dollar decline was in preopening for the quarter year-to-year?

The other one, a little bit bigger picture, I guess Red Lobster for Joe, with the proliferation of the shrimp protein across all casual dining competitors we have seen here lately, I would be curious as to how much you think that has cut into Red Lobster's position, particularly in the consumer's eyes?

As far as the dollar decline, what I will tell you, Peter, is we have opened about ten fewer restaurants this quarter versus last year in the same quarter.

Our preopening costs typically run in the neighborhood of 225, $250,000 per restaurant, with the exception of Bahama Breeze, which runs a little bit higher, around $300,000.

So I'm going to let you figure it out.

What was your question on -- is Peter still on the line -- what was his question on Red Lobster?

The big picture -- the proliference (ph) of people with seafood on the menu.

It is true that shrimp has been plentiful for the last couple of years; and it is true that several restaurants are putting shrimp on their menu.

We have years and years of experience with shrimp.

And we buy from the highest quality suppliers.

So we are more expert in the offering of shrimp; and we offer it many different ways, many different flavorings.

And you would expect that we might capitalize farther on our unique abilities around seafood and the variety of seafood.

And also, we have got the brand relevance out there.

When people are asked where they would like to have their next seafood meal, the heavy, heavy percentage is at Red Lobster.

So we have got some brand equity going for us.

Our job is to make sure we continue to enhance that brand, and also, advertise it and communicate it clearly.

Enhancing the brand means both in a marketing sense and in the operating sense.

Karen Marks (ph), Merrill Lynch.

Just going back to the balance sheet, can you comment on the jump in receivables and unearned revenues?

And then back to the inventory question, can we assume, given the forward buying or the contracting you've done that we are going to see the same sort of benefit on the cost of goods side (indiscernible) side of things as we saw in this quarter?

Thanks.

Any guidance would be great.

I'll take the -- the receivables is up a bit due to some distributor receivables. the way we account for our relationship with our distributors just shows some timing differences in that.

And in the unearned revenue, I believe that is related to gift cards.

This is a seasonally high time for us for gift cards.

So that is what that would be related to.

What was the other question?

Guidance, on Red Lobster seafood costs.

The Red Lobster seafood costs, we had said earlier that certain lobster prices are going up; crab is going up.

Shrimp will probably be moderately more expensive.

But we've bought forward quite a bit.

And we have plenty of time to manage our menu structure around so that our usage patterns will match up, so that we don't have to have as much of the increase as we otherwise would have if we stayed with the current menu.

John Ivankoe, J.P. Morgan.

As you have had some more time to think about Red Lobster and perhaps seeing what has been happening with traffic, hindsight of course being 20-20 -- what has that additional work, I guess, shown you in terms of why they were preferring other restaurants in a good casual dining restaurant versus Red Lobster?

Maybe give -- I guess somewhat related question -- does it have anything to do with check average?

I know you're talking about the new menu and new price points and a variety of things.

Do you actually expect the check average to come down over time?

Maybe two somewhat related questions?

We would not forecast exactly where we expect the check average to go.

What we are saying is that the middle of the menu area -- that area between 10 and $15 is a little sparse right now.

And we will bring on items there.

We will be very careful that as we do that, that they will be items that are great for the consumer and also have good margins for us.

So we are going to increase the affordability of the Red Lobster experience, while being very careful to protect the profitability and in fact, improve it.

Some things that we might do, as an example there, John, is, we have had spiking-type promotions at Red Lobster, where they are very heavily oriented towards traffic building with substantially less margins for us than our typical margins.

We're going to be doing less of those kind of promotions and less of the all-you-can-eat types.

We are not going to discontinue them.

There is a time of the year and a time and a place for us to be doing that.

But similar to Olive Garden in running their never-ending pasta bowl at particular times, great value once a year, you will see Red Lobster moving more towards that kind of strategy.

As a matter of fact, if I can, I would just like to say congratulations to Drew and his team; and also point out that we have got the tools within the Darden enterprise to really know how to run restaurants well.

And Drew and his team are showing that is possible.

They have got a very integrated system of processes.

And this integrated system of processes starts with what the brand will be, and it continues onto what it really is and how it delivers to the consumer with controls and discipline throughout.

So what we want to do is move back to that kind of a positioning and that kind of results at Red Lobster.

And we intend to do that.

