達登餐飲 (DRI) 2004 Q1 法說會逐字稿

Welcome to the Darden Restaurants first-quarter results conference call on Thursday, the 23 of September 2004.

Throughout today's presentation, all participants will be in a listen-only mode.

After the presentation, there will be an opportunity to ask questions. (OPERATOR INSTRUCTIONS).

I will now hand the conference over to Mr. Matthew Stroud.

Please go ahead, sir.

Good morning.

With me today are Joe Lee, Darden's Chairman and CEO, Clarence Otis, President of Smokey Bones and CEO Elect of Darden, Drew Madsen, President of Olive Garden and president and COO Elect of Darden, Linda Dimopoulos, Darden's CFO, and Kim Lopdrup, President of Red Lobster.

We welcome those of you joining us by the 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 the 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 are cautioned against placing undue reliance on any forward-looking statement made by or on behalf of the Company.

A copy of our press release announcing our earnings, the Form 8-K to file the release with the Securities and Exchange Commission and any other financial and or statistical information about the period covered in the conference call, including any information required by Regulation G, is available under the heading "the numbers" on our Web site at Darden.com.

We released first-quarter earnings yesterday.

Results were available on PR Newswire, First Call and other wire services.

Let's begin by updating you on those results.

First-quarter net earnings were $72.1 million and diluted net EPS was 44 cents, a 10 percent increase from last year.

Olive Garden had an outstanding quarter, delivering results that met our expectations.

They reported solid U.S. same-restaurant sales growth of 2.8 percent in the first quarter and total sales were up 6 percent.

Red Lobster showed improvement as well this quarter with increased profit margin per guest, high guest satisfaction scores and operating efficiency.

Due to a change in promotional strategy at Red Lobster, total sales were down 6.2 percent for the quarter and same-restaurant sales declined 7.6 percent in the U.S.

Bahama Breeze also delivered good results this quarter with increased sales and profitability.

These results are encouraging, as the team there works to achieve Bahama Breeze's ultimate business potential, which we continue to believe is meaningful.

Smokey Bones continues to expand rapidly and to generate sales and restaurant-level earnings that speak to its strong consumer acceptance.

They opened 7 restaurants this quarter and are expecting to open 30 to 40 restaurants this fiscal year.

Linda will now provide detail about our financial results for the first quarter.

Drew and Kim will discuss their respective businesses and then Clarence and Joe will offer some final comments.

We will then respond to your questions.

First-quarter operating profit increased at Olive Garden and Bahama Breeze and were (sic) flat at Smokey Bones.

While overall operating profit fell slightly at Red Lobster, its per-guest profit margins increased and its overall profit was in line with what we expected.

Darden's total sales increased 1.5 percent in the first quarter as a result of same-restaurant sales growth at Olive Garden and our operation of 53 more restaurants than the first quarter of the prior year.

It reflects significant changes in marketing strategies that we put in place for Red Lobster and some adjustment to promotional timing at Olive Garden to work around the Olympics.

In terms of margin announcements in the first quarter, food and beverage expenses were 88 basis points better than last year on a percent of sales basis.

There are basically three reasons for this -- first ,a more favorable promotional mix and reduced rates at Red Lobster; second, cost saving initiatives we have been undertaking across all of our businesses; and third, the fact that our other businesses other than Red Lobster are accounting for a larger portion of our food and beverage expense.

For this fiscal year, we expect food and beverage as a percent of sales to be flat to or lower than fiscal 2004.

We have forward contracts, our hedge is in place on many of our products, and in some cases, we purchased inventories to lock in our position.

First-quarter labor expenses were 59 basis points higher than last year on a percentage of sales basis for two reasons -- expenses were higher due to wage rate inflation that exceeded 2 percent and in addition, there was less sales leverage because of the sales decline at Red Lobster.

Restaurant expenses in the fourth quarter were essentially flat to last year on a percentage of sales basis.

Workers comp was favorable this quarter due to our continued focus on reducing claims, but this was mostly offset by increased utility expense and less sales leverage at Red Lobster.

Selling, General & Administrative expenses were lower as a percent of sales by 6 basis points, primarily due to Olive Garden's sales leverage and from reduced marketing spending.

The tax rate for the first quarter was higher versus last year, primarily due to fewer work opportunity tax credits.

For fiscal 2005, we continue to expect the tax rate to be approximately 34 percent.

Finally, we repurchased over 2.9 million shares of our common stock in the first quarter.

Since beginning our repurchase program in December of 1995, we have now repurchased 112.2 million shares under authorizations totaling 115.4 million shares.

We continue to expect diluted EPS growth in the range of 8 to 12 percent for fiscal 2005.

This compares to the $1.50 in adjusted diluted EPS for fiscal 2004, which excludes the asset impairment and restructuring charges we incurred then.

