Brinker International Inc (EAT) 2007 Q1 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the first-quarter 2007 earnings release conference call. At this time, all participants have been placed on a listen-only mode, and we will open the floor for your questions and comments following the presentation.

It is now my pleasure to turn the floor over to your house, Lynn Schweinfurth. Ma'am, the floor is yours.

Thank you. Good morning, and welcome to the October 24th Brinker International first-quarter fiscal 2007 earnings conference call. 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 risks 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.

Upcoming calendar dates include the filing of the first-quarter 10-Q on or before November 6th, and October sales, scheduled on November 8th after the market closes.

With me today, Doug Brooks, Chairman and Chief Executive Officer; Chuck Sonsteby, Chief Financial Officer; and Laura Conn, Director of Investor Relations. Doug and Chuck will kick things off this morning with some opening comments, and then we will open up the call for questions.

Good morning, everyone, and thank you, Lynn. As you saw earlier this morning in our press release, earnings per share grew 29% in the first quarter on a comparable basis over last year, to $0.54. Our first-quarter performance highlights the results of continued progress against our three strategies -- developing new, profitable restaurants; growing our base business through sound operations and marketing initiatives; and effectively leveraging our infrastructure.

We built 43 new system restaurants during the quarter, keeping us on track to meet the development goals we set for our fiscal year. 33 were Company-owned restaurants, and 10 were opened by our franchisees. On August 3rd, we completed the sale of Company restaurants with one of our existing franchisees, ERJ Dining. Under this latest agreement, ERJ Dining acquired 15 Company-owned Chili's restaurants and committed to develop an additional 31 restaurants in Wisconsin and in the greater St. Louis area over the next few years.

During the quarter, our global development team added four new international restaurants, including new Chili's restaurants in Lima, Peru; Guadalajara, Mexico; and Riyadh, Saudi Arabia. We also opened our fourth Romano's Macaroni Grill in Puerto Rico, bringing our total number of international locations now to 128. The global team also signed development agreements with two international franchisees, El Rosado in Ecuador and Hospitality Resorts in Canada, for 12 new restaurants.

Operational initiatives drove business performance in all four Brinker brands this past quarter. Thoughtful planning, improved systems and processes and effective sales leverage of price and G&A led to solid results across the portfolio, while maintaining each brand's unique guest experience.

Sales results are still weaker than we would like, and in an effort to combat this trend, we are continuing to research and develop marketing and operational initiatives to drive the top line. You may recall that in fiscal 2006, all Brinker brands conducted extensive consumer research in which to better understand their target customers and their core brand equities. With that knowledge, we are continuing to create more targeted promotions and messaging designed to resonate with our loyal customers and, of course, attract new ones. We are confident these initiatives will pay off in the future.

Now, I would like to provide some commentary on some specific brand initiatives. Chili's Grill & Bar, our flagship brand, continued its strategy of aggressive growth, opening 28 Company and seven franchise locations in the first quarter. The Chili's concept works well in a variety of spaces, from small airport kiosks to mid-sized 3,000-square-foot counter service locations to our 5,800-square-foot full-service buildings. This brand can be scaled up or down to serve customers in a number of different ways and different locations.

In July, the Chili's brand replaced its longtime tag line of "Live a Little" with a new advertising platform called "Spicealicious." This new campaign features a fresh, outgoing new look and employees employees innovative uses of Web-based marketing techniques. Chili's sponsorship of MySpace Secret Shows has not only introduced thousands of young fans to the music of up-and-coming new artists, but also enabled an ongoing dialogue with this important brand demographic.

Chili's September promotion, the Triple Dipper Dinner, in which customers choose three items to create their own customized dish, was the number-one menu item sold during the month. In keeping with the brand's commitment to innovation, the Chili's culinary team has been busy developing and testing new dishes for every category throughout the menu. We are fortunate to have Rich Melman and some of the great chefs from Lettuce Entertain You assisting us in this effort. The brand's focus on ongoing product ideation, utilizing our talented team of chefs, will enable us to fill the product pipeline with compelling new menu items.

Also during the month of September, Chili's conducted its third annual fundraising campaign for St. Jude Children's Research Hospital. While the final numbers are not yet available, we are confident the campaign was successful, and handily exceeded our $3 million goal.

Also earlier this summer, Chili's announced its intention to raise $50 million for St. Jude over the next 10 years to establish the Chili's Care Center on the St. Jude campus in Memphis. We will meet this goal through a combination of in-store fundraising with customers, online promotions and corporate donations.

At Romano's Macaroni Grill, the team continues to focus on operational improvements, marketing promotions and culinary innovation. The KDS Kitchen Display System has now been installed across all locations, improving processes within the kitchen and delivering an improved experience for guests. Earlier in the quarter, the brand's seafood linguini was strongly preferred by customers during our summer promotion.

Macaroni Grill also rolled out catering services in Atlanta, Miami and Los Angeles, the first new markets planned for this fiscal year. Catering is a promising brand extension which enables us to reach new and existing customers, while generating a new source of revenue growth. We are encouraged by the early results, and will continue to look for additional markets for the profitable expansion of this initiative.

At On the Border, the first quarter saw the launch of its new "See What Sizzles" ad campaign, along with the introduction of several popular new menu items. Items such as the new brisket tacos and enchilada suizas are examples of innovative approaches to traditional Mexican dishes.