Andy Barish, Banc of America Securities.

A couple of questions, can you give us a sense on your shrimp prices, have you contracted kind of where they are versus what you have been running recently?

Isn't it fair to say sequentially, Lobster Fest is a noticeably more expensive promotion from a cost of goods perspective?

Finally, on Smokey Bones, Clarence, can you give us little feedback?

I've noticed that some of the newer restaurants that I have seen that the signage has changed and it's no longer a sports bar, it's barbecue and grill.

Just kind of what you saw in your research and the transition that is going on from that side?

I will start with Smokey Bones.

I think what we have seen is that as we talk to guests and really ask them what they value about Smokey Bones, where they see opportunities, what we have seen is they really enjoy the total experience.

So every part of it is important.

The barbecue is important.

Non-barbecue variety is something that they value in a place where we had opportunity to improve.

They also value the opportunity that we provide them for sports viewing; that is a huge part of our brand.

It's something that customers just tell us is differentiating.

The thought, though, was, as we heard that feedback, that the term sports bar in their minds really is a term of art (ph).

So it communicates something much narrower than what we offer.

So we have made some changes to reflect the breadth of the brand offering.

On the issue of shrimp, shrimp pricing, as we have said, we have got products locked in past the first quarter of the next fiscal year, throughout this year and into next.

And the pricing on that is very favorable compared to the market.

As we look into next year, with the various things that are in flux, we think that there will be a moderate increase in the price of shrimp.

We are going to do the typical thing we usually do, buying from different sources around the world to try to moderate the impact of such a thing to us.

And we do not think it is very big.

So once before last year about this time, before we put our plan to bed, I mentioned just what I said. that from this view today, it looks like shrimp prices might be up a little.

But as you know, it came in far more favorable as the year went on.

So it's a little early to be talking past the August/September time period right now.

But you asked me, and that is the current we view it.

We are putting our business plan together and putting in our contracts for next year.

So next quarter, we will have more information and a better update for you.

This is Drew, with one addition to your comment on Lobster Fest.

Not every promotion needs to be designed to do exactly the same thing over the course of the year.

Certainly over a 12-month period on an ongoing basis, you need to deliver profitable guest to grow.

You need to set your restaurant team up for success; you need to delight guests.

But Lobster Fest, I think, is a fantastic example of a 20-year equity that Red Lobster owns that is very exciting to their guests, and very exciting to the people working in their restaurants; and is a wonderful way to bring news that is relevant and contemporary and exciting for that brand.

So it's more a question of how you do it in the context of an ongoing business.

Just the last add there is we had this conversation.

And you are absolutely right that on a percentage margin basis, because of the cost on the food side, that you see lower percentage margins on Lobster Fest.

But the absolute dollar margins on Lobster Fest are very strong.

So it is a very profitable offer for us.

Will Hamilton, Pershing.

I was wondering if you could give us some cash flow numbers for the quarter and the year to date, just operating and CapEx?

We can give you that.

For the third quarter, I will just talk about what we saw in the third quarter as far as cash flow goes.

Here we go.

Fixed asset additions in the third quarter were roughly $78 million or so.

And then, we talked about our share repurchase, which was roughly $88 million this quarter.

Those are the big numbers that are out there that you probably wanted to know about.

Larry Miller, Prudential.

I just wanted a couple housekeeping items first.

The charitable contributions, where do those flow-through on the P&L?

They go to G&A, Larry -- SG&A.

And the advertising agency costs, did you guys quantify how much that might have cost you?

We have not.

How about the weather impact on the earnings per share, anything on that you can give us any further for that?

We have not quantified that either, Larry.

We will mention again, it's worth probably a percent to the sales for the quarter.

Obviously, some variation month to month on weather and results with the Super Bowl shift from January to February.

But for the quarter, just weather was worth another percentage point in sales.

Joe Buckley, Bear Stearns.

On the overall food costs, I think the food cost ratio you ran in (ph) in this quarter was your best ever.

I guess I am curious how sustainable you think that will be going forward?

Then with Red Lobster, I'm curious if you have done tests yet with the menu, with the lower-priced entrees.

And during the past, when you have tried to do similar things -- I am going back to fiscal '97, going back several years ago, it proved to be a very difficult thing to manage to get the check down and the traffic up at the same time.

Why should we feel confident you can do that this time?