This is not a statement of our quarterly expectations (indiscernible) I don't have to tell most of you there are always specific factors in any quarter that may put us above or below the range we expect for the year.

We estimate that Hurricanes Frances and Ivan, which occurred in fiscal September, have adversely affected September's same-restaurant sales results at both Red Lobster and Olive Garden by approximately 1 percent of total sales with an impact to Darden of 5.5 to 6 million.

However, we have experienced improving sales trends thus far in September as compared to August, which have offset the negative effects of the hurricanes.

Now, I'll turn it over to Drew for comments.

Thank you, Linda.

Olive Garden began fiscal 2005 with a strong first quarter by delivering solid topline growth and new quarterly records for operating profit and return on sales.

For the quarter, we increased total sales by 6 percent, driven by 18 net new restaurants and operations since last year and strong same-restaurant sales increases of 2.8 percent, which is on top of last year's 3.9 percent increase.

Our first-quarter total sales growth, combined with balanced cost management, produced new quarterly record operating profit, which represents double-digit increases over last year.

August same-restaurant sales were down 2 to 3 percent versus last year because of our decision to shift to media away from the Olympics in August back earlier in the quarter.

Given our strong sales and profit performance for the quarter, we believe this was the right decision.

September same-restaurant sales so far are back on track.

During the first quarter, we also completed a decade of sustained growth with our 40th consecutive quarter of same-restaurant sales increases. (indiscernible) with the basics, especially in in-restaurant operations, continues to be the foundation of our success.

In particular, quality assurance and overall guest satisfaction both improved versus last year and equaled our best-ever levels.

Our new core (ph) menu was successfully launched on June 28 and features items that build our brand and provide compelling new reasons to visit our restaurants.

In addition, the availability of our low-fat and lower-carbohydrate garden fare dishes is now more prominently featured on the menu.

New first-quarter advertising featured parmesan-crusted chicken and parmesan-crusted shrimp followed by shrimp and crab ravioli and three-meat ravioli.

Both of these promotions were also supported by our signature soup/salad and breadsticks advertising.

Also in the first quarter, we opened four new Tuscan Farmhouse restaurants and are on track to open 15 to 20 new restaurants in fiscal 2005.

Olive Garden does have a proven strategy of trusted brand and industry-leading operating performance.

We are passionate about capturing a tremendous opportunity that we know still lie ahead.

Now Kim will give you an update on Red Lobster.

In the first quarter, Red Lobster achieved our internal operating profit goals, record guest-satisfaction scores and record safety and cleanliness scores as measured by our third-party quality assurance auditors.

While guest counts were well below year-end levels, a significant portion of the decline was due to an intentional change in promotional strategy designed to produce more sustainable results.

Same-restaurant sales were 7.6 percent below last year.

Importantly, sales for each of the prior two years were boosted substantially by Endless Crab promotions.

Those events drove strong traffic and high checks but low profit flow-through on the added sales and poor levels of guest satisfaction.

We believe those promotions may have contributed to the sustained declines in base guest counts that followed each event.

Rather than run Endless Crab again this year, we chose to focus on building our brand, executing our "Simply Great" operational discipline and delivering high levels of guest satisfaction.

All three promotions during the quarter were designed to be operationally friendly.

This resulted in appropriate staffing levels, high levels of guest satisfaction, and reduced food waste.

As part of our brand-building effort, we launched our new Lighthouse Selections menu, which highlights menu items that are low in fat, carbs and calories.

Our television and for Lighthouse received the highest brand-building scores out of all adds Red Lobster has ever tested.

Moreover, we purchased (indiscernible) scores behind Lighthouse selections were also the best we have ever measured.

Our profit margin per guest was higher than during the prior year, attributable to greater efficiency and less food waste, as well as our strategy of reducing price discounts on promotions.

Our focus on improving our manager and frontline crew experience continues to result in manager and front-line crew turnover rates that are better than industry averages, and our quality assurance measures continue to improve, reaching new heights this quarter.

Our new leadership team has been in place for just over a quarter and I am pleased with how quickly we are becoming an effective team.

Among other accomplishments, we've completed some important market research that has given us new insights into the attitudes and usage habits of our guests, and this has helped us refine Red Lobster's strategy and brand identity.

We are undertaking a number of operational initiatives to make further improvements in our performance in areas that matter most to our guests.

Earlier this month, Red Lobster received the "Choice in Chains" award from Restaurants and Institutions Magazine for being rated the nation's best seafood restaurant chain in a readers poll.

This is the 16th consecutive year that Red Lobster has been named Best Seafood Chain, and Red Lobster is the only restaurant chain that has been named best in this segment for 16 consecutive years.

This underscores the fact the we are building on a solid foundation, even as we address current challenges.