In addition, On the Border's successful customization options such as Guacamole Live and Create Your Own Burrito have been extended into the beverage category with the introduction of Margarita Selects. This new drink option allows customers to create their own unique cocktail by choosing from eight premium tequilas and two liqueurs, and is quickly becoming a popular choice for our guests.

The brand also benefited operationally from a new streamlines menu designed to positively affect costs by reducing the number of unique preps in the kitchen.

Maggiano's Little Italy has been rolling out process improvements for banquet services, including a new nationwide reservation system which is now up and running. This new system is proving invaluable to the team as we gear up for the important holiday season, beginning with Thanksgiving, when Maggiano's will once again be open to serve our customers a traditional holiday meal.

This brand is also looking ahead to the opening of its third location in Atlanta at Cumberland Mall. This newest store aligns with our strategy to deepen our presence in existing markets where the Maggiano's brand is already strong.

I'm also proud to announce that Gene Monteagudo will join Maggiano's in November as its new Chief Operating Officer. Gene brings a wealth of experience from the restaurant, hospitality and food industries, and we know he will be a great addition to the Maggiano's team.

As we look ahead to the second quarter, all four brands are preparing for the holidays. Special beverages and unique menu items will play prominently in our offerings for the season, making our customer celebrations festive and memorable. Brinker will also continue to innovate with unique multiple-brand gift cards, which have been a popular choice for our customer in years past. With in-store promotions, online and retail distribution, we will lead the industry once again in holiday gift card sales, extending that traffic opportunity.

Throughout the past three periods, Brinker continued to experience soft top-line results. Across the casual dining industry, a number of macroeconomic factors have been at play. Higher fuel and utility costs, adjustable-rate mortgages and higher minimum payments on credit cards all affected consumers' frequency of dining out.

As we moved through the quarter, a number of factors have begun to moderate. The reason dropping gas prices and the stabilization of interest rates are encouraging, and should have a positive influence on consumer spending, particularly in casual dining. In this context, we did see slightly improved traffic during the month of September at both Chili's and Macaroni Grill.

At Brinker, we realize the importance of designing flexible operational and marketing platforms that enable us to perform favorably in a variety of economic environments. To this end, we remain committed to streamlining processes, improving costs and finding new ways to optimize our business. Our first-quarter results are a reflection of that commitment. We also continue to create innovative new menu items and design compelling promotions that attract and retain customers across our portfolio of brands.

Now, I'll turn the call over to Chuck.

Good morning, everyone. Brinker reported excellent first-quarter 2007 earnings per share of $0.54 before gains, representing a comparable 29% growth rate. Just as important, operating earnings grew 19% as a result of restaurant capacity increases, continued improvement in cost of sales and effective cost management at both the restaurant level and our home office.

Revenues for the first quarter of fiscal 2007 were approximately $1,040,000,000, 7% greater than the same quarter in fiscal 2006. New restaurant development continues to be the major revenue growth driver of our business. We have 100 net additional Company-owned restaurants this year versus last, resulting in an increased averages sales weeks capacity of 7.3%. This growth is somewhat offset by lower same-store sales and the impact of restaurants sold to franchisees during fiscal year 2006 and in early August of fiscal 2007.

Franchise revenues for the quarter totaled $1.1 million, a 29% increase over the prior year, driven by an additional 52 franchise restaurants versus last year and strong growth in international same-store sales. Franchising will help expand all four brands into new and existing markets and leverage our base business to generate higher returns and margins for the company. This platform encompasses both domestic and international markets, and includes increasing franchise ownership today through our active franchising program, as well as the expansion and initiation of development agreements to build additional restaurants in the future.

The process of selling company-owned markets takes about six to nine months, in part due to the additional complexities associated with the casual dining segment. However, over the last two years and including this quarter, we have sold 49 company restaurants and signed expanded development agreements with franchisees. We currently have commitments to develop 268 franchise restaurants. These transactions demonstrate we're implementing our strategy to increase franchise ownership from 20% to 30% by the end of calendar year 2007 and expect to announce additional progress related to franchising in the coming weeks and months.

Cost of sales continues to be a significant factor driving results, providing a 70 basis point benefit at 27.5% of revenues. Brinker has a best-in-class procurement team, led by Bob Hall and Terry Stephenson, as well as an excellent group of suppliers effectively executing the strategy of optimizing commodity purchases and controlling costs.

Specific to this quarter, cost of sales benefited from favorable mix versus the ribs promotion last year. Improved costs for beef, chicken, cheese and pork were beneficial. Higher salmon prices and higher produce costs, specifically tomatoes, slightly offset the improvement. The implementation of new technology to manage and control waste in Q4 of last year and our -- it's called our actual-versus-theoretical system -- paid off this quarter, and will continue to benefit the next two quarters.

Turning to restaurant expense, labor was basically flat year over year, and wage rate increases remain benign. Because we're growing our restaurant base, Chili's has developed a more efficient employee training method for new openings by utilizing the experience of existing restaurant employees in the market. Early results have been very encouraging, showing smoother openings, less employee turnover and a faster path to system margins.

