Brinker International Inc (EAT) 2005 Q3 法說會逐字稿

Welcome to the Brinker third-quarter earnings conference call. At this time all participants have been placed on a listen-only mode and we will open floor for your questions and comments following the presentation. It is now my pleasure to turn the floor over to your coast, Lynn Schweinfurth.

Good morning, everyone; welcome to the April 26th Brinker International third-quarter fiscal 2005 earnings conference call. Let me begin with our Safe Harbor statement. During our opening remarks and in our responses to your questions certain items may be discussed which are not based entirely on historical facts. Any such items should be considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. All such forward-looking statements are subject to risk and uncertainties which could cause actual results to differ from those anticipated. Such risks and uncertainties include factors more completely described in this morning's press release and the Company's filings with the SEC.

With me today are Doug Brooks, Chairman and Chief Executive Officer; Todd Diener, Executive Vice President and Chief Operating Officer; and Chuck Sonsteby, Executive Vice President and Chief Financial Officer. This morning Doug is up first to share with you his perspective on recent key accomplishments and the individuals driving these accomplishments that will drive the Company's long-term profitability. Next Chuck will present the third-quarter financial results and the fourth-quarter forecast. Lastly we will open up the call for questions.

Before I turn the call over to Doug, I just want to remind everyone that last year we had an extra week in the fourth quarter. You will want to take that into consideration as you update your quarterly models for this fiscal year and for the fourth quarter in particular. Additionally, we are planning to provide fiscal year 2006 guidance in our May sales release on June 8th. With that, let me turn the call over to Doug.

Good morning, everyone, and thank you for joining us on the call today. As we reported earlier this morning, third-quarter earnings per share grew 16% year-over-year to $0.59 excluding a refranchising gain and restructuring charges that were detailed in our press release. Chuck is up next in the batting order to take you through our quarterly financial results in more detail.

But to begin, I was disappointed with our earnings results this quarter given that our strong top-line results did not flow through to the bottom line as we expected. However, be assured, we are addressing this short-term setback with urgency. Chuck and I will both touch on this this morning. Having said that, I continue to be optimistic about the long-term success of this Company for many reasons, including the people that we have in place that will make things happen.

Now recently I had been fielding questions regarding turnover and bench strength at Brinker. While we have heard turnover in some key positions at the Company, we have focused on filling each position with the best possible new person. This has resulted in what I believe to be a very healthy balance of internal promotions and experience and some excellent external hires. I consider the people in place at this Company to be a key point of difference and, with that, let me update you on some recent accomplishments we have achieved at each of the brands highlighting the leaders that have driven these results.

As you may recall, last year we revised our promotional marketing strategy at Chili's given the changing competitive landscape. We've moved away from a focus around core menu items to new product news. To execute this new focus we would have to build a product pipeline. Under the leadership of Krista Gibson and a very talented marketing, Chili's has successfully built and executed a process that will allow the new promotional strategy to come to fruition. Since the middle part of last year we have been filling up our pantry with any new products, and to confirm we are on target to finalize our promotional lineup for our fiscal year 2006 by August and for our fiscal year 2007 by December with proven, tested, traffic driving new product platforms.

In late February you saw the first product platform emerge that used the majority of our new process protocol -- savory skillets at Chili’s. As you saw in our release this morning, this promotion drove solid top-line results at Chili's in March, especially when you factor in the impact of Easter. You will see the next new platform unveiled in early May which I am equally excited about.

Additionally, Mike Dzura, a seasoned professional with 14 years restaurant industry experience, joined Brinker in February as Chili's new Chief Operating Officer. He is already having a positive influence on the Chili's team. But as I have already indicated, while we had good top-line performance this quarter, store level profitability was substandard. Mike has jumped right in to refine our process for setting store level profitability targets with heightened focus and accountability. He continues to identify opportunities to ensure consistent great service to our customers while increasing productivity in the restaurant to maximize our returns.

Now we continue to search for the right person to fill the President's role at Chili's. Given the importance of this role, we are combing the retail landscape to find someone with exceptional leadership skills and a successful track record of setting and driving strategy with proven financial results. As many of you know, Todd Diener was able to seamlessly jump into the role as interim president at Chili's with immediate credibility and impact and will continue to serve in this role until a permanent president is named.

Now let me turn to Macaroni Grill. Jean Birch has been steering the Macaroni Grill ship for all of four months now since moving over from Corner Bakery. As many of you already know, Jean was instrumental in setting the strategic vision for Corner Bakery, supporting the initiatives to make that vision a reality, and holding her team responsible for driving results. Jean is tasked with a similar mission initially now at Macaroni Grill.

Based on her past successes and on the progress she and her team are already making, I have no doubt that Jean is the ideal leader for this concept. As we have mentioned on past occasions, we do not believe driving consistent positive performance at Mac Grill requires a radical set of changes to a concept that already has great brand equity. Instead our focus has been on fine-tuning the positioning and the marketing execution along with ongoing work on our culinary pipeline.

Jean has spent her initial months getting up to speed. She has conducted roundtables across the country with operations teams and has gone through training in the restaurants working closely with her leadership team and reviewing the outputs from our consumer and market research to formulate a strategy.

To summarize where we are -- the extensive research efforts the Mac Grill team has been pursuing since late last year have provided sufficient data to allow us to identify how we want to refine Macaroni Grill's positioning. We will roll out the new positioning uniformly across consumer touch points and in our advertising in the second half of our fiscal year 2006. This rollout will take time to execute so that it will be done in a universal manner, incorporating the positioning with touch points in the restaurants, staff training and culinary product development in addition to many other initiatives going forward. Finally, the marketing execution plan is still being tested in the field.