I'm pleased that our sister chain, Olive Garden, was named best in the Italian segment, and that made Darden the only restaurant company to have two brands named best in their segment this year.

To sum up, we're taking steps to deliver sustainable growth.

We've strengthened our management team; we've improved the quality and efficiency of our restaurant operations; we've improved guest satisfaction to record levels.

We have initiatives under way to make further improvements.

We believe this will ultimately drive higher repurchase rates and improve our sales trends and we're well positioned to convert added sales to higher profits.

We look forward to reporting additional progress at the end of the second quarter.

Now, I'll turn it over to Clarence for some additional comments.

Thank you, Kim.

Darden's overall results this quarter reflect good progress on a number of fronts, although we recognize we still have a great deal of work to do in both the near-term and the long-term, to capture our potential.

Our ultimate goal is clear, though, and that's to build a great company that creates superior shareholder value and will last for generations.

That starts with having restaurant operating companies that combine outstanding, day-to-day operations with brand promises that are both compelling and unique.

Each of our operating companies is working to address specific challenges, but in each case, their efforts boil down to a focus on these basics -- strengthening their restaurant operations and strengthening their brand promises.

For these efforts to pay off, we have to provide strong support in a number of critical areas, including among other things, sourcing and developing strong leaders, providing high-quality insight about important consumer and workforce trends, developing appealing menus, providing competitively superior purchasing and distribution, and developing powerful advertising and using that advertising effectively.

Our track record is very good when it comes to providing support in these and other areas.

That's one of the big reasons why we are the leader in casual dining.

But we recognize that we have plenty of room for improvement.

As Drew and I talk to people throughout the organization, our early observations are that we can improve the restaurant support we provide by doing two things.

First, we need to do a better job of making sure that when we have best practices or strong expertise in one part of the Company, we use those practices or that expertise in every part of the Company.

Secondly, we need to make sure our restaurant support is more effective and cost efficient.

We believe that the foundation for success is outstanding support of our restaurants, combined with a strong focus on operating and brand-management excellence by our restaurant operating teams.

With this foundation, we believe we will be able to provide you, our shareholders, with more consistent performance, we will be able to increase unit growth at our existing businesses, and we will be able to grow new businesses more effectively, whether those new businesses are internally developed or acquired.

As you have heard us say before, there's a tremendous growth opportunity in casual dining, and we are committed to capture that opportunity.

We think the first steps are for each of our operating companies to successfully address the operating and brand-building challenges and opportunities they face today while at the same time, we build a stronger restaurant-support platform.

When we've made sufficient progress building that foundation for success, we can turn our attention to taking advantage of new business growth opportunities that add shareholder value.

Now, I will turn it back over to Matthew for some additional remarks.

Just some information housekeeping for many of you -- we plan to release same-restaurant sales results for fiscal September 2005 during the week of October 4.

We plan to release same-restaurant sales results for fiscal October 2005 during the week of November 1.

We plan to release fiscal 2005 second-quarter earnings and same-restaurant sales for fiscal November 2005 on Thursday, December 16 after the market close.

To ensure that as we transition to new leadership at Garden, Olive Garden and Smokey Bones on December 1, we are appropriately focused on our number one priority, executing our strategy.

We are postponing the analyst meeting initially scheduled for November 11 and 12 in Orlando.

We now expect to hold the meeting in the spring and we will provide you with details later in the year.

We apologize for any inconvenience this scheduling change made cause and look forward to meeting with you in the spring.

Now Joe is going to offer some closing comments and then we will take questions.

Thank you, Matthew and team.

As we have said, we're really pleased with the overall results of Darden this quarter.

Olive Garden continues to demonstrate how brilliant with the basics and the in-restaurant operations, strong brand-building and solid restaurant combined to drive excellent guest satisfaction and excellent sales growth and consistent financial performance.

Red Lobster is making progress on improving the in-restaurant operations, restaurant support and brand building capabilities and making lots of progress, especially in advertising and operations.

This quarter's results reflect some of that progress.

Bahama Breeze continues to strengthen its business and is on the record to profitability (sic), and they have a better guest experience; they are improving cost controls; and they have more appropriate levels of investment for their future growth.

Smokey Bones remains a meaningful business opportunity for Darden, and I'm delighted with the strong operational focus that they are maintaining and where the guest experience is not being compromised while they continue to expand at this fast rate.

We have a talented and dynamic and seasoned leadership team with a passion for our business.

I'm pleased with our leadership transition at the Darden level.

Clarence and Drew are stepping up to their new roles as well as I'm pleased with the leadership transitions going on at the operating level.

Kim Lopdrup and his team are making great progress as they improve Red Lobster's performance.

Dave Pickens and his team are focused on the continued delivery of outstanding results at Olive Garden.