On a comparable basis, adjusting for the appropriate gains in both periods, restaurant expenses increased marginally, primarily from incremental R&M at the restaurants. At a time when less capitalized restaurant operators are managing for the short term at the expense of the guest experience, costs such as labor and R&M are important areas of focus for Brinker. We want our guests to see and feel a properly staffed, clean and up-to-date restaurant as part of a great guest experience.

Preopening costs were also up as a result of FSP 13-1, or holiday rent.

General and administrative expense was 4.8% of revenue, flat versus last year. While G&A is up slightly on a dollar basis for the quarter, as a result of the shift of the option award date from October to August, on an absolute dollar basis, excluding the date shift, G&A is down for the quarter. As I mentioned on last quarter's call, this move in dates is simply timing, and will not impact full-year G&A expense.

One of Brinker's key behaviors is to ensure everything we do adds value. This is true at the restaurant level and at the home office. You can see the proof of our focus on cost control in our results. The teams continue to enhance and improve processes while preserving a high-quality customer experience.

The last significant line item to discuss relates to the tax rate benefit. Brinker's effective income tax rate for the quarter was 31.9% compared to 33.3% from continuing operations last year. The decrease in the tax rate was primarily due to incentive stock options, which were deductible by the Company when exercised, as per FAS 123(R), and also benefits from effective state income tax planning.

Turning to brand specifics, sales performance by brand is detailed in today's press release for both the first quarter and the month of September. Beginning on October 26th and continuing through November, Chili's will promote its signature Baby Back Road Trip, which features new tastes from around the country -- Kentucky bourbon, tangy Carolina, Memphis dry-rub, as well as our original barbecue and honey barbecue. The TV [creator] will bring back our famous and memorable Baby Back Ribs song into a new genre recorded by the band, The Old 97's.

During the quarter, Chili's built 28 new restaurants in 15 different states and increased our dominant presence in existing markets of Florida and Texas. In the second quarter, we plan to continue our plans for aggressive and financially disciplined growth, opening approximately the same number of restaurants as we did in the first quarter.

Due to a continued tough consumer environment, higher real estate prices and based on our internal modeling and disciplined restaurant approval process, we fully expect development for fiscal year 2008 will be slightly lower than fiscal 2007, but will still be within our long-term business model of at least 8%. We will update you next quarter on our anticipated capital spending rate and openings for next year.

Growth in Mac Grill continues at a much more modest rate than previous years. Macaroni Grill opened new locations in Lakeland, Florida, and at the Webb Gin Mall outside of Atlanta. Mac has three additional restaurants scheduled to open in the back half of the fiscal year.

In November, Macaroni Girl is promoting Take a Holiday for the Holidays, featuring such options as the Sienna Fillet, Shrimp Portofino, as well as specialty holiday cocktails including the new Raspberry Lemon Drop and Italian Mudslide Martinis.

During the quarter, On the Border opened new restaurants in Oklahoma City and Greenwood, Indiana, outside of Indianapolis. Next quarter, a new OTB will join the new Macaroni Grill location outside of Atlanta at Webb Gin, and we will also open new restaurants in the Kansas City and Houston markets. Doug mentioned the new catering markets at Mac Grill earlier, but I would also like to highlight that catering continues to be a strong contributor to revenue at On the Border.

In November and through the holidays, OTB will feature Eat, Shop and Party, with new food items such as the Surf & Turf Fajitas, new beverages like the Pomegranate Margarita and Brinker gift cards to take care of your shopping needs, and also catering for your big holiday party.

Maggiano's newest location in Bridgewater has been enthusiastically received by local customers, experiencing strong weekly sales.

We continue to make great progress in furthering our three-phase international development strategy. Our international franchisees opened four new restaurants during the first quarter, with strong sales performance. On a year-over-year basis, international franchise-related revenues are up almost 34%.

During the first quarter of fiscal 2007, the Company generated more than $108 million in cash flow from operations and had capital expenditures of $91 million. In addition, in August, Brinker's Board of Directors completed its review of the Company's strategic plan and affirmed its capital structure priorities of maintaining operational liquidity, access to the capital markets and retaining an investment-grade rating. Consistent with that plan and those priorities, Brinker secured a $400 million bridge credit facility and launched a tender offer which resulted in the reduction of shares of about 1.3 million shares of common stock.

Over the past three years, through dividends, our ongoing share repurchase program and the tender offer, Brinker has returned approximately $924 million to shareholders. Post the effect of the tender, the remaining share purchase repurchase authorization is about $480 million, and we are currently examining the most effective ways to retire additional shares. We remain committed to 15% EPS growth each year by achieving the long-term business model through restaurant development and growing our base business in both the top line and operating margins, as well as executing appropriate financial strategies to support those targets.

I would also like to announce today that Lynn Schweinfurth will be moving to the Macaroni Grill team as their Vice President of Finance. She will be a tremendous asset to that team, just as she has been in IR. Thanks for your contribution in this role, Lynn.

Laura Conn, our Director of Investor Relations, whom everyone is familiar with, will be the key contact for Investor Relations. She will be working with Guy Constant, our Vice President of Strategic Planning and Investor Relations, to handle your IR needs. We all look forward to working with you through the transition.

With that, I would like to turn the call over to Janice to facilitate the question-and-answer period.

(OPERATOR INSTRUCTIONS). David Palmer. Please announce your affiliation and pose your question.

UBS. Congratulations on some great cost control this quarter, especially on that restaurant expense line. By the way, what was the stock option expense this quarter in that line, if you don't mind?