Additionally, John Reale, who was recently promoted to the position of Chief Operating Officer, is also doing a great job. He is, among other things, instituting more sales and profitability ownership in the restaurants and identifying opportunities to simplify operations with a number of initiatives that we rolled out in the next fiscal year. One of these initiatives includes testing an optimized menu this summer that balances great culinary offerings with a reduced number of menu items to improve efficiencies and execution in the restaurant.

Finally, Macaroni Grill has had two very solid restaurant openings this month and Harrisburg and Lancaster, Pennsylvania. Both restaurants had first week sales in the areas of $100,000, exceeding our expectations and our system average. Additionally, the first franchised airport location we opened back in November in Orlando, Florida airport continues to do great with sustained sales well above the concept average.

Turning to Maggiano’s, Mark Torme and his team continue to do an outstanding job growing sales with dine-in, carry-out and banquet sales growth initiatives all in play. The recent opening in mid-March of our newest Maggiano’s restaurant in Jacksonville, Florida was the most successful opening to date of any Brinker concept. And we will have four new restaurants open by November, later this year.

On the Border continues to deliver consistent performance with its 24 consecutive period of same-store sales and traffic growth. Dave Ornsby (ph) is directing his team to grow the business to a balanced approach of ensuring continued culinary innovation, effective marketing and great customer service. To further improve the overall guest experience, a kitchen display system is being rolled out to the system and should be universally in place at all On the Border locations by the end of the first quarter.

Corner Bakery continues to make good progress as the tests that are underway are yielding very promising results. I plan to share with you more about what we have been able to prove out at Corner Bakery in next quarter, but for now I will simply complement the entire Corner Bakery team on the great job they are doing. Additionally, we are still in the process of searching for a president to head up this brand.

In summary, I'm very excited about our ability to retain our stature as the premier restaurant portfolio company that will build long-term shareholder value. With that let me turn the call over to Chuck.

Thanks, Doug, and good morning, everyone. We're very encouraged by the current sales results at Chili's; however, as Doug said, restaurant margins are not yet where they need to be. The good news is the process of identifying and testing new products are having the desired effect of giving us increased confidence in our sales performance. Our two product promotions this quarter have the top-line results we expected based on an analysis of the test market. Predicting the cost of those introductions proved difficult this quarter; however, be assured that we will modify the methods of product rollouts based on our recent experiences. And we're also intently focused on improving current store level profitability without sacrificing a great experience for our customers.

During the quarter we completed our review of lease accounting policies and, consistent with the views recently expressed by the SEC, the Company adopted new accounting policies associated with landlord contributions and rent holidays as disclosed in our press release. This adoption will result in a reclass of expenses from restaurant expense into depreciation. The restated financial statements for previous quarters are available on our website to aid in year-over-year comparisons.

Third-quarter reported earnings per share were $0.60 this year and, on a comparable basis, fully adjusted diluted EPS was $0.59 compared to $0.51 last year, a 16% growth rate. Taking a closer look at the reported brands, Chili's posted a 4.1% comp sales increase in the third quarter composed of a 3.2% price increase, a 0.5% increase in mix and a 0.4% increase in traffic. Chili's strong top-line growth this quarter was driven by the success of two new product platform promotions, Build Your Own Big Mouth Burger and Savory Skillets. These results are even more impressive as Chili's utilized two less weeks of national media, eight weeks of national cable versus ten weeks of national cable a year ago.

The development team continues to be on track against an aggressive opening schedule. This fiscal year we will open more company-owned Chili's restaurants than any time in our history, almost 80 restaurants. This quarter 30 restaurants were added, 20 company-owned and ten franchise restaurants, three of which were international. Our partners opened a restaurant in Taipei which represents our 25th restaurant in the Pac Rim region, and also added restaurants in Egypt and the UAE which represented the 24th and 25th Chili's in the Middle East.

Our strategy of maximizing return on assets through an increased emphasis on franchising took another step forward with the closing of the sale of the Kentucky market to ERJ Dining. We will continue to valuate our portfolio of Company markets for refranchising opportunities. For the quarter Macaroni Grill reported a decrease in same-store sales of 1.1% driven by a 2.2% increase in pricing, a 1.3% increase in mix, and a 4.6% decline in traffic. Mac Grill promoted its $11.99 Trio Italiano, a three course feature during February, but did not advertise on television or radio.

The Maggiano’s team continues to deliver solid financial results through their relentless focus on the guest. Comparable store sales were 3.3% for the quarter driven by a price increase of 1.7%, 0.5% increase in mix and a 1.1% increase in traffic. The brand continues to produce positive same-store sales despite an average annual volume exceeding $9 million per restaurant. This quarter represents the 14th consecutive quarter of positive comparable same-store sales. The success of our openings this year, consumer acceptance for the brand in general and impressive comp sales gives us great confidence in the positioning and growth potential of this brand.

OTB continued its remarkable run of 24 months of positive same-store sales in traffic gains. For the quarter same-store sales increased 4% driven by a 1.4% increase in pricing, a decrease of 9/10 in mix and a 3.5% increase in traffic. These results were accomplished despite lapping a 6.6% comp and very strong traffic last year. On the Border's media campaign featured the Fiesta Trio priced at $9.99 and it's a great value proposition. The Fiesta Trio includes a soup or salad as a starter, a portion of our lunch fajitas and a brownie for dessert.

Next, let's review the third quarter in more detail -- and please note, last year's third-quarter numbers reflect the new lease accounting policy changes and are consistent with the current year. In this year's third quarter revenues increased 8.3% to $1 billion and comp sales growth was 3.2%, above our expectations for the quarter. Comp sales were driven by a 2.6% increase in price, a 0.5% increase in mix and 0.1% increase in traffic.