Laurie Burns and the Bahama Breeze team made great efforts to increase sales and profitability, and J.J.

Buettgen and the Smokey Bones team are really maintaining high levels of consumer acceptance, as I said earlier, while continuing that rapid expansion.

We have an outstanding group of leaders at Darden and I'm confident of their ability to achieve our goal of being the best in casual dining restaurants now and for generations.

We are focused on building our core strength while also developing fresh, new approaches where appropriate, and we're more committed to consistently delivering industry-leading performance than we've ever been.

Casual dining is a robust industry and has great potential.

Darden is well positioned to capture that opportunity.

We've got two established and trusted brand, two emerging growth brands and an exciting restaurant test underway.

We have dominant market share in our industry; we've got strong cash flows; we've got a great financial position; and most importantly we've got people who are committed to being the best in the industry.

So we will open it up for questions now.

Thank you, sir. (OPERATOR INSTRUCTIONS) Mark Kalinowski.

Hi, it's Mark from Smith Barney.

Two things I wanted to ask about -- first just very quickly and I'm sorry if I missed it.

You did comment on September trends so far at Olive Garden.

I just wonder if you have any comment on September trends at Red Lobster so far.

The second thing I wanted to ask about is, as best as I can tell, it looks like the percentage of sales coming from alcoholic beverages is declining slightly at both Red Lobster and Olive Garden.

I was just curious if maybe you thought de-emphasize that as an initiative, what you might do, going forward, to try to get that percentage up, etc.

First of all, on Red Lobster sales trends, I would note that during the first two weeks of September, we continued to lap the all you can eat crab promotion from year ago.

I would say that since we stopped lapping all you can eat crab, there has been a material change in trend in a positive direction, so September to date is better.

In terms of alcohol, I would say that our alcohol sales are down somewhat; our alcoholic beverage sales per guest are about 6 cents lower than a year ago.

We do believe we have opportunities to improve that.

To be honest, we've been focused on improvements in some other areas and we do need to get back to focusing on beverage alcohol.

At Olive Garden, alcoholic beverage sales are growing, but they are not growing as fast as our total sales, so our percentage has dropped a little.

We're seeing that trend, frankly, across the industry; that beverage alcohol incidence rate has declined a little bit.

It is still a big priority for Olive Garden, and it's still a big business-building opportunity for us and one that we've got appropriate focus on the rest of this year and into the future.

Janice Meyer.

Thanks.

It's Janice Meyer with First Boston.

Kim, I was wondering if you could talk little bit about the magnitude of traffic declines being at Red Lobster in August.

We know you had very tough comparisons, but it was really more driven by the average check, I think traffic was only up a couple of points in August last year, so the decline in traffic seems much bigger than we had expected.

Maybe you can talk a little about that, especially in light of all of the measures you've showed that are improving.

Traffic was down in August.

I would note that when you compare to the prior year, there was one week of all you can eat -- when you look at prior year's results, if you go back yet a further year, there was an all you can eat crab event during three weeks of July and the first week of August as well, so last year's -- the increase generated by last year's all you can eat crab promotion was probably even greater than might be apparent to you from the data you have available because there was an all you can eat crab promotion during part of the same month in the prior year.

A majority of the decline was due to lapping all you can eat crab; that is very clear.

If you go back during the year-ago period and if you were to look at it on a week-by-week basis, that was a more powerful event that may be apparent, given -- if you compare it to the sales trends before and after that event.

Could you be a little more specific? (LAUGHTER).

I'll help out because Kim wasn't here.

I think, if you look at the cumulative August, you'll see that guest count increases were about where we saw the decrease this year, so clearly the two years of all you can eat crab accounted for that.

As you know, those were not the most profitable guests that we could have, so it makes sense to make a change.

Obviously, the opportunity costs of pursuing two years of all you can eat crab was significant, and we wish we hadn't incurred it, but that's the way it is.

The key thing again is those events led to the lowest guest-satisfaction; both of those events led to the lowest guest-satisfaction scores we've had over the last several years and were followed by periods of significant declines in base guest counts.

So, we don't believe that is a way to build the business sustainability

I agree and that's why it was sort of surprising that your guest satisfaction was extremely low last year.

It's much higher this year, and you advertised on the Olympics I believe this year at Red Lobster, right?

No, we did not.

Oh, you didn't?

I thought it was different strategies for different chains.

It was the same strategy?

We advertised during the Olympics but not on the Olympics.

That's what I mean, during the Olympics, so nonetheless, the traffic was still a little weaker than we saw.

I was going to add -- I think Kim just did what I was about to say.

That is that, as you make these transitions and shifts of how you're going to promote, there is a period like we're going through right now where the traffic will be doing one thing and the profitability and income will be doing something directionally different.