The stock option expense, where? Located in --?

In the restaurant expense line, in particular. Last year, it was $2.4 million. Do you know what it was in that line this year?

It's about the same this year. It's about $2.4 million.

Basically, the big parts with regard to the improved cost control just on this line, and my hunch is that there are several pieces driving it. They may include the work that Mike and Todd are doing in the labor line at Chili's, the slowdown at Macaroni Grill, maybe some organizational changes you made with regional management, thinning the ranks there at one point.

Could you zero in on what are the big pieces here? You mentioned labor flat; that's pretty striking in and of itself; that sounds like the big piece. Could you kind of narrow that down for us?

While I think you did a pretty good job of giving some of the laundry list of items, I think a couple things. Labor hours are up, but we have had some help with [TPA] and price, so that has helped give that labor line flatness. We have put in some tools to help manage labor, both at Chili's and Macaroni Grill.

We have seen increases from improvements by doing sales of Company restaurants to franchise partners. That has helped us in two ways. Number one, it takes those out as operating profits and gives us franchise royalties, which helps to leverage that restaurant expense line.

And then, we have also seen improved new restaurant performance. Again, I talked a little bit about it in the speech, but Chili's new restaurants are doing significantly better than the new restaurants we opened last year. In fact, we're seeing about 90 basis points better performance on new restaurants on a year-over-year basis. A lot of that is going to be in the restaurant expense line.

So we are really trying to take to heart all the things that you talked about on good cost control by Todd, Mike and his team -- also doing the same things at all of our brands, in trying to control costs in what is a tough environment for sales, but without taking anything away from the guests.

Andrew Barish.

Banc of America Securities. Are you satisfied with the two-year improvement in Chili's sales trends when you look at the September numbers? Then maybe, as you move through the rib promotion, how you're looking at driving more value, I guess, to the guest, maybe, if that's the focus. If not, what do you think the focus at Chili's needs to be to get those comps back on the positive side of the ledger?

Well, we are doing ribs. This has generally been a time when folks have been willing to spend a little bit more in terms of dollars. We are trying to take a little bit different tack, and we'll see it as we go through the quarter on how we approach this one. This will maybe be a little bit more. We are doing some bundled meals in the period, in this advertising period. We'll see how the guests respond to that.

We tried a couple of value promotions over the last two; we did burgers and we did Triple Dippers, both under $10. Sales have been soft, and we are not happy with that, and we would certainly like to get sales back on track again. We think with some of the new fall items, the new rib flavors on the menu, we think this will give people a chance to come in and try something that has traditionally been a favorite, and at a time when people are more willing to spend than they are really being focused on necessarily a value promotion.

You mentioned working with Rich Melman again. Is that kind of going back and looking at core Chili's famous and favorites, or is it on new menu items?

A couple things. We have added some items on that core menu recently, the new Sizzle and Spice, some of the combinations that were limited-time offers a year ago, some of these new rib flavors now on the menu permanently. We've added a new appetizer, the spinach artichoke dip. So there has been some work on the core menu.

The Melman Group's working on a lot of lunch items initially -- salads, sandwiches. So we are going back to the core menu and trying to improve existing items, as well as looking for new items to add to those. Certainly, value will be a big part of what we hope we will get out of those new items. It will add to the core menu, as well as potentially be new marketing promotions in the future.

John Glass.

It's CIBC. Chuck, on the earnings guidance, you provided no update on the guidance, and your first-quarter performance obviously very strong. Are we to assume that the guidance you laid out earlier -- not only the 15% but also the components, 10% to 12% top line and some of the margin goals you set -- are they still in effect?

Well, we had a great start to the year. We are trying to stay out of the guidance game. I think in general, revenue has probably been a little softer than we'd expected as we started the year. Commodities are maybe a little better than we had thought, which may provide a little bit tougher as we get into the back half of the year. But we're still very confident about 15% currently and also for the long term.

You talked about this 30% franchise goal, I think you said by the end of this year, fiscal 2007.

Calendar 2007.

Got you, calendar 2007. What is the longer-term objective?

I think we're going to continue to look at it market by market, just as we always have. We take a disciplined approach to try and see what the net present value that we're going to get out of the market at the Company-operated location is, versus what it is on franchise. So whatever is best for shareholders, that's the tack that we take.

So, we do have some initiatives in place where we are taking a look at Company-owned restaurants and trying to market those. We have been successful in doing a deal last quarter, and we feel like we will continue to see progress in the coming months.

Got you. So, it's less driven by a percentage goal. Would you ever see a time when the brand would be over 50% franchised? Or is that too far away?

From a strategic standpoint, we continue to look at every market. Right now, that doesn't make sense. We still make more money -- given our volumes and given our profitability margins, we still make more money by operating those restaurants as Company-owned. But I think it becomes, one, becomes a continued process. That is what will drive our strategy, looking at the markets versus necessarily an arbitrary percentage. So, it's possible that over the longer term we could have a system that's somewhat different.

Joe Buckley.

I'm with Bear Stearns. You're obviously doing a great job on the cost side. Are you comfortable that the cost focus is not or will not limit sales opportunities at the brands?

Well, we are trying very hard to continue to review that. Doug, I don't know if you want to talk any more about it. But that has been a big focus for us.