Over the last year, as a result of our focus on returns, we've closed 33 underperforming restaurants, sold or closed 14 Big Bowl restaurants and refranchised 14 Chili’s restaurants. These transactions were the right actions for our shareholders and, as a result, year-over-year capacity growth becomes noncomparable and the simple math produces a rate lower than our long-term target. However, once you remove these 61 stores from the prior year base our target growth was -- our growth was 13% which is more in line with our long-term target.

Cost of sales as a percentage of revenues was 28.3% versus 27.4% a year ago. The year-over-year increase is primarily attributed to mix at Chili's and commodity pressures. And those costs were partially offset by price increases. We experienced unfavorable commodity prices for protein as ribs, steak, burger meat and chicken all had year-over-year increases. Restaurant expenses as a percentage of revenues were 55% including a refranchising gain of $2 million.

Excluding the refranchising gain, restaurant expense would have been 55.2% versus 54.6%, 60 basis points higher. The year-over-year increase was primarily attributed with higher labor costs associated with increased staffing in the front of house. These initiatives have been more expensive than we originally forecasted. As a result we're focused on identifying the right amount of labor to support the guests and managing labor to that level.

We also had labor and supply costs related to the rollout of new products in the quarter. In total labor and management costs were about 70 basis points higher year-over-year. D&A as a percentage of revenues was 4.7% inclusive of the implementation of the new accounting policies and higher to the prior year due to more restaurants. G&A was 3.3% versus 4.2% a year ago, a decrease of 90 basis points year-over-year, and this decrease is primarily due to a decrease in performance-based expenses. The resulting operating income was 8.7% versus a reported 1.7% a year ago.

Excluding impairment charges and refranchising gains operating income for the fiscal quarters would have been 8.5% versus 8.8% last year. Interest expense was $5.9 million, about $3 million higher than a year ago primarily due to the issuance of a ten-year bond in May of 2004. And the tax rate for the quarter was 32.2%. Net income as a percentage of revenues was 5.5% versus a reported flat a year ago. On a comparable basis, excluding impairment charges and refranchising gains, net income as a percentage of revenues for this fiscal quarter was 5.4% versus 5.7% a year ago.

Our financial positioning continues to be strong. We generated cash from operating activities of approximately $132 million in the third quarter. And the $263 million cash redemption of convertible debentures in January was funded with a combination of about $105 million of cash on hand and our lines of credit. Throughout the quarter free cash flow was used to pay down the lines of credit. The Company did not repurchase any shares during the quarter. As a result there remains approximately $132 million available under the Company's share repurchase authorization.

And now for our Q4 outlook. But before we begin, remember last year's fourth quarter benefited from an additional week. We've quantified this impact to be approximately $0.08 accretive to last year's results and that extra week will affect year-over-year comparisons accordingly. Our estimate for top-line revenue growth in the fourth quarter is 1% to 2% compared to the prior year. Revenue growth continues to be impacted by some of the asset redeployment transactions and the additional week as noted previously. Currently we expect comp sales to be in the 2% to 3% range.

Cost of sales will increase about 50 to 60 basis points, 28.4% versus 27.9%, primarily driven by year-over-year increases in commodity cost for ribs, burger meat and poultry and anticipated mix shifts from the new menu. Restaurant expenses will be up 60 to 70 basis points primarily due to the unfavorable comparison with last year that benefited from the 53rd week. Our operations team is focused on gaining margin improvement and ultimately regaining our position and previous profit levels. This restaurant expense forecast excludes any impact of potential asset sales.

Depreciation and amortization sequentially will be slightly higher at approximately $49 million and 4.8% of revenues. General and administrative expenses will be 60 to 70 basis points lower than last year as a percentage of revenue due to lower performance-based expenses. Interest expense in dollar terms should approximate $5 million for the quarter, higher than last year primarily due to the bond issuance in May of last year. Other net should approximate $0.5 million expense as a result of reduced interest income due to lower cash balances. And the tax rate should remain at 32.2%.

Our average weighted outstanding shares for computing fully diluted EPS will be approximately 91 million shares. Consistent with our previous guidance, our estimate for fourth-quarter earnings per share is $0.66 to $0.68 excluding any impact from the sale of assets or restructuring charges versus $0.65 in the prior year. Our full year forecast is estimated $2.07 to $2.09 excluding gains and charges and a share count of about 95 million.

To conclude, I'm very bullish about our Company as I look into the future. Improving sales trends at Chili's were the first agenda item and we've seen great progress in that regard. The next item is margins and we will show marked improvement over the next few quarters. Our focus on returns is evident as we continue to focus on growing profitable brands, utilizing company and franchise development to meet the expanding consumer demand for casual dining. And this focus is tantamount to growing business returns and will ultimately produce superior shareholder value.

And with that I'd like to turn the call over to Michelle to facilitate the question-and-answer period

(OPERATOR INSTRUCTIONS) John Glass.

CIBC. Could you maybe just provide an explanation of what did go wrong, a postmortem of what went wrong with the product rollouts this past quarter, and I guess just as importantly, what changes you are making? You indicated there have been some process changes, so what those might be? Thanks.

Thanks, John. Todd, do you want to talk a little bit about that?

You bet. A couple things in regards to the third quarter. With the two rollouts happening in January and March, if you look back historically we've had two menu rollouts annually for the last I don't know however many years. Doing too many rollouts in a span of three months taxed the system. We're getting some muscle memory in how to handle these LTOs, we obviously are seeing some nice results from a sales perspective and we need to understand how to control the training aspects in the back of the house to testing a product so the servers and the cooks get enough practice time before we go on air with them and that's just going to take a couple of repetitions under our belt to be able to get a better feel for that.