Just a final add is that the advertising that Kim did do was really around the Lighthouse menu and much more oriented around brand-building as opposed to guest-driving kind of a feature.

Jeff Omohundro.

Hi, it's Jeff at Wachovia Securities.

Two questions, first on Red Lobster, I wonder if you could elaborate a little bit on the new operational discipline there.

I think you described it as "Simply Great".

What does that really mean at the unit level?

Maybe you can elaborate on that?

Secondly, it does seem like many of these initiatives that focus are centered a bit on Red Lobster.

I'm just wondering if you're bringing the same level of emphasis to Olive Garden in order to keep that momentum going, particularly against tougher upcoming comparisons.

If so, what sort of new efforts should we expect to see there?

When we talk about "Simply Great", what we're really referring to is what -- there is a book called "The Discipline of Market Leaders".

What that book would refer to is an operational excellence value discipline and it's really about simplifying processes, eliminating variations so that you can achieve higher levels of execution at a lower cost simultaneously.

That is what that is about.

In terms of Olive Garden, to be honest, I think they largely follow that already, and we've learned a great deal from Olive Garden's successful turnaround.

A lot of what we're doing at Red Lobster is -- we've taken learnings from a number of other turnarounds but in great part from what successfully turned the Olive Garden business around and led to sustainable, year-after-year growth and guest satisfaction and customer counts.

Related to Olive Garden in the future, our strategy is working and the key drivers of it aren't going to change.

The way we bring those to life will be a little different, but the strategy won't change.

Foundation and operational excellence and a great guest experience, number one; maintaining a very strong brand and distinct identity, number two, and then compelling news, you know, new reasons to come into the restaurant where we again deliver a great experience.

Those are the three things that we've focused on and will continue to focus on.

In terms of our guest experience, we've made significant strides over the past several years and our research would show we are in the top tier of casual dining now.

We're going to make that even stronger, going forward, with a particular emphasis on service, all aspects of the service experience.

As it relates to the marketing side of the business, we're going to continue to offer compelling news that fits our brand and gives people a new reason to visit, just like we have in the last year or two, with new commercials and new dishes like shrimp and crab ravioli, three-meet ravioli.

We have some new sauces currently on air right now in our never-ending pasta bowl promotion.

So, that's kind of the focus for Olive Garden, going forward.

Mike Smith.

It's Mike Smith from Oppenheimer.

Kim, when you were making your presentation, you mentioned some research that you had done and some direction that were going.

I wonder if you could expand on that.

Then also, as it reflects on Red Lobster, where do you stand on the new menu items?

I know that's been an important part of Olive Garden's success.

Where do you stand on that front?

Sure, Mike.

On the research, we've actually been doing some significant research in a number of areas during the last quarter.

That includes research on consumer attitudes and usage to gain real insights into what consumers want from us and from seafood chains, and we've learned a lot about how we believe we can gain competitive advantage as a seafood chain.

Obviously, I'm not going to disclose specifics publicly, but it's all about becoming an even better seafood chain than we are today.

We've also done guest-satisfaction studies on every item on our menu, and we have learned where we are doing great; we've learned what our opportunity areas are and we are working item-by-item to make sure that everything on our menu is as good as it possibly can be.

We have some new items in test that we expect to be on our next menu, and we are also working to gradually reduce the size of our menu to make it less complex.

There will not be any single dramatic step there; this is going to be a gradual process over time.

But we're going to continue to work to gradually reduce the size of our menu so that it becomes less complex and we can achieve even higher levels of execution in our restaurants.

Mike, I might add that really what we are delighted with and one of the keys to what Kim said is the rigorous process that he is going through as he make adjustments to the menu, it's very important, given the scope of operations at Red Lobster, Olive Garden, any of the national casual dining players, that we make sure that we go through that process.

This is not a business where you really can be intuitive when it comes to something as important as a menu.

We've made some mistakes like that in the past and Kim and his team are going through a rigorous testing process that we think is the right way to get there.

Certainly, Olive Garden has done that, continues to do that and we all learn from the way that they approach it.

Those new menu items that you are testing somewhere, are they in the 10 to $15 range that you had previously identified as being a weak area?

We do have some in that range.

We've others in other price ranges also.

But we have some in that range that we feel very good about.

I will emphasize that what we're trying to do is make sure that everything we do is absolutely great, and we are more concerned with quality than quantity of items.

On balance, we're going to be gradually narrowing, reducing the size of our menu.

Destin Tompkins (ph).

Actually, it's Bob Derrington.

My question again pertains to Red Lobster.

I'm curious.

Typically you've had a consumer base around who has used the Red Lobster brand, who has been attracted to what had been in the past an aggressive promotional strategy, particularly regarding price.

As your strategy changes, how do you see your consumer base evolving?