There is a focus here, maybe a more concentrated focus on back to the nuts and bolts of the business. We were talking earlier about some of the costs in new restaurants. We have some new hiring tools that we're using and hiring new employees. We also have some new training techniques we are using, particularly at Chili's, where we're taking advantage of existing restaurants and getting better training before we open and lower turnover. We're getting some new information on our employee experiences and trying to connect those more to customer and guest satisfaction.

So, it's the kind of stuff that doesn't sound all that sexy on a call like this. But as Chuck said, our actual labor hours were up, and we are spending a lot more money back in our facilities, trying to make sure that our aging asset base looks new and fresh and relevant, contemporary.

So, all those basic things are sort of going on behind the scenes. But I would say that guest satisfaction, employee turnover reduction -- when a customer walks into a restaurant, the most important thing is that individual experience.

So, the whole organization, back to some of the shared services things we're doing, our Brinker Learning Center is providing some great new tools for hiring and training. We think that will translate into better guest experience. That eventually will help drive top line, along with marketing and new product development.

A question on Chili's. If we go back a year ago, maybe 12 to 18 months ago, you were developing a new marketing research approach to your new product flow. That was used as a potential catalyst for sales. Could you just kind of update us and comment on that process, and maybe what you see as a potential sales catalyst for Chili's going forward?

I think a year ago, we were doing quite a bit of limited time offers, and probably now we are focused more on core menu. We want to drive long-term customer loyalty, which a brand that's 32 years old has always had. We do have some new processes that we think work well to test new products, to get innovation.

But at the end of the day, limited time offers, what we have learned, probably, looking in that mirror is that they have limited results. We would rather have long-term great products that have long-term customer loyalty.

Steven Kron.

Goldman Sachs. Chuck, first, on the cost side, you have gone through a little bit of the benefits and stuff. But can you give us a little bit of an update? I know that in addition to the ongoing efforts on the cost-of-sales line, there were some kind of more controllable and immediate type cost initiatives. Have we largely realized that? Are we now at a good base here on some of those items on a go-forward basis? Then, on the cost-of-sales line, can you just talk a little bit about the commodity cost visibility that you currently have?

First of all, I think we have seen very good cost-of-sales from commodity prices being down. As we look out into the next couple of quarters, I think we are going to start to lapse some of the technology that we put in place last year. We did put in some technology to help us manage waste and what we call our actual versus theoretical food cost system. We will start to lap that as we get through the third and into the fourth quarter.

So commodities for us right now are at a very good point. We probably will continue that as we get into the second quarter. Third and fourth quarters will be a little bit tougher to lap. We also will start to lap some of the benefits on the labor side as we get to the back half of the year. But again, great start to the year. I think we're pretty satisfied with where we are right now.

Then, on the units being refranchised, can you give us a little bit of color on the differences in profitability between those units and the base of Company-owned units? Is there a big spread there?

Well, it depends upon which market we're looking at. We're obviously trying to look at everything that gives us an addition to shareholder value. So, broadly stated, some of the restaurants might be ones that have good profitability, but might not be a market where we feel like we can get some synergy by operating.

So, I wouldn't want to characterize it one way or the other. But generally, I think we see an improvement, because even if they have system averages, we take the restaurant operating cost out and replace it with franchise revenue. So, that does give us leverage on some of those lines. So, I know that was kind of a backwards way to answer your question, but I hope that helps.

Sure. If I could just ask a little bit on the same-store sales front, September you saw nice improvement at Chili's on a multiyear basis. Can you maybe comment a little bit on which daypart, maybe, you're seeing a little bit of a lift? Is there any regional disparity that's coming back a little bit quicker? If you would offer up any comments as to whether those trends or those consumer spending uptick that you have seen has continued into October?

Don't want to comment on October, although I know some of our competition has. In general, we're starting to see some improvement in New England, starting to see a little bit of improvement in the Midwest. California has still has still been weak overall. I think that's how I would characterize it geographically.

John Ivankoe.

From JPMorgan. Chuck, I assume that the refranchising is going to be accretive to earnings over the long term, especially as the franchisees begin to grow stores in the markets that you're selling. But how are you thinking about near-term impact on earnings?

That's one of the things that's kind of tough, because when you take out that operating earnings stream and replace it with franchise, it goes down. If we were to become a franchise company overnight, our revenues would go from $4 billion to $160 million overnight. So it does hurt us in terms of on an operating basis.

What about after the proceeds that you will presumably be buying back stock with? Is it, on an earnings basis, neutral? Or is it still in that negative?

It's generally additive, and that's how we price and take a look at those transactions. So it is accretive after we take into account what happens with proceeds. But on a just flat operating earnings line, it is a negative.

Fair enough. Doug, in your prepared remarks, you talked about some operational initiatives that might be sales-driving at Chili's, or at least your brands in general. What might those be?

I mentioned those, John, probably earlier. A lot of them are back to the basic experience of the guest, the training for the employee, as well as some of the tools. We have reduced the menu size at On The Border and Macaroni Grill. We have eliminated some preps. Hopefully, we are getting better at what we are doing and continuing to try to drive new innovations.

Macaroni Grill, putting the KDS in, in an exhibition kitchen, was a major move to help get hot food out of the kitchen, cold food out of the kitchen and the timing of it. Some of you may remember the original Macaroni Grills actually had two kitchens, and that exhibition-style cooking has always been a tough thing to manage. The KDS system has helped a lot in organizing the different products in the different parts of the kitchen so that they go out at the same time, hot or cold.

