Red Robin Gourmet Burgers Inc (RRGB) 2006 Q3 法說會逐字稿

Good day, and welcome to the Red Robin third quarter 2006 financial results conference call. Today's call is being recorded. At this time, all participants have been placed in a listen-only mode, and the floor will be open for your questions following the presentation. As a reminder, today's conference will run for one hour.

It is now my pleasure to turn the floor over to your host, Ms. Katie Scherping, Chief Financial Officer of Red Robin. Please go ahead.

Thanks, Melissa.

Before we get started I do need to remind everyone that part of today's discussion, particularly, but not limited to our outlook for the fourth quarter and full year, will include forward-looking statements. These statements will include, but not be limited to, references to our earnings guidance, margins, new restaurant openings, or NROs, trends, costs of administrative expenses, and other expectations. These statements are not guarantees of future performance, and therefore, investors should not place undue reliance on them.

We refer all of you to our 10-K and 10-Q filings with the SEC for a more detailed discussion of the risks that could impact our future operating results and financial condition.

I also want to inform our listeners that we will make some references to non-GAAP financial measures during our call today, and you will find supplemental data in our press release, of Schedules 1 and 2, which reconciles our non-GAAP measures to our non-GAAP results.

I'll now turn the call over to Denny Mullen, Chairman and Chief Executive Officer. Denny?

Thanks, Katie. And thanks, all of you, for joining us today. We also have Eric Houseman, our President and Chief Operating Officer, with us. He will provide an update regarding various business initiatives, while Katie will provide the financial review for the third quarter.

But first, let's talk briefly about the third quarter and our thoughts for the remainder of the year. On a GAAP EPS basis for the third quarter we earned $0.36 a share, which was within our guidance range of $0.33 to $0.37. And if we add back the $0.05 from the stock compensation expenses and the $0.06 charge from the franchise acquisition, which Katie will explain later, we actually earned $0.47 per share on a non-GAAP basis. Our total revenue was $148.6 million, was within our guidance range of $147 to $149 million, as well.

Our 0.8% growth in comps was in line with our expectations of 0.5% to 1.5%, but reflected the dilution related to units coming into the comp base in the quarter, in addition to a more challenging macroeconomic environment.

From a development perspective we opened eight restaurants, new restaurants, in the third quarter, and supported the opening of two new franchise restaurants, for a total of 10 new Red Robins in the 12-week period. So far in the fourth quarter we've opened four company-owned restaurants and four franchise restaurants. We also have 12 company-owned restaurants and eight franchise locations currently under construction. Thus, our third quarter results were in line with our expectations.

Now, let me give you our thoughts on the fourth quarter and update you on our full year guidance. This guidance reflects the performance we are currently experiencing from our restaurant base, and Eric will discuss some of the actions we are taking in response to that performance. I also want to stress that every $250,000 in pretax income or expense equals $0.01 a share for us.

For the 13-week fiscal fourth quarter, we expect total revenues of between $156 and $158 million and a net income of $0.33 to $0.37 per diluted share, including the impact of stock compensation expense, which is expected to be approximately $0.05 per diluted share. This earnings guidance also excludes a $0.01 charge, which we would expect to take in the fourth quarter if the final acquisition of the two remaining restaurants in Washington is completed in this quarter.

Our fourth quarter guidance is based on certain assumptions. They are comp store sales are expected to be flat to a positive 0.5%, inclusive of approximately a 1.2 price increase we took in October. And we anticipate opening seven new company-owned and seven to eight new franchise restaurants in the fourth quarter. So far in the fourth quarter, four company-owned and four franchise restaurants have already opened, and we currently have 13 restaurants under construction, while our franchisees have eight restaurants under construction. We are also assuming our pre-opening expenses per unit will increase by about 5 to 10%.

For the 53-week fiscal year of 2006 this translates into revenue of $611 to $613 million, comparable restaurant sales of approximately 2.5% positive, and a net income of between $1.62 and $1.65 per diluted share. This also includes the impact of stock compensation expense of approximately $0.23 per diluted share and the onetime charge of approximately $0.07 per diluted share from the franchise acquisition, $0.06 of which we took in the third quarter and an additional $0.01 we expect to record in the fourth quarter for anticipated acquisition of the final two restaurants.