If you are moving that base to a less price-sensitive consumer, who do you see that you will be competing against as you bring in, try and attract that user from another concept, for example?

I'm going to make a comment here, because I was involved even before Kim here, on making some of these moves and Kim has certainly plussed (ph) them up a whole lot since he's been in charge.

But Bob, we are not moving away from dealing or from running specials or offering attractive offers; what we're doing is doing less of that and being more aware of the margin impacts as we do.

We are also being aware of the complexity involved in some of these promotions so that we don't waste product or do a poor job of customer satisfaction when we advertise a special event.

So, I just want to make it clear that we are not moving Red Lobster away from -- just as Olive Garden is not away from offering deals for the consumer from time to time.

We're going to be a lot smarter about it; we're going to do it less often; we're going to have more preplanning, pre-testing and we will go out with a better product, with better cost control and better margin control than we have in the past.

Do you want to add to that, Kim?

No, all those points are absolutely right, Joe.

Just in terms of your question, who do we compete against?

I would say it's other chains that offer differentiated casual dining experiences, so that is more than just seafood chains.

In order to capture a larger share of business, we are very focused on continuing the improvements we've made in improving guest satisfaction, and we are pleased that some of our metrics show us overtaking some key folks who we believe are very relevant competitors.

There may be some lag before the general market -- before perception catches up with reality, but what we're seeing from people who actually have visited us compared to other key competitors, we are pleased that we are overtaking some people we're really paying attention to.

Joe Buckley.

It's Joe Buckley with Bear Stearns.

I have a couple of questions.

I have a big picture question on Red Lobster.

It's not clear to me where you are or where you think you are in terms of the turnaround effort.

It sounds like the operational piece is moving in the right direction.

The menu still sounds like it (indiscernible) defined.

I don't know where you think you are in the marketing piece.

I guess -- (technical difficulty).

We lost the entire conference.

We cannot hear anyone on this end.

Hello?

We are connected and we are broadcasting.

Operator?

Perfect time to be asking this, but do we have a backup plan?

Matthew Difrisco.

Matt Difrisco from Harris Nesbitt.

Matt, can you hang on?

We lost Joe halfway through his question back there and I don't know if you could hear us or not but we couldn't hear anybody; we couldn't hear the last half of Joe's question.

We could hear you and no one heard the last half of Joe's question.

If you want to answer his question, I will step back.

Let's try to answer the part (inaudible) -- (Multiple Speakers).

Let's do that.

First, I guess just a little greater clarity on -- in the press release, you say Red Lobster's operating margins or operating profit improved, and you mentioned restaurant expenses.

I'm just a little lost.

I haven't still heard what the restaurant expenses you are saving there, what is the savings there?

Second, can you give us some outlook here? 10 percent EPS growth in this quarter, when you had less-than-spectacular same-store sales, you expect better same-store sales ahead.

Should we expect then your guidance is looking for now a little rosier maybe back to the double-digit EPS, or is there something on the margin side that we are missing?

Let me start with the restaurant expense side.

What we did indicate that we are experiencing favorability due to the workers comp and public liability, but it's being offset by somewhat higher utilities.

Also certainly in the first quarter, we had -- because of Red Lobster's sales declines, we had less sales leverage, and so all of those had impacted restaurant expenses.

So, we are making progress in there but some of the sales leveraging is not showing as much favorability there.

You want to take the guidance?

I was just going to say Linda mentioned that we remain comfortable with that 8 to 12 percent, Matt, and we've got, as you know, a number of new teams.

Red Lobster's team (indiscernible) work together for a quarter;

Drew and I are working together; we are in transition there.

So, we want to make sure that we have room to do what it takes to build sustainability in our business.

We think we're comfortable with that 8 to 12 percent range allowing us to do that.

If results are better than that, we would be delighted, but that's sort of where we are today.

Can we bring Joe Buckley back on if he's in the queue?

Thank you.

Mr. Buckley, please go ahead.

I'm not sure what happened, but can you hear me okay now?

I was trying to ask a big picture question on Red Lobster.

I'm just trying to determine where you are in the turnaround effort.

I was saying it sounds like the operational piece is moving along but I'm not sure where you are in terms of the menu development, the marketing.

A related question -- how you would recapture all of this lost traffic when you think you have it right.

First of all, yes, we do feel very good about operational progress.

Having said that, that continues to be a major area of focus and will continue to be a major area of focus because we want to be absolutely great at that.

In terms of menu development, we are making progress.

We feel very good about some of the items that we have in the pipeline and that we've been seeing in the marketplace, and there are some items that will be appearing on the next menu change that we think are going to be very positive changes.

Regarding marketing, we actually feel, believe it or not, pretty good about the advertising we have on right now.

It is testing well.