I feel like we've already made some great headway. We're trying to do the soft rollouts a little bit further ahead of the actual media going on so that we do have a little bit more time to spread that training out as opposed to the Big Mouth Burger -- Build Your Own Big Mouth Burgers and the Skillets run a pretty tight timeline because we've had to obviously make up some time with the product pipeline that we've been working on the last six months or so.

When do you expect the next LTO to be launched?

Next week, as a matter-of-fact. It will be our new Fire Grilled Skewers that go on air the beginning of next week and we're very excited about these new products.

Okay, and then just one unrelated question. It looks like in the fourth quarter you have to open 30 some company-owned Chili’s. Is that right? And then have you ever done that before? Do you have any concerns about getting those stores open in a timely fashion?

John, this is Chuck. We're on track to do that. It will affect our preopening some. In fact, if you look at our forecast we've got an extra 20 basis points in there for preopening expense, but the team's committed to getting it done and we've always been very, very good at hitting our opening schedule. So we're pretty confident we'll get those 37 restaurants open.

John, this is Todd again. The restaurants obviously are staffed with managers, we're ready to go.

Thank you.

David Palmer.

UBS. I guess as just a follow-up on that, Todd. I guess my question is do you feel like that maybe your systems, whether they be technological or perhaps just a management oversight, is sufficient? And I ask that with the knowledge that you guys are a big company now growing very rapidly in terms of that unit growth, and I'm just wondering if in your assessment lately you may be rethinking how you can monitor your business at such a rapidly growing and such a large-scale.

This is Chuck. I'm sorry, could you repeat the question? When you talked about the system are you talking about the number of restaurants we intend on opening?

Yes. When I'm talking about your systems, I'm talking about management systems, whether -- the fact that you had your overstaffing on labor and whether you're in a situation where you feel like you can monitor those costs in a real-time basis to the degree that you can catch those issues sooner. Or with the operational problems with regard to your burger promotion, if there are certain perhaps -- whether it's a management oversight thing or the fact that those problems can be happening on a system wide basis, how you can catch those problems on a more real-time basis and whether these might be related to the fact that you -- that Brinker has gotten rather large as a company now, mostly company-owned, growing units -- in some of the chains darn near double digits. So I am wondering if there might be a reassessment going on in your Company as to how you monitor your business?

Well, David, there is. We're putting a lot of emphasis on getting real-time information, specifically in regards to the labor. We could talk a little bit more about some of the specifics that we're putting in place to be able to manage labor going forward. But I think as you look back on the third quarter, some of the labor items were one time in nature, as we've talked about previously. We rolled out two new products and the impact of that cost us about 30 basis points in total cost of those two rollouts that were more one time in nature. As we go forward, as Todd said before, we've made changes to the way we roll products out, we've made changes to the way we do training, all of which trying to manage some of those costs.

Some of the labor that we had in the period was actually self-inflicted. We were intent on raising service levels, we've talked about that really since the beginning of June and have been putting more labor back into the restaurant. But I would say that given maybe the period of time during the year that labor got away from us a little bit and we were focused on it, but just we weren't able to bring it down as quickly as we would have liked. Going forward we have made some changes in personnel. We've got a new COO at Chili’s who will be focused on getting margins more in place. Todd and I are actively involved in watching margins on a weekly basis. So we'll start to get better on that. Todd, anything you want to add?

Well, I think it is a learned process. And I think as Chuck mentioned I think in his opening comments, our primary focus over the past six months or so is to get that new pipeline of food products up and running and then certainly get the first couple under our belts. Which again, we've got the desired results from a top-line perspective and there was some investment in labor around it. I'm very confident that going forward we are going to continue to see ourselves get better and better with that and we've got a 30 year history of some pretty darn good success.

And I think knowing the people that are in the Chili’s system along with the new people that are in the Chili’s system, my confidence level of getting the labor margins back in line is very high. We do have a new labor tool in place that's helping our managers manage the dollars as opposed to percentages with productivity measures -- giving them more insight around the kind of stacking (ph) they need at different volume bands with specific targets set for each individual restaurant. So my confidence level is very high that we're going to get back in line.

Thanks very much, guys.

Janice Meyer.

Credit Suisse. Sorry for another follow-up, but on the staffing levels, it sounds like you thought the staffing levels were too high and you're putting in some tools to help manage staffing better. How do you think about the increased staffing and maybe what that translated to on consumer satisfaction and maybe the success on the sales line and how do you manage controlling labor with keeping the sales up?

A couple things. If you go back a year ago -- we had two real primary initiatives at Chili's. One, the product pipeline which we've talked about already a great deal. The other initiative was our guest service score that we were receiving both from our internal measurements and external. And we have put initiatives behind both of those obviously. We're bearing some nice fruit from a product rollout standpoint and on the guest service initiatives we've also gotten some great results from it. There has been a cost associated with that, more so than what we anticipated, and we think we can get that down and still provide the same type of guest experience that we want to provide to every customer who walks through our doors at Chili's.

Our NPD/Crest scores have gone up. Our own internal guest service satisfaction scores have gone up over the past six to nine months. So we're excited about the results. Although one thing I will say from a measurement perspective -- and we had been doing a lot more racking and stacking of our restaurants. If you take a look at our top 100 restaurants in terms of our GSS scores versus our bottom 100 restaurants, the restaurants in the top 100 really haven't shown a measurable increase in labor investment, although they have shown some. The bottom 100 have increased their investment spend on labor but haven't gotten the guest satisfaction scores. What that tells me is it's a behavior issue more than it is just throwing bodies at it.

Thanks so much.

Jeffrey Bernstein.

Lehman Brothers. Just looking at pricing, I know companywide it's increased over the past number of months and the trend is in that direction, it looks like it's the highest in the last four years driven by Chili's. Can you talk about your comfort level with the current pricing and how much higher it could go especially in the current environment with a very cost-conscious consumer?