We believe a lack of brand awareness in the new markets, as well as the challenging macroeconomic environment, has impacted the industry overall but has put added pressure on our performance. As you may recall, we had some challenges in our new restaurant openings, or NROs, late last year. We saw some sales weaknesses in new units that were opened in new markets where we didn't have brand awareness. As a result, early this year we modified our revenue expectations for 2006 from new units opening in new markets to reflect anticipated volumes of around 90% of our comp store volumes.

We have continued to monitor this performance of our new unit openings, and we have experienced a declining trend below that 90% target. In fact, the 43 non-comp units in the third quarter generated 87% of comp unit volume, with the units in new markets achieving revenue of about 80% of comp unit volume, and the units in existing markets achieving about 96% of comp unit volumes. About 61% of our non-comp operating weeks in the third and fourth quarter are coming from the restaurants in new markets.

In addition to the trend of performance from our new units, we are experiencing the influence of less mature restaurants that are entering our comp base. These are units that were opened in the first quarter of 2005, so they have been open for five full quarters when they came into the comp base at the beginning of the third quarter. These eight units were primarily located in some of our more challenging markets and experienced a downward trend in performance from their first year, and, therefore, are putting pressure on our comp store sales and our restaurant level operating profit, or RLOP.

Excluding these eight restaurants from our comp base in the third quarter, our same-store sales would have been up 1.6% versus the 0.8% that we achieved in the quarter. The RLOP generated by our comp restaurants in the third quarter was 22.07%. Excluding these eight restaurants from the comp base in the third quarter, our RLOP would have been 22.4%. As more of these less mature units begin entering the comp base over the next year, we expect that their performance will have a negative impact on both the comp store sales, as well as our margins. By the end of 2006, 41% of our company-owned restaurants will be less than three years old, and 53% of these restaurants are in newer markets.

Nevertheless, we have taken a number of steps to address these performance issues. Specifically, as we talked about on our last call, to improve our returns we are aggressively removing costs from new unit construction. We expect to realize savings of approximately $60,000 to $70,000 per unit from our Q4 restaurant openings, and we expect to be able to further reduce constructions costs by $80,000 to $90,000 per building for our 2007 units. Additionally, we are finalizing plans on a 5,600 square foot prototype that would reduce constructions costs by another $150,000 with similar sales volume opportunities as our current prototype.

Additionally, we are reviewing our new unit growth strategy for 2007 and beyond. While we are not prepared to be specific today, new unit growth in 2007 will be less than 2006. We currently have 10 restaurants under construction that will open in 2007, and 14 to 16 leases completed that will open in 2007. Other projects will be delayed or cancelled -- delayed till 2008.

We will update you more on the plans in this area when we introduce 2007 guidance in our fourth quarter call in February. I want to be clear, this more conservative growth plan reflects our commitment to allocate shareholder capital prudently to enhance our return on our capital investments.

We have and will continue to develop brand-building initiatives designed for underperforming markets, which Eric will discuss in much more detail later. While Red Robin has a history of developing new markets successfully, recent trends are causing us to rethink how we approach these markets from an investment and a brand building perspective.

Thus, our objectives for the balance of the year are pretty straightforward. We will continue to focus on our restaurant operations, maximizing the performance of our newer units, and improving our overall returns, and of course, serving high quality gourmet burgers and cravable menu items that have made us the premiere destination for American families.

With that, I'd like to turn the call over to Eric.

Thanks, Denny.

Last year, unlike many of the national restaurant chains, we were not significantly impacted by the effects of Hurricanes Katrina and Wilma, as our restaurants are not located in the affected areas. So in the third quarter of this year we weren't [lapping] against anything unusual from last year.

For comparison purposes, we posted a 2.1% comp gain in the third quarter of 2005, which included 1.2% increase from price and 0.9 from mix and guest counts, versus a 0.8% comp gain this year, which included 1.4 from price and mix, offset by a decrease in guest counts of 0.6.

You will recall that a restaurant enters the comparable base five full quarters after it opens. Our third quarter had 145 company-owned comparable restaurants out of 199 total company-owned restaurants. The acquired franchise restaurant sales are not currently included in the comparable base, but will be included beginning the third quarter of 2007.