It is not designed to fundamentally reposition the brand; it is designed to trigger the crave and we, for example, in the case of the Lighthouse menu, actually achieved the highest brand-building scores literally of every add Red Lobster has tested in its history.

So we do not believe we have bad advertising on the air right now.

Having said that, we are going through an exploratory process where we have been -- are in the process of testing several campaign approaches and will likely introduce one of those during the second half of the year.

Jonathan Waite.

Yes, Key/McDonald.

A follow-up to that last question -- I'm wondering, you've got a new test coming for the back half of the year.

Is it going to be brand-focused?

Are we going to see a new brand campaign or is that not until next year?

Then Joe, you might have answered this a little bit, but this month, you are promoting all you can eat shrimp at Red Lobster.

Are we going to see an end to the all you can eat promotions, or is that going to be something that will be ongoing?

Let me just catch the front end of that because I was there and announcing that we were going to move away from the all you can eat promotions -- but I was trying to be extremely specific.

We were moving away from some of them or the magnitude and amount; we're not moving totally away, and we've continued to say that.

There will be a place, in certain times of the year, that we will have an all you can eat promotion, but it will not be, again, something that has a protein source that is extremely expensive and hard to get or is operationally complex on our restaurants.

Kim is refining that basic strategy and doing I think quite a good job of making that refinement.

In terms of the question on future advertising, will it be brand-focused or promotionally focused, we are going to try to -- we will design advertising that is both brand-building and communicates a reason for consumers to come in today.

We believe we can achieve both, and we actually are laying out a brand-elevation plan where there will be actually a series of phases the brand will go through to get to a higher level than it is today.

But that will be a phased approach as opposed to a dramatic change all at once.

That's something that will be -- it's obviously premature to go into specifics on, but will be happening over time.

One other comment on the all you can eat promotion scene, as Joe's said, not all all you can eat promotions are created equal, if you will, or the same.

I think, on a periodic basis, they make perfect sense if done appropriately.

If you can conceive an all you can eat promotions that is consistent with your brand, delivers a superior guest experience and delivers an appropriate financial return and you do that periodically, then I think it makes perfect sense.

The never-ending pasta bowl, as an example for Olive Garden, is something that we don't feel bad about -- in fact we're proud about and think it is a signature event that speaks to Italian generosity and being part of an idealized Italian family meal from a brand standpoint.

It's designed so that we can do it quickly and efficiently with great flavor, great food temperature and the guest experience is very good and it is priced so that it delivers a margin that we are very excited about.

So, it's not a one-size-fits-all I guess and some all you can eat promotions can be very powerful over time.

I just want to add also the reason we are running all you can eat shrimp now is to smooth out demand.

We've gone into a period that has historical been the slowest time of year for Red Lobster.

All you can eat shrimp is a very powerful traffic-generating event and by running it now, we are able to smooth out demand.

During the first quarter, by the way, we also designed our marketing program to smooth demand and as a result of that, the standard deviation of week-to-week variance in sales versus the mean was reduced by more than two-thirds versus the prior year, which makes it easier to plan labor, easier to plan production.

That's part of the reason why we saw food waste go down from 6.2 percent to 5 percent; that's part of the reason why we got greater labor efficiencies.

Jason Whitmer.

Good morning, Midwest Research.

Linda, I wanted to ask a quick question on the new brands and kind of skim through those.

It seems like operating profit has improved at Bahama Breeze and was flat at Smokey Bones.

Are we still dilutive in the combination of the two, or are we directionally getting better collectively and getting close to par on that?

Yes, Jason, we are clearly getting better directionally.

As we indicated in our last call, we expect the brands to be accretive in the back half and although Smokey Bones will still be dilutive for the year, we believe Bahama Breeze will be slightly accretive for the year.

John Ivankoe.

Thank you, with JP Morgan.

Actually, my question is on Smokey Bones.

Linda, something that you said in your prepared remarks is that it sounds like profit growth, your profit was flat on a year-over-year basis or I guess loss if you will was flat on year-over-year basis.

Could you discuss, at Smokey Bones, what is happening at the restaurant regional or brand level that is preventing incremental year-over-year profit growth, given the number of units?

What -- was it a terribly aggressive development schedule in the quarter?

Yes, we are continuing to see increases in certainly restaurant level earnings, significant increases year-over-year, because we do have meaningfully more restaurants year-over-year.

We do still have that growth overhead, that at this point keeps them from being accretive to earnings.

As we said, we expect that to begin to turn in the back half, and for the restaurant-level performance, which is strong, to overcome the growth overhead and to start being accretive at the operating-profit level.

What about actually margins at the restaurant level?

In other words, has overhead been growing lockstep in line with the number of restaurants that you're opening, or is it something less than that and you are actually seeing some margin compression at the restaurant level?

No, we definitely see margin improvement at the restaurant level, and so we see that overhead continues to be leveraged by this growth.