Joe, we've had learning from the last time, that is one advantage.

And the situation on advertising is that we have got a new agency and a new EVP of marketing.

So I think we have more power coming in versus where we were a few months ago a few months ago.

So that is going to help us as we make this change.

We will be very careful where we go so that we don't do deep discounting as we have done before.

We do have menus in the field in test markets; and we will read those tests very, very carefully before we move forward.

As to the cost of sales, as you know, we've put -- as an important meaningful part of our P&L, we've spent a lot of effort and energy managing that; and we will continue to do so.

But we would over time see that number come down as the mix of Olive Garden and Smokey Bones increases as a percent of the total, because they run lower COGs than Red Lobster.

So that benefit, if you will, over time, is reflected in that number slightly declining over time with the mix of our restaurants.

Amy Vinson (ph), Avondale Partners.

I wanted to know -- and most of my questions have been answered -- I hate to keep harping on the Red Lobster menu.

But absent Lobster Fest, have you seen any noted shifts in the past couple of quarters in the areas of the menu or the price points where people are ordering as consumer spending has seemed to improve and traffic across the board, and most of the casuals have improved -- have you seen any changes?

More of the check that we run is determined by mix changes of what we advertise and promote than any other one variable.

We do, as I said, have a void in the middle of the menu that consumers are talking about.

And we are dressing with items, again, that have been developed and are in the field being tested right now.

I think the answer there is there is just no measurable, major shift in the non-promoted area of the menu.

John Omwardsklein (ph), Brookwood (ph) Capital.

You said that the drive from the new concepts was kind of flat year-over-year.

Can you say what it is -- what is the drag on earnings from the new concepts?

No, John.

We have never quantified that in the last couple of fiscal years.

I do not think we are ready to start doing that at this point in time.

We do mention the delta for you.

Matt DiFrisco, Harris Nesbitt.

A couple questions, actually.

On the emerging brands, there was comments that Smokey Bones, at the restaurant level, doubled operating profit margins, or doubled operating profit contribution.

Then with the addition of the Bahama Breeze lunch and pretty much 23 new openings from those two brands versus 19 year ago, it looks as though you would be seeing better earnings contribution.

But you commented year-to-date, it's equally dilutive to the year ago and your forecast is the same.

Can you speak to what are the costs that we are missing or what are the incremental costs in there?

Secondly, just a follow-up question on that cash flow question.

Can you give us the operating cash flow, what you have to date, so we can complete the circle?

I'll start.

And Matt, really as you think about the financial dynamics for Smokey Bones, it does start with restaurant earnings.

And those do reflect the number of restaurants we have in operation; how well they are doing.

With sales per restaurant that are averaging above $3 million, we are feeling pretty good about the amount of restaurant earnings we are producing.

But restaurant earnings are offset by the cost of growth.

The most obvious, the most visible cost is certainly new restaurant preopening expenses.

When you look at the year for Smokey Bones, those will be roughly $9 million.

That is a significant increase over last year.

Then there is some additional costs of growth that are not as visible, costs such as manager recruiting expenses; and that's the staff -- the thirty new restaurants that we are doing this year.

But we also have managers in the pipeline for the first half of next year's openings.

In addition to that, we have got manager training costs.

And we have appreciably heavier than usual operation supervision expenses.

That comes from what I mentioned, our multi-unit operations leaders have more limited spans of control, fewer restaurants that they're responsible for than you would have in a more established business.

And so when you add all of those together, that is another $13 million or so this year.

And so that combination -- a little over $20 million of growth overhead -- restaurant earnings offset that, not quite all of it.

That's how you get to where we are.

When you look at that total number, that is net for new business work (ph), that includes our new business development arm, which I think everybody knows, we are exploring the Seasons 52 opportunity.

So there are some costs associated with that; and some costs associated in new business of (ph) just studying future and oncoming trends.

So all of that together is the number we are looking at.

We didn't answer the question about cash flow.

Net cash flow, we would say, was roughly 57 to $58 million in the third quarter.

Mike Smith, Oppenheimer.

It has been asked and answered, thank you.

Bryan Elliott, Raymond James.

Actually, a couple clarifications.

The year-to-date cash flow you just said is 57 to 58.

And the CapEx was what?

That was third quarter.

That was Q3.

What was CapEx, 70 something?

$78 million.

78, that was CapEx, okay.