The average unit volume for these 13 restaurants in Washington in the third quarter was an impressive $85,565. Average weekly sales for the comparable base were $62,767 during the third quarter, compared to $63,467 last year. Average weekly sales for our 43 non-comp restaurants were $54,704 during the third quarter this year, compared to $58,665 last year. Approximately 61% of our operating weeks in the third quarter this year were from units in new markets compared to about 49% a year ago.

As we've discussed in previous calls, we will continue to have a higher concentration of non-comp operating weeks from new markets compared to existing markets. This does reflect our long-term strategy of continuing to grow and expand our brand into new markets. Also remember that restaurants generally mature at year three and beyond, we so we also have a higher concentration of less mature restaurants in the comp base. As previously mentioned, by the end of this year about 41% of company-owned restaurants will be less than three years old.

Based on the trends we are seeing from these and our own markets, we are actively developing a number of programs built around normalizing NRO, or new restaurant operating performance, or as we call it, NRO normalcy. When we describe NRO normalcy, it translates into two pieces. The first piece is maintaining as much of the honeymoon sales volume as possible and making sure each and every guest gets a great Red Robin experience. The second piece, since new restaurants are usually not as efficient as existing restaurants, we are very, very focused on training to and measuring the proficiencies of each and every team member in each hourly position. We expect that with increased proficiencies come increased productivity, which translates into 'comp-like' RLOP.

By slowing our growth, as Denny pointed out earlier, this will allow us to focus in on the NRO initiatives that are not as strong as they need to be. I want to repeat, though, what Denny said. A more conservative growth plan is a reflection of our commitment to deploy capital in a manner which is prudent and focused on increasing shareholder value.

These NRO initiatives include redefining and strengthening our hourly team member training during new restaurant openings in all markets and to continue focusing on the development of our team once a restaurant opens. In addition to strengthening our training, we have increased the number of trainers that we are sending to each opening to ensure that our new team members are getting the confidence they need to perform well and to ensure we are providing a great Red Robin guest experience for the first opening day forward.

We are also adding some additional modules to our manager training curriculum to better prepare new managers for the challenging environment that an NRO creates so that they can confidently execute our processes and systems. Also, we have developed a unique leadership selection process that we have recently implemented to improve our selection and retention of great people that thrive and prosper in the Red Robin culture. In addition, we aspire to be at least 12 months ahead of our identification and succession planning for the leadership teams when it comes to new restaurants, especially those in new markets.

We're also analyzing and have begun the various local area marketing initiatives in areas across the country, where we can get synergy or where our brand recognition may be low, such as these new markets. At this time, it is far, far too early to make long-term sustainable predictions on what the results of these marketing efforts can be. We have had success with these type of focuses in the past, when we've encountered areas that have been a struggle for us.

These marketing initiatives contained many of our current LRM tools, such as leveraging our increasing e-club participation, leveraging our reading with Red and local school programs, partnering with police and fire departments in the new communities that we've just entered, and our local food canvassing programs, as well. In addition, at times these focus areas may be supported with radio, outdoor media, FSI campaigns, and other forms of media, when appropriate, help really drive brand awareness and create new traffic.

While our near-term outlook is somewhat tempered by some of the challenges we are facing, we are passionately focused on creating outstanding Red Robin experiences for our team members, as well as our guests. Our history over the last 37-plus years has shown us that when we stay disciplined and focused on our four cornerstones -- our values, our people, burgers, and the guests get the time, our team members will stay with us and our guests will keep coming back. This is the surest way to create both brand equity for our company and shareholder value for our investors, and would not be possible without the incredible hard work and dedication of all of our Red Robin team members, certified designated trainers, and managers.

Now, I'll turn the call over to Katie, so she can review our financial results in further detail.

Thanks, Eric.

Let's talk about the results for the third quarter of 2006, which I should remind you includes the results of the 13 acquired or managed restaurants in Washington. Total revenue in the third quarter, which consists of restaurant sales and franchise royalties, grew 30.1% to $148.6 million from $114.2 million. Restaurant sales grew 30.9% to $145.3 million from $111 million and consisted of $107.3 million in sales from our 145 comp restaurants, $13.3 million from the 13 acquired or managed restaurants, and $24.7 million in sales from our 43 non-comp restaurants.