Jeffery, we had to take some price to offset minimum wage increases in Florida, so some of those may be a little bit more regional pricing versus taking all that price nationally. As you know, Florida raised its minimum wage cost and that's had an impact. In addition to that we've had some other places throughout the country that have taken minimum wage increases and we've put price increases into those.

But I think if you go back historically and look at casual dining over a long period of time, generally pricing has run 2% to 3% and we've seen such increases in commodity prices we feel like we've been able to take cost increases related to those commodity price increases because the consumer sees those in a little bit better sense that when they go to the grocery store or they go to other restaurants, all comparable prices are going up on those products. So it does give us a little bit more comfort on being able to take some price increases and we continue to evaluate that on a very regular basis. Any other questions?

No, that's it. Thank you.

Joe Buckley.

Bear Stearns. A couple of questions. Doug, just staying on the pricing for a moment. Your comp guidance for the fourth quarter of up 2 to 3, are there any price increases that roll off during that period? It sounds like you may have just taken a price increase just recently at Chili's. Just share whatever you can with us in terms of what pricing is in that guidance number?

Joe, there isn't significant roll off of pricing year-over-year through the remaining part of the fiscal year. Our biggest price comparisons start in period one where I think we were up about 60 basis points at Chili's and 70 basis points at Mac Grill in P1 of this fiscal year.

Meaning in P1 of this fiscal year you took price increases at both Chili's and Mac Grill of that magnitude?

That's correct.

Okay. And then, on the G&A, Chuck, that number we're looking at for the quarter, is that a reversal of accruals earlier in the year?

It is. We actually had been accruing for profit-sharing and one year target bonuses and had to reverse those in the third quarter and do not anticipate accruing any in the fourth quarter either.

Okay. And then a question on Macaroni Grill. I think you had mentioned the second half of '06 as kind of your target period for the new positioning of the concept. Given that's a year from now, is this still a work in progress or do you have a pretty good idea of what that positioning will be at this point?

On the G&A, there was no reversal. In other words, we did not throw through a credit, we did not accrue profit-sharing in the third quarter.

Okay. In your fourth quarter guidance is there any reversal or --?

No.

It just kind of netted itself out?

Yes, it netted itself out to where there's just no accrual. I apologize if I may have been confusing there.

Joe, this is Doug. As far as the Mac Grill question -- and I appreciate the question. You said is it a work in progress -- I guess let me connect the people comments I made in my opening remarks with positioning and strategy. Because we have made a number of people changes at Macaroni Grill but also in terms of the Brinker leadership team, one of the areas that we've added considerable firepower and talent is in this whole marketing and consumer insight area. We've added a number of new people that have come from other consumer brand companies like Frito Lay, Procter & Gamble and they are providing great insight and help with our restaurant concepts from consumer research with our goal to differentiate each brand to its target audience and create really cohesive positioning in the marketplace.

So at Mac Grill we may have been guilty over the last couple years of some starting and stopping and we basically -- we want to get it right this time. We have a number of new people in the brand, a number of new Brinker marketing and insight folks and we are gathering a lot of data. We think we have a great positioning now, it's just a matter of how we integrate that into the restaurants, into the new culinary pipeline. We're still evaluating what's the best way to communicate it in marketing. As you know, we've struggled with the payout of TDS (ph).

So as we look at return on investment, there's other ways to get that message across. And just to make sure that this entire message is uniform across all parts of the brand, it's going to take some time to roll it out. We're still testing a lot of that information out in the field. So we would rather be conservative in how quickly we do it and make sure we nail it this time and so it's a little bit slower. We're equally frustrated by not being able to deliver something more specific to you right now, but we want to get it right.

Okay. Just a follow up on the pricing question that Lynn answered. Are you saying in period one of the new fiscal year you'll lap price increases by credit? You also said you do roll off some in the fourth quarter?

Minimal price increases are we rolling off with the remaining part of the fiscal year, but when we go into P1 of the new fiscal year we will be lapping price increases that I just went through with you. Does that clarify the answer?

Yes, I think so.

Mark Wiltamuth.

Morgan Stanley. Wanted to dig in a little bit on food costs. I think Chuck, you mentioned you're still going to see some headwinds there. Are there any major contracts coming up which you think you could get some relief on? It looks like -- if you look at the cash prices it looks like chicken has eased a little and we could get some relief on cheese.

Lynn, do you want to talk about commodities?

Yes. We are going to see some commodity cost increases, as Chuck reviewed, for the fourth quarter. And while you see positive trends in some of the commodities, understand that we have entered into new contracts so that on a year-over-year basis, at least for Brinker, we will see some increases for items like chicken.

How long do those extent? I guess what we're looking for is where the next milestone is where you could get some relief?

We'll actually see a glimpse of relief in Q2 of the next fiscal year and the reason for that is we will be lapping some unfavorable produce cost from the current fiscal year. But in terms of some of the larger contracts, we're pretty well contracted currently with about 75% of our cost locked in today.

Okay, thank you.

Andrew Barish.

Bank of America Securities. On Macaroni Grill do you guys do a guest satisfaction survey as you have done at Chili's for a while? If so, where are the weakness showing up I guess, relative to what you saw at Chili's with service or hostess a year ago at this time?

The great news about Macaroni Grill and this has been great news about Macaroni Grill for a very long time which has always added to our frustration level, Macaroni Grill still gets the best scores of all Brinker brands pretty much right up there with Maggiano’s in terms of guest satisfaction around food quality, cleanliness, service standards, what have you. That has always been supported by all the external scores we've gotten from NPD Crest, from the R&I Choice in Chains, they have been second only to Cheesecake Factory for the last four to five years. Again that has been one of the things that has been frustrating to all of us that here is a brand that does so well in the consumer's mind but has not performed to the level that we would expect it to. The short answer is that they are doing a great job inside the four walls.