Just one more question, on Macaroni Grill's positioning. I know a year ago or two years ago, we were talking a lot about streamlining the menu and advertising it and kind of positioning the brand. Could you, at this point in 2006, just kind of talk about what worked and what hasn't, and what kind of positioning opportunity you still may have with the brand going forward?

I think the biggest thing is sort of back to the future. We have really gone back to the roots of Macaroni Grill -- chef-driven exhibition cooking, a fun experience, a style of service that may be slightly different than some of the other broad casual Italian brands, and great new food innovation. So we are still, at this point, about top-line sales. As we said last call, in this sort of tough macroeconomic environment, it's sort of hard to evaluate all those things. But our internal customer scores are continuing to improve, and we're going to be patient, because we still think it's a great brand and our customers really enjoy dining with us.

Mark Wiltamuth.

Morgan Stanley. Chuck, with your Dutch auction announcement, you kind of signaled comfort with significantly higher levels of balance sheet debt. Since you had limited tender activity, I am just curious if you anticipate more aggressive open-market share repurchase, or if you're just comfortable with the higher leverage level in general on the business.

Our Board and management talked about a higher level of debt, and I think we are comfortable being at a lower rating. We did try the tender offer; the good news/bad news was we didn't get that many shares back in. We will look to try and find a way to get that capital back to shareholders.

Right now, we are still frozen out of the market, because we have to have any 10-day quiet period after the expiration of the tender. We're looking for the best and most effective ways to get those shares back, or get those shares back into us. But having said that, I also want to remind folks that we do have a commitment to remain investment-grade, which would be BBB- or BAA.

So, you think maybe another $400 million of share repurchase over a three-year period? Or is it going to be more compressed?

You hate to really get into details of how we want to execute. I think we did signal that we did want to do it in a relatively timely manner, and I think we will still continue to go against that timeline.

Jeffrey Bernstein.

Lehman Brothers. First, just a follow-on to Mark's question. Obviously, you have got another $400 million or so that you would be potentially returning. I'm just wondering if you'd considered a special dividend or accelerated share purchase?

We'll look at all options. I think everything is on the table for us to take a look at.

I'm just talking more broadly on the sector, just wondering if you could talk about the ongoing battle for traffic between your casual space and more the quick-service players. It seems like quick-service has taken traffic, of late, with the focus on, I guess, their higher-quality, healthier alternatives at a lower price point. Now it seems like, as you guys noted, maybe consumer trends are improving a little bit. I'm just wondering if you anticipate taking back all the potential lost traffic. Do you think there's a certain portion maybe lost more to quick-service over time, or just your outlook on that?

I think, during very tough macroeconomic times, the consumer can make some sacrifices to the dining out experiences. We really believe that consumer over the past few months has made adjustments to lifestyle habits. They haven't really made lifestyle changes. They still love our brands, and they are just waiting for utility prices to drop a little bit, gas prices to go down. Because in the dinner segment, particularly, there's a serious compromise to the social validation that goes on in casual dining versus QSR.

The to-go business is still a big opportunity for casual dining that we're continuing to work on to improve that, because that is a way to compete with QSR on a more time-to-time basis. We're going to keep driving menu innovation, both at lunch and dinner, because we can produce products that QSR can't produce, even though QSR has done a nice job of improving some of their menu components.

The tax rate -- obviously, we saw favorability this quarter. I'm just wondering if you can give general directional trends, whether that is a level you think you can sustain for the rest of the fiscal year, or something back more towards the 33% is more realistic.

I think, actually, we will be probably lower as we get through the year. We're looking at somewhere in the 32% range.

Jeff Omohundro.

Wachovia. My question is on Maggiano's. I wonder if you could elaborate a bit on the banquet process improvements, and perhaps how the trend in banquet sales as a percentage of sales -- what that has looked like.

The good news is, this time of the year, Maggiano's banquet rooms start filling up and they stay filled up. But a lot of the process improvements are meant more on a 12-month basis. As simple as I can tell you, a little over a year ago, we had an individual banquet manager in each individual location that was booking banquets for their one space. Now, with a new system called [Adelphi] System, as well as a telephone system here at the home office, we can have a person in one location take, potentially, banquet room reservations for multiple locations across the country.

We are also better at answering those phone calls. We had one person in each location putting on parties as well as trying to book banquets. Sometimes calls would go to call centers or voice mails. We would get back to them the next day. So we have an improved service component, and we're also more aggressive on corporate business. Pharmaceutical companies -- there's a number of businesses that have multiple locations across the country they want to do banquets and now, from one location, we can actually book those.

So, there's a number of upgrades and improvements just for the organizational peace. The banquet business already is about 20% to 25% of our top-line sales.

We'll get a little bit of a calendar benefit, too, just to add onto that. With Christmas on Monday this year, that will give us a full day of banquet on Saturday and a full day of banquet on Sunday versus last year.

Matt DiFrisco.

Thomas Weisel Partners. Actually, just to follow on that, I was thinking of that with the holiday shift. Can you quantify that historically, or give us some reference to last year, what happened with the holiday shift falling -- the eaves falling on Saturday and the holidays themselves falling on Sunday? Is it going to be around a percent or so in the quarter benefit to the comp?