Since Eric already covered comparable restaurant sales metrics, I won't discuss those specifically, but please note that the acquired restaurants will not be included in our comp store sales metrics until the third quarter of 2007.

Franchise royalties and fees increased 1.6% in the third quarter to $3.2 million and now exclude the royalty contributions from the 13 Washington restaurants from which we recognized $453,000 in royalty revenue in the third quarter of last year.

The 91 comp restaurants in the U.S. franchise system reported a 2% increase in same-store sales, while the 18 comp restaurants in the Canadian franchise system reported a 12.1% increase in same-store sales for the third quarter.

Our restaurant level operating profit margin of 20.8% was nearly 100 basis points lower than our 21.8% results for the prior year's third quarter. The variance is attributable to a 10 basis point increase in labor cost, a 110 basis point increase in operating expenses, offset by a 30 basis point decrease in cost of sales.

Our cost of sales decreased by 30 basis points to 22.5% this year, from 22.8% of restaurant revenue last year. Our decrease in raw material costs, particularly hamburger, poultry, dairy and cheese, as well as reductions in cost from purchasing initiatives and the new menu engineering, accounted for the majority of this improvement. We did experience higher produce costs, with increases in tomatoes, lemons, and lettuce, in Q3 of '06 due to the hot temperatures that some growing areas were hit with in August, which caused damage to produce stock.

Our labor cost increased 10 basis points to 33.9% from 33.8% of restaurant revenues this year compared to last year. This includes 10 basis points of stock compensation expense for which there is no comparable cost in 2005. And just a reminder, the stock compensation expense shows up in two places in our income statement, here in restaurant labor and in G&A, which I will discuss momentarily.

On trend, we continue to see labor cost increase, particularly in the areas of management, salaries, and wages, which were offset in the current quarter by improvements in our benefits costs related to workers compensation insurance and general health benefits for which we have experienced recent favorable trends.

The 110 basis point increase in our other operating costs to 16.2% of restaurant revenue this quarter, compared to 15.1% a year ago, was primarily the result of higher utility costs, as well as increases in supplies, service, and maintenance costs. High electricity usage resulting from higher than normal temperatures in much of the West Coast this summer, as well as rate increases for electricity, drove-up our utility costs over last year by 50 basis points. Occupancy expense was flat year-over-year at 6.5% of restaurant revenue.

Depreciation and amortization increased by 30 basis points to 5.7 of total revenues from 5.4% a year ago, as a result of the depreciation and amortization of assets associated with the acquired restaurant, as well as the increase in cost capitalized for restaurants opened in the last year.

General and administrative expenses were 30 basis points higher than last year at 7.3% versus 7.0% of total revenue. The third quarter of 2006 includes $1.1 million of stock compensation expense, which contributed about 70 basis points to the expense. Excluding stock compensation expense incurred in the third quarter of 2006, the 40 basis point decrease in G&A as a percent of the total revenue was primarily due to leverage from increased revenue, as well as lower legal fees in the third quarter this year.

In accordance with the application of EITF 04-1, accounting for preexisting relationships between the parties to a business combination, we recorded a onetime charge of approximately $0.06 per diluted share after tax related to the termination of franchise agreements for certain restaurants that operated at a royalty rate lower than current market royalty rates. This $1.4 million pretax charge is included in our statement of operations in the third quarter of 2006 as a significant and unusual item. In the year ago quarter we incurred two significant and unusual items, which netted to a charge of $1.5 million pretax or $0.06 per diluted share after tax.

Our pre-opening expense in the third quarter 2006 was $2.5 million compared to $1.4 million last year. Our pre-opening costs typically represent costs incurred approximately six weeks prior to our restaurant openings, with the majority of the costs incurred in the final two weeks. We opened four restaurants in the third quarter last year compared to eight this year. The third quarter 2006 pre-opening expense includes $2.1 million of costs incurred for the eight restaurants we opened in the third quarter and $368,000 of pre-opening costs incurred in the third quarter for restaurants we will open in the future.

Net interest expense rose to $1.6 million from $0.7 million last year. Our interest expense increase reflects the increased borrowings to fund our growth and fund franchise acquisition, offset by more favorable borrowing terms from the amended credit agreement we executed in December last year.