Thank you.

John Ivankoe.

JP Morgan. A couple of question about Macaroni Grill, see if I can ask this correctly, succinctly. Maybe talk about why in your consumer research consumers are telling you they're coming less than they have in previous years, year after year after year given those guest satisfaction scores? That's the first part. And secondly, I heard something mentioned about less menu items in the summer. Does that less menu items -- what is that telling you I guess firstly from an operations perspective in terms of some opportunity there? And secondly, do you at this point think the concept should go higher or lower, more Italian, more American, just in terms of perhaps differentiation to some of your peers that are performing quite well? Thanks.

I'll try to remember all those questions, John. This is Todd. I guess the first piece of it is what we're getting from the consumers in terms of our research they want to hear about new news. We really haven't had a lot of new news over the past few years. As Doug said earlier, we've gone guardrail to guardrail with that brand unfortunately. Again, the good news is the consumers, whether it's our internal or external, give us great scores on how we do, but in terms of what would drive people to come in more often, we need to have more new news.

In some of the recent market test areas that we have introduced some new feature items, we've gotten some great response from that. So again, I think it's somewhat similar to Chili’s that we have to have more new news to spur people to come into the brand for at least a trial visit or to at least get them back in more often. In terms of the optimization of the menu, that really goes back to efficiency and just overall execution in the back of the house. It also will allow us to have more feature items and be able to get products out in a timely manner and also execute it to the culinary standards that we expect. I know you had a couple other questions.

Yes, it had to do with higher end or lower end, talking about going guardrail to guardrail -- more American, Italian, more authentic Italian and again maybe how you see Macaroni Grill falling within the competitive set that's out there? Thanks.

Well, I think -- back to the guardrail to guardrail, we did veer away from -- the key differentiating trait that Mac Grill has always been known for and that's the chef driven food and that's really where one of our primary focuses is right now. If that means taking it up a notch I guess in definition I guess that's the case.

So that means you're taking the check average back up and perhaps going back to the grill platform that you were known for?

Check average, not necessarily, but entrees and more introductions of new and exciting products across the entire spectrum of the menu is really what the strategy is right now.

Okay, thanks.

Matt DiFrisco.

Thomas Weisel. A question regarding the rollout and I guess the new promotional schedule at Chili's. When you tested this did you see the similar dynamics or how many stores did you test it in and when this works will we see similar things like a negative mix shift as well as perhaps lower margins on the operating expense line but overall you're expecting a better sell through? I'm just wondering how this looks when it works through the margin system and is it complex for the franchises to implement as well?

Well, Matt, when it works it will depend upon what the platform is. We'll have platforms that will be based more on trying to drive mix, we'll have some that will be more price conscious or value driven. And really the P&L is going to be dependent upon the success of that product and also what we're intending to do. So it's hard for me to make a blanket statement that all LTOs will do this or do that. It's just going to depend upon which promotion we're in.

Matt, as far as the test restaurants and maybe the blips that we saw in labor, we didn't see -- which is why it caught us by surprise -- we didn't see the uptick in labor in our test restaurants like we did as we rolled it out throughout the entire system. That's obviously given us pause to look at our testing procedure to see if we need to do a broader test so that we do get more of a real life experience in terms of what happens to our cost. And obviously it takes a fair amount of training in the back of the house as well as the front of the house. And in regards to our franchise partners, we always have a franchise partner or two in that test process as well.

What I'm trying to decipher is you're taking up a lot of pricing, you had products mix shift move in the right direction and for the third quarter in a row your COGS line is working the opposite way; it seems to be one of the few in the industry that's going that way. Can you break out again or just remind us how much of that in the COGS line was from the mix affect?

Matt, I don't have that. We'll have to follow up with you on that.

Thanks.

Bryan Elliott.

Raymond James. A couple follow-ups. First, on the contracting question, my recollection is that your key protein contracts are calendar year and are basically in effect through calendar '05. Is that correct?

No, I think what we had talked about maybe on last quarter's call is that a lot of our beef contracts are at least locked in through the first quarter fiscal year '06.

Through the end of -- so September of '05?

Correct.

Okay. And poultry?

Poultry we're locked in for a good period of time. Those contracts tend to be longer-term in nature.

So that might equate to end of calendar '05?

Or beyond.

Or beyond, okay. How about on the rib side and the pork side, I guess ribs being the main port that you all sell, right?

Right. And in terms of our ribs, we're rolling off various contracts, so what I would say is the majority of our contracts are locked in through the latter part of the current calendar year. So kind of the October/November time frame.

Okay. I'm sorry to beat this again, but could you again clarify the pricing? We got something like 60 basis points or call it less than a point coming off through Q4 and then we have something more substantial coming off it sounds like on day one of Q1? Did I hear that correctly?

I think what I indicated previously is there will be year-over-year cost increases associated with commodities in the first quarter of the coming fiscal year. And we also indicated that I think it was in the 50 to 60 basis point area of year-over-year cost increases in the fourth quarter.

I'm sorry. I thought that we also had a pricing discussion as far as what price -- menu price factors were lapping?

Menu price factors, again, through the remaining part of the current fiscal year there won't be a lot of rolled over price increases from the prior year.

That will happen in the Q1.

And it's right at the beginning if I heard it correctly, right? Almost like day one, we took a lot last year so we'll roll off day one this year?

The first meaningful price lap that we'll have is in the first period of fiscal year 2005 when we took about 60 basis points at Chili's and about 70 basis points at Mac Grill.