It's hard to say. The holidays have really shifted around our business. We were talking about this a little bit internally last night. If you go back a few years, this used to be a very quiet period for restaurants. It used to not be a very good quarter. That has all changed in the last two or three years. We're starting to see more and more people take off the week between Christmas and New Year's. It has almost become a holiday week. I don't know it folks have been waiting to go out and shop at the sales to either return things and also go out to eat at restaurants. But it has become a very important driver for us.

So, it's hard for us to say exactly how much impact the holiday shift is going to have on sales this year. I would think it's going to be favorable, because we do pick up a Sunday as a full-day business now, because most of our restaurants close early for Christmas Eve.

Are you making a statement, then, I guess, on the limited time offering that that was more of a trial and we're going to see less of that going forward? Or is that going to continue to be -- are you slowing down the cycles of turning over limited time offerings?

We will probably do some of both. There's still a place for limited time offers. But as a core business strategy, we're going to try to make sure that our core menus have long-term products that consumers can count on will be on the menu for as long as they like and whenever they wish.

That, I guess, would have a benefit to labor as far as the amount of training and the -- you've had some pickups, sometimes, in executing as you accelerated the cycle of limited time offerings. If we slow those cycles, is there a benefit to the execution in the margin structure?

There is no question that the more stability you have on the menu, the less pressure it puts on the operators and labor costs, all sorts of other intangibles that go on, yes.

Regarding Maggiano's, you almost have 40 stores now. Looking at the returns that are presumed behind this brand and the unit volumes that you are getting from this, when do you take a look at the portfolio strategy and say maybe that to some of the parts, this is a brand that might have greater value outside? Will you entertain -- if that were the case, that you recognize there's a better value, in absence of it being a stronger growth vehicle, going forward, than some of your other brands, would you consider spinning it off?

I think, right now, as we look at Maggiano's, there's still a lot of benefit to the Maggiano's P&L. By being a part of Brinker, we think that offers them the opportunity to get lower pricing for commodity prices. It offers us the ability to take best practices, put that in the brand. Our cost of capital versus what they might get as an independent entity allows them to probably grow faster than they would as a stand-alone basis. So, we will say that we do our diligence from a financial perspective, but we think strategically it makes sense to remain part of the Brinker portfolio.

Larry Miller.

RBC. I just wanted to circle back to the labor line. When I think about it, you said labor was flat, labor hours were up, comps were down -- obviously, great control. That brings to my mind two things. What was the actual wage rate inflation in the quarter? How do you think about that over the next -- into calendar 2007, given the increase in minimum wage that we're going to see and the indexing to inflation? I.e., what kind of comp would you need on labor to maintain a flat margin there? Also, if you can comment on the pricing within that comp that you might feel comfortable taking in this environment?

I may have missed part of the question, but in general, labor rates for us were about 2% to 3%, so roughly in line with where we have had price increases, or at least what we are running currently as a price increase. I think that has really been one of the reasons why we have gotten some leverage.

You asked, what does it take from a sales line. I think we're actively managing at this sales level. I wouldn't want to say we can forever leverage weak sales. We need to get the top line going, and we're focused on doing that. I think, as we get to the back half of the year, we have to have improvement in topline sales if we want to get leverage on costs, because we are starting to lap some major cost initiatives that we have had in place for about six months.

Just on your pricing outlook maybe into calendar 2007, if you could go that far?

Our outlook into --?

For pricing. I know you have a couple more quarters here in fiscal 2007. At least in fiscal 2007, the pricing outlook?

I think we are being very diligent as we -- the way we look at pricing. We didn't take any this quarter, and we'll continue to look and see what the market's giving us. We will continue to look at our sales trends. We have got a control group out there on pricing that gives us a pretty good indication on how consumers respond. When we do take pricing, we take it in the market. We also have markets that we don't take price.

So, we have got good control groups. Some Chili's restaurants haven't seen a price increase in over 18 months. We can look and see how those are responding versus the markets that have taken price, to see when is the right time to take price and to also take into account what our competitors are doing and what the marketplace looks like.

Mike Smith.

Oppenheimer. You indicated -- going back to your labor, you have said you have got some improvements in your labor training that has benefited your new openings as well as your turnover. Could you be more specific about exactly what you are doing there?

Historically, we have done most of our hourly training in the new restaurant, believing that by bringing in expert trainers from other locations into that one stagnant environment, we get great training. What we have found is that in markets where you have multiple locations, we will take some of those new employees and actually let them train at existing restaurants. They sort of get climatized to the impact, the level of excitement, the stress in the existing restaurants. So they sort of have to -- particularly for first-time employees, they have a better understanding and idea of what a Saturday night in a casual dining restaurant is all about. We have actually found that that training in the trenches, almost like being in a real war -- people that are not going to stay, we eliminate immediately. Those that are, are more productive and better trained when the new restaurant actually opens.

So, just utilizing the restaurants we have in the marketplace, one of the duties of the depth of the Chili's brand is that we have multiple locations in almost every market. It particularly is beneficial in the back of the house, with the cooks, the dishwashers and that group, because the get a real feel for what it's like, again, in a busy casual dining restaurant and know early on if they are really going to enjoy it or not. If you only train in the new restaurants, they never get that feeling until you actually open the first day, and then you may have turnover that impacts those guests the first month you're open.