As I said, in the back half, we would expect that to be at a level that would allow for profitable -- positive profit in the -- for Smokey Bones.

Do you have anything more you want to say? (indiscernible).

David Palmer.

From UBS.

There seems to be more talk from the Company about potential M&A and more effectively growing new concepts.

I guess my question is, can we infer from this talk that you already believe you have reached an inflection point in the Red Lobster business or that you see the light at the end of the tunnel?

In other words, you wouldn't add additional businesses or potential distractions without a "fixed" Red Lobster?

I would say that certainly growth is something that we are focused on, but we know that we need to do a lot of work before we are prepared for that.

It's not just Red Lobster; it really is across the board.

We want to see continued improvement at our existing, emerging businesses; we want to see ourselves have a more effective and more cost-effective restaurant support structure before we begin to add new businesses.

So, there is some foundation-building that we need to do in advance of adding additional new businesses beyond the things that we've got on our plate right now.

Stephen Spence.

Stephen, Longbow Research.

I have a question also on Smokey Bones.

On the last call, you had focused on the aggressive growth aspects, and I've been hearing recently a lot about increases in building costs, steel and lumber and so forth.

I wonder if you could tell me, kind of quantify the effect that these increases have on Smokey Bones' investment costs and what you are doing about it, what kind of alternatives there are.

That's a great question.

We have seen significant increases in a lot of construction costs, materials costs across the board.

What that has meant at Smokey Bones is really, versus prior to the run-up, we're looking at costs that are 300 to $400,000 higher, so that is significant -- 10 percent.

That does affect the rate of expansion.

I mean, we are focused on it.

These buildings have to be built in this environment and so they have to deliver a return that reflects this environment.

As we talk about range of growth, 30 to 40 restaurants I think is what we said this year.

Clearly, it puts pressure on us and moves us towards the lower half of that range because we are focused on returns.

Clive Monroe (ph).

It's Javelin Research.

Going back to Red Lobster again, Kim, I think one of the issues that's going on here with a lot of investor frustration is the real problem at Red Lobster is the fact that there really is a lack of items in the 10 to $15 range, and there really hasn't been a change in the menu even in the last 12 months on that score, despite the fact that people at Garden have constantly talked about it.

Obviously, most of these items are still in test and the menu change that we did have at the end of June was really almost nonexistent in terms of any meaningful change.

So my question is, for the menu change that comes up at the end of December, are we going to see any meaningful change or is it again going to be a relatively small number and therefore we are going to find ourselves having to wait perhaps until the middle of calendar 2005 to see any meaningful change in the menu?

Clive, first of all, I think the real issue is value as opposed to specifically 10 to $15.

We believe there was a great need to improve our value perception and actually, we have found that we are already making significant progress in that area.

As guest satisfaction goes up, value ratings have gone up just as fast.

Having said that, we will introduce some new items in that price range with the next menu change.

You said January;

I did not.

But at the next menu change and -- but this is not about dramatic -- we are not looking to move Red Lobster downscale from where it is today; we are looking to improve guest value.

So yes, it will include some items in that price range, but the key value driver will be better food and better service and an overall better guest experience.

We are already making great progress in that area, and we believe we will continue to make additional progress in that area.

Amy Greene.

Hi.

This is Sue (indiscernible) calling on her behalf.

Could you just give us some or updates on the Bahama Breeze concept and how openings are going, and what the traffic is looking like?

We have not had any openings in Bahama Breeze.

As we stated, once we opened a new prototype in the fourth quarter of last year, we were going to really watch this new prototype and see how it is performing.

At this point, it is still performing very strong, and so we are continuing to be encouraged by that.

We are still ramping on some lunch introductions, and again lunch is generally meeting our expectations as well, so we are happy with the progress that we are seeing at Bahama Breeze.

We've got time for one more question, please.

John Glass.

It's from CIBC.

Linda, you had cited a 2 percent wage rate inflation in the current quarter.

How much of a change is that from the prior couple of quarters?

I guess more generally, how do you -- (technical difficulty) -- restaurant industry, going forward?

That is a little bit higher than we've seen in previous quarters, so some of it has to do with a mix of restaurant labor, but it is a little bit higher and we are clearly watching it and using some of our other tools to make sure we are managing that effectively.

We've generally seen it closer to just under 2 percent, so going over that number did hit our radar as well.

I'd like to say thanks to everybody for joining us and for the questions and the interest in our company, and we look forward to be talking with you as time goes along and look forward to listening in as we move to that point where Clarence and Drew are, as they were today, handling most of the questions that come your way, along with Linda and the help of Kim.

So I hope everybody has a good day and thanks again for being with us.

Thank you.

This concludes your Darden Restaurants first-quarter conference call.

Thank you for participating.