Okay, thank you. Real quick -- cap budget range for '05 and then if I could get Doug maybe to elaborate or Todd or somebody to elaborate a little on the behavioral change. You went through our top 100 stores, we're not saying increased labor budgets but they're getting great service scores, our bottom 100 we're seeing lots more money but not getting the benefit so it's not money, it's behavior. Could you elaborate some on that?

Let me take the second part of that first. I guess the behavioral side of things really comes down to just the guest focus and how to better utilize their staffing that they already have on their schedule as opposed to feeling like they had to just add a third hostess, to add another food server or two, to add another cook. And our best and brightest operators know how to run their businesses and we're giving the restaurant operators that are maybe struggling with that a little bit more guidance, a little bit more direction around productivity measures, best in class scheduling practices that our better restaurants and better managers are using. It's those types of behaviors that I think as they permeate their way through the system will help us to get a lot more productive throughout the entire chain.

Thank you. And cap budget for this year roughly?

We'll be somewhere around $335 million this year.

Thanks a lot. I appreciate it.

Howard Penney.

Friedman, Billings, Ramsey. A question for Doug -- two questions actually and I think they're somewhat related. You've made a lot of changes over the last couple of years in cleaning up the Company, cleaning up the balance sheet. Where are you in that process? Maybe you can put it on a scale of one to ten, ten being completed, done and the Company is on the way to firing on all cylinders?

And related to that, Chuck has described a rate of square footage growth of 10% plus or minus 1% as a long-term square footage growth. How do you come up with that number? Is that the right number? And could you be more effective and more profitable and have higher returns if it was say 8% or 6%?

First of all, as far as putting a number on something, I guess I'd throw you a cliché that's very handy here in the back pocket that this is a journey, not a destination and there are just so many variables in the marketplace that are continually changing. We're always going to be trying to figure out better ways to deploy our capital, etc. But I'd give us a 7 to 8, somewhere on the higher end of the range in terms of the thinking of the people here in the Company, the new folks we've brought on board, the way that we're planning on managing the business.

Now of course we have to take that type of -- take those strategies and philosophies and put them in play and I think the marketplace will be pleased with what happens in the future. What growth rate we have -- I think over the last couple of years you've seen us back off of our historic 15% growth because we're trying to get the right concepts in the portfolio and we're trying to build the concepts to be -- deploy the capital to return a higher shareholder value.

At this point we haven't officially ever come out and said that number is less than 15 and our goal is still to try to achieve that. We've redone our portfolio and as soon as we get the positioning and a couple of the big brands like Macaroni Grill in place that still is our goal. But over the last couple of years we've backed it off trying to be more profitable and do a better job of operating the restaurants that we currently have.

Howard, this is Chuck. We get great returns from Chili's and the new restaurants that we've been opening have given us very good returns. As Doug said, the portfolio tweaks that we've made where we've increased Chili's, decreased Macaroni Grill and some other brands have been all in regard to trying to keep return on invested capital and shareholder returns high. We've been trying to put our dollars to work where they can best help us and right now that's building Chili's pretty aggressively. And that's a good thing for us.

Chuck, I guess the way I see it is you've got lots of capital and the dollars are not a problem. The governor on the rate of growth is human capital and that's just very difficult to manage and hire and train and get everybody in place in order to be able to execute putting those dollars in the ground. That's why I was curious as to how you come up with whatever rate of growth it is that you think is appropriate for square footage.

Well, it is and we're growing a little bit above because the macro trends in the category, but we're trying to at least maintain market share and even take some market share. And I think that's why Todd and his team have done a great job trying to set up a template to make sure that people are ready. When we do open up a restaurant it is with a well-trained staff that is able to execute against the principals that we want to see in a new restaurant.

So we're trying to put back office things in place, we're trying to -- our HR group and Valorie (ph) Davidson have been working very hard to try and put procedures in place so that we can do that seamlessly. If you look at our rate of growth, we're not opening necessarily more restaurants than we've ever opened in the history of our Company, we're opening up maybe more Chili's. And we're also leveraging our franchise partners to be able to get the Chili's footprint out and into territories that we may not have done on a Company basis before.

Thank you.

Steven Kron.

Goldman Sachs. Good morning. Just a quick follow-up question on the G&A line. Clearly third quarter -- or I'm sorry, the March quarter was pretty low as a percentage of revenues and your guidance for the fourth quarter is low as well. And I know this question was asked before, but since it's not due to a reversal of an accrual and clearly it's just a lower payout of your performance-based compensation, I was wondering if you could just review for us, what are the performance-based metrics that you look at and what do we need to see from the businesses to -- before we start seeing that number tick back up?

Our Board of Directors sets an annual target for us to hit on a one year basis. And we need to meet those goals or there is no profit-sharing if we fall below a third certain threshold. And as of the March quarter we had fallen below a threshold for payout so we won't be accruing anything in the fourth quarter either. And then we will begin accruing it again in the first quarter -- as we get into '06.

Can you just review for us what the -- is it more of a profit threshold, is it a same-store sales threshold? What are the components of it?

Well, different brands and also corporate all have different measures, that's why it's tough to just make one blanket statement. The brands are based on sales goals and profitability targets. Corporate is more on a profit target.

Okay, thanks.

Larry Miller.

Prudential Equity Group. I have two questions. I'm just curious about your total ad spend and the total impression, maybe into the fourth quarter and as you look out into Q1 of '06 as you ramp up on the new Chili's program, do you think you'll be ramping up on the advertising spend? And then a second question. You mentioned, Chuck, that the new stores at Chili's were opening at good levels. Could you give us a dollar AUV on that, what they would annualize to? And also, you mentioned in the prepared comments that Mac Grill was doing about 100,000 a week, that would be about 5 million according to my rough math. And what's so different about those two new stores that would cause them to be that high?