You're going to do Baby Back Ribs again in the fourth quarter. I guess you did them in the first quarter of last year. Should that lead us to expect, let's say, a higher food cost or a change in your marketing expenses fourth quarter year over year -- or, excuse me, your second quarter?

We ran against steaks last year, which have a high food cost, too. So we should be okay on that comparison, and really would not expect to see big increases in the advertising (inaudible).

When would I expect to see a big transaction between you and a potential new franchisee or an existing one that moves you closer to that 30% range?

We're still working on some deals. We're optimistic that we can get something done in the next three to six months.

Bryan Elliott.

Raymond James. Could you help remind us on sort of the parameters for maintaining investment grade? I know it used to be kind of a 50%, 55% economic debt to cap was the number. You are obviously going to be well ahead of that, if you undertake the full drawdown of the credit line. What other measurements are the rating agencies looking at to offset that book balance sheet leverage, maybe EBITDA to debt levels, things like that? Could you flesh out some of those for us equity-centric guys?

We're looking somewhere probably in the neighborhood of 65% to 70% and maybe a little bit up from there. That would pretty much be the parameters that we would be looking and.

That's a still consistent with a BBB-, obviously.

It would be.

Fair enough. Can you update me on where you are in your protein contracts?

Lynn, do you want to talk a little bit about the commodities?

Sure, I'd love to do that for one final call. I think as we have shared in the past, the commodity contracts are all differing as it relates to the type of commodity, and also the fact that we have multiple suppliers that we purchase the various commodities with.

I think, just to further Chuck's comment on cost-of-sales projections, while we have seen a benefit year over year this quarter, we continue to expect a benefit in the next couple quarters, with possibly an unfavorable benefit in the fourth quarter of the fiscal year. But overall, for the total fiscal year, we do expect to see a positive impact. That is based on our current contracts and forecasted expirations for contracts.

Boy, that's like hitting a home run in your last at-bat, like Ted Williams. Nice going.

Well, thank you, Bryan.

David Palmer.

A quick big-picture question -- anytime a company is doing better with costs, as you are, the suspicion is that it might be an enabler for reinvestment in a way that you might be able to get same-store sales going in a more sustainable way. I'm wondering if you think that there's anything there that -- marketing investment, R&D or some other area that might be a particular focus, now that you have some room in the P&L in order to get that same-store sales line going?

We're looking at it in exactly that way. We're looking at we have got money budgeted for R&D. We're also taking a look at where we might be able to improve the customer experience and keep them at the front and the focus of our efforts. So we are taking a look back through the existing food products that we have. Can we make them better? Can we improve them? We are taking a look at, both on the core menu, also other innovation items. That's a very big focus for us right now.

Doug, any comments about that, or --?

Honestly, behind the scenes here, that's what we have been talking about for the last year and a half, really, is focusing on reimaging Chili's asset base, taking some of the elements in the new buildings and making sure that the old buildings are still relevant to the consumer. I already mentioned earlier this whole selection process with employees, how we can get smarter at making sure we hire the right people. And then, the training side -- how do we make sure that the employee engagement connects with customer satisfaction? A lot of that work is going on behind the scenes.

We are not passing on any long-term ideas for the short term, none whatsoever.

So, it sounds like you are hitting pretty much the whole thing there -- the service interaction, certainly what the customer sees inside the restaurant and then, of course, what is on the plate. But it sounds like kind of the in-restaurant experience seems to be the major focus, from what you just said.

The most important thing to the success of our company is the in-restaurant experience of each individual customer. So, sometimes on a call like this, that will get lost in all the, again, sexier things that are easier to touch on. But that's the focus of the Company right now.

Not necessarily just pulling harder on the marketing dollars or pushing that harder on the airwaves or anything like that?

If we knew pushing the airwaves harder on marketing would work, we would do it. We test new marketing ideas all the time. Some of the new Internet things that Chili's is doing with their young core customer on the MySpace -- that's a very innovative new way to connect with our customers we have never done before. Some of the individually Macaroni Grill marketing programs are right now targeted to individual restaurants versus blanketing the whole system. So, we are doing a lot of new marketing techniques that we have never tried before.

We're doing six weeks of ads now versus four weeks last year. So our ad spend -- our time on the air is actually up year over year. So we're looking for that silver bullet.

Joe Buckley.

You mentioned to-go in passing. What is your to-go sales mix now at Chili's and maybe at Macaroni Grill?

At Chili's, it's about 9.5%; at Macaroni Grill, about 7.5%. I think we've talked about this in previous calls. We have been working real hard on the to-go experience almost from a manufacturing perspective. We actually look at it like a Six Sigma, manufacturing defects, actually getting to the time and flow and motion. We have tried some different call center techniques, again trying to make sure that those of you that have been to a QSR restaurant and when you get home, something is missing in the bag, it's very difficult to recover from that.

So, we are really getting back to that core experience across the whole portfolio, not just at Chili's and Macaroni Grill, because Maggiano's also has very, very healthy to-go business as well. We're working on On the Border. So that is a competitive edge with QSR and fast casual, the better we get with the to-go experience.

Do you have any closing comments you would like to finish with?

I think we would just like to thank everybody for joining us on the call today.

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.