Also, clarify -- come back to the SG&A -- excuse me, the workers' comp question.

My recollection is that at this time last year, this was -- that you do calendar actuaries; and any changes in accruals and/or reserve additions occur early in the calendar year this time last year; if you refresh my memory, we did, I believe, have an accrual increase but not a reserve increase.

And at the time, you said incidents -- again, this is all by memory asking for clarification -- I believe you said incidents and costs we are following -- cost of incidents were following at that point this last year.

It sounds like that has continued.

Help me understand the actuarial process that would not have resulted in a reduction in workers' comp at this point, given those sets of facts?

Let me clarify, Bryan.

Last year at this time, we did not say the costs per incident were following (ph); we actually said they were rising.

But the number of incidents had begun to decline and it has continued to decline through this fiscal year.

Our actuaries have come in and taken a look at what we have set up in terms of accruals reserves for workers' compensation.

And just to refresh everybody, we are self-insured.

So we have to accrue to the ultimate liability.

And as they came in and looked at things this year, there was no need for an additional charge or an additional accrual for building the reserves for past periods claims.

So there was nothing big that we had to take.

What we are really experiencing again is, as we said, we increased our accruals last year.

We boosted the accruals, and that has carried through this year.

And that is what you're seeing here in the third quarter -- just a little bit of unfavorability year-over-year.

To just add to that, the things that make a difference between current incidents and the charges and accruals, etc., do have to do with older claims.

This company has been here now for 35 years.

So we have some disability claims and some medical treatment claims, long-term, that the actuaries have increased the amount of charges for that in the previous years.

And that is why you can have a disconnect between incidences going down and charges going up.

The only thing is, we clearly do believe our incident rate going down will ultimately get certainly a reduction in this rate of increase.

But we have not yet been able to -- the way we analyze it and the way we project it, it is not yet reflected in our accruals .

But we do have expectations that we can manage this number down.

Coralie Witter, Goldman Sachs.

I wanted to ask another question on Bahama Breeze and a follow-up on the earlier question that was asked.

Another way I would like to pose the question is, you have said that the lunch program is delivering in line with your expectations.

But what kind of increases are we seeing there?

And is it going to be enough to where post the 20 percent reduction in costs that you are getting from the new prototype that you are seeing a -- 1 to 1 investment ratio?

Because I think prior to that, your AUVs (ph) were probably around 4 to 5 and your costs were around 5 to 6 million?

We won't talk to the specific numbers with regard to the increases from lunch.

But I can tell you that with a reduction that we have seen in the prototype and the sales we are seeing in our existing restaurants and what we expect to see at Robinson Township, we should be at that 1 to 1 ratio or better.

Next question?

We will take about two or three more.

We are getting up to the time the market would open.

Chris Italian (ph), Wasser Associates.

Could you tell us how many of your properties are owned versus leased?

We own approximately 63, 64 percent of our properties.

The remainder are leased; some of those are -- just have land lease; some are land and building leased.

I'd say the land and building leased (ph) accounts for about 11 percent of our properties.

The remainder would be a land-only lease where we own the building.

One more question.

Janice Meyer, CSFB.

Could you talk a little more about the search at Red Lobster?

Have you changed at all the type of person you are looking for from when you started the search until now?

What have you learned?

Could you talk about just the trade-off going internal versus external?

Obviously, somebody internally could hit the ground running pretty quickly.

What are your thoughts on making that trade-off?

I don't want to get into that much detail, Janice.

Let's put it this way -- the original criteria that we set out -- that we set down as we started looking for a president was very thorough.

It's criteria that looks at the job as well beyond just a job description.

And so the criteria is strong to get the kind of leadership in place that we need for our major companies.

So I don't want to go farther into that.

In terms of the benefits of internal versus external, you are right that someone internal knows us, we know them.

But to do due diligence, I think we also need to look external to see who is available and what their characteristics are; and we are doing that.

I don't want to take you beyond that, because I might be -- there could be somebody that is in the interview process listening in that would get worried one way or the other if I start speculating on characteristics of the eventual person.

But I appreciate your interest.

And believe me, we are searching for a person that has great leadership skills.

And we have a list of people to choose from.

So with that, we will close down the questions.

Thank you, very much, for joining us this morning.

We're very pleased with an outstanding quarter.

And we are looking forward to coming back and having several more for you for generations.

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