This is Todd. As part of the first question about the advertising accrual, we're still looking at our options into the new fiscal year. Obviously we're going to be basing those decisions on the results we're getting from the LTOs we've done most recently and really trying to determine what our strategy and game plan is for a number of menu rollouts in fiscal '06 and that certainly will have a big impact on what our media spend is at that time.

Any comment on the average unit volumes at Chili's and Mac Grill?

Well Larry, I can give you a big broad blanket statement that new unit openings at Chili's particularly have opened above our hurtle rates. They've opened at sales levels higher than what we have forecasted. What that averages out to on a restaurant-by-restaurant basis, I couldn't make a stab at that right now. I just know as we look through and see where new unit openings are, they're well above the system average of $3.1 million per restaurant.

And as to those two particular Macaroni Grills, I really don't know the specifics as to why they're doing so well, but we're just -- I would say that we've put some processes in place over the last couple years to try and get more data about the markets that we go into. We try to get much more sophisticated in terms of identifying markets as to being a green market, yellow market or red market and have been utilizing those processes in finding new sites. We're hopeful that those two are indicative of the openings that are to come at both Mac and then also -- we've been using that for sometime at Chili's -- hopeful that we'll continue that trend.

Okay, thank you very much.

Joe Buckley, Bear Stearns.

Just want to follow up on a comment you made, Chuck, on Florida. Have you taken price increases in Florida already in advance of the minimum wage increase?

We have taken some.

Okay. And then just a question on the restaurant expense guidance for the fourth quarter, I think it was up 60 or 70 basis points. Is that assuming you'll have some of the same labor issues with the skewers, for example, or is that just sort of a period of time before you get the service levels back in line or the -- I'm not phrasing this correctly, but your efforts to improve your service levels at Chili's sort of back in line expense wise?

I think if you look at the fourth quarter, part of that 60 to 70 basis points is going to be 20 basis points of preopening, so it's not all attributable to rollout and to labor. We will only have one new product rollout versus two in Q3, so the ability to -- we'll have one in Q4 versus two in Q3. So one of the things is we'll be able to use some of those learnings but we'll also have less rollouts of that. We'll mitigate some of the impact. And then we're trying very hard to get labor down.

But acknowledging all those facts, I think we understand that it's not going to get turned around overnight and we're trying to make an estimate out there of labor that we think we can achieve, but it won't be enough -- we're definitely setting more aggressive targets internally than we may have set externally.

Does a 53rd week or the lack of the 53rd week, is that a big factor in that 60 to 70 basis points?

It's some, particularly on rent and a few things that are fixed in nature, but maybe not as much as some of the other lines.

Thank you.

Peter Oakes.

Piper Jaffray. I actually have a couple. If we could, one last time on the fourth-quarter pricing so we understand it correctly. Third-quarter's pricing on Chili's is 3.2, you're going to lap that 50 basis points so it's 2.7 and the same math going through Mac Grill? Just want to make sure we understand that.

But that won't take effect until next fiscal year.

So can you just -- Lynn, can you just tell us what's the pricing factor approximately here in the fourth quarter for the two main brands?

It's about the same as what we currently have.

Okay, good. And then on the labor front, given the healthy sales we saw there with Chili’s in the third quarter and obviously some of the frustrations on what labor expense did for you and understanding that the LTOs I think, Chuck, you said were 30 basis points of it. Was that fairly evenly spread? In other words, the same kind of pressures with both LTOs that Skillets experienced a similar type pressure that you saw with build your own, although it's a little bit easier to man handle operationally in the fact that you already had the one under the belt?

They're a little bit unique, Peter, in the fact that -- for instance for Skillets we needed to buy some product, we needed to buy some skillets that were unique to that promotion. And so that had some cost, had some debt inventory, had acquisitions of skillets that we needed to do -- whereas Big Mouth Berger might have been more attributed to labor and first time out of the chute. So we got a little bit better at being able to manage the process but had some restaurant expense type items or expense type costs related to supplies on the second rollout. Todd, do you want to add anything to that?

No, I think that sums it up pretty good.

So with labor you did show some progress going from promo one to promo two?

Yes, we did.

And then lastly, I think it was Doug that reviewed a number of the management changes that have been underway here for the last few months. And one that was internal was Jean Birch going from Corner Bakery to Mac Grill. Can you remind us, because we don't talk all that much on these calls about Corner Bakery, remind us of the successes and progress, specifically the tangible progress you can highlight at Corner Bakery over the past couple quarters? That would be great, thanks.

Sure, Peter. Macro wise what we've done over the last couple of years is change the ordering system for the customer. That's the most visible front of house change to make it easier to understand and improve the throughput and linespeed for the consumer on the front end of the experience. Then we basically remodeled all of the restaurants across the country. We have also shown improving returns, that was one of our key initiatives was to make the economic model for the box work better. We've also remodeled the kitchen so food is made to order more like a casual dining restaurant were initially it had been -- some of those products were made before the consumer showed up.

We've done some outsourcing of food prep products to simplify the actual execution in the back of the house, make it a little bit easier. We've changed some management structure in terms of shift supervisors to help save some management cost. We're in the process of putting a KDS system across the entire brand which has helped again with that throughput. And there are some other proprietary things going on inside. We're basically at a point of evaluating that and a number of -- some of those items are in test restaurants, some of them have gone across the whole system. And we're still evaluating that to make sure that we're ready to put the pedal to the metal and grow the brand out.

Are we at a point where you want to start discussing same-store sales progress?

We're not at that point yet. When we're ready you'll be the first to know.

Thanks a lot.

Thank you for joining us on the call today. We will release April sales on May 11th, after the market closes. If you have any questions or comments please feel free to give me a call. Thanks again.

Thank you, ladies and gentlemen. This does conclude today's conference call. You may disconnect your phone lines at this time and have a wonderful day. Thank you for your participation.