Our effective tax rate for the quarter was 31%, which was 2% lower than the year ago quarter. For the full year we expect our tax rate to be approximately 33% which is less than last year, primarily due to increased tax credits as well as lower taxable net income.

Net income for the third quarter including a tax affected $887,000 in stock compensation expense and $989,000 related to the significant unusual item for the franchise acquisition, was $6 million or $0.36 per diluted share. Excluding the impact of the stock compensation and the significant and unusual items from both periods, net income for the third quarter would have been $7.9 million or $0.47 per diluted share compared to net income of $7.5 million or $0.45 per diluted share last year, excluding the $0.06 charge for the significant and unusual item in Q3 of 2005. Schedule 2 of the press release lays this reconciliation out in more detail.

Excluding the acquisition of the 11 franchise restaurants, our capital expenditures year to date were $73 million, most of which was for new restaurants. We are still expecting to spend approximately $100 to $105 million in capital expenditures for the full year.

The balance outstanding under our line of credit facility at the end of the third quarter was $93.3 million, with $106.7 million of the original $200 million still available, excluding the $40 million of additional credit that may be available to us at our request.

For the full year updated guidance, let me walk you through the major components of the changes. I will also remind you, again, that for every $250,000 of pretax income or expense our earnings per share moves by $0.01. The reduction in diluted earnings per share from our previous guidance is primarily related to reduced revenue expectations of about $5 million and the resulting deleverage on our cost, as well as about $0.04 related to our increasing trends in utilities, supplies, and maintenance expenses.

The reduction in revenue from comparable store sales contributes approximately $0.04 to the decrease in EPS, and the comp store deleverage is about $0.02. The reduction in revenue from our NRO units is approximately $0.03, and the resulting NRO unit to leverage reduced EPS by about $0.02.

Finally, we plan to file our 10-Q in the next few days. And, with that, I'll turn the call back over to Denny.

Thanks, Katie.

While none of us are pleased with this guidance, we are confident that with the assistance of our fantastic team members and franchise partners we can drive brand awareness, revenues, and profits, especially in our new markets.

And Operator, with that, we'd like to open it up for questions.

[OPERATOR INSTRUCTIONS.]

We will take our first question from Ashley Woodruff with Friedman Billings Ramsey.

Hi, thanks. A couple of questions. I guess first on the drag of these new units that are coming into the comp base now and had a big impact on the third quarter, based on the math that you see, will those continue to drag on same-store sales really for the next four quarters? Or is there any balancing off at any point in terms of how that math works?

No, Ashley. This is Katie. We'll continue to see that drag for a while. As we talked about, 41% of our company-owned units are less than three years old, and until they reach that maturity in year three and beyond, we're going to see that drag.

Okay. And then as you look into 2007, you did lay out the number of stores that you do expect to open based on construction and leases. What is the mix of those stores for new versus existing markets? And then as you look out over the next several years, do you expect to shift your growth more towards existing markets and more away from new markets? Or do you expect to continue to open 60% of your new stores in new markets?

It'll probably be pretty similar to this year in that we'll have quite a few waiting to new market. Again, you know, the definition of new markets is where we want to penetrate over time, and we're just starting in on some of those areas, so we'll have some new market restaurants opening over time in those areas. So we'll have a heavy weighting in new markets for the next year.

Okay, then just a question for Eric on how you market new restaurants. You know, historically, you haven't done any TV advertising, you know, you've relied a lot on word of mouth and the other items that you laid out. Do your thoughts, have your thoughts changed on that at all, particularly as you go into new markets where you have no brand awareness and your competitors are doing more and more TV advertising? Is that something that you'll revisit and can start investigating as the thing to do going forward?

Yes, Ashley, we're pleased with in new markets, specifically, how these restaurants are opening. It really is in building that awareness and getting them to close the gap between in terms of sales, between comp. And that really then is probably anywhere from 90 days to a year after they've been opened.

So while we're going to apply a lot of the techniques to that, we've had success across the board. I think we'll look at different alternatives. I think it's probably too early to say that we will jump out there and you're going to start seeing Red Robin television commercials all over the place. But you know what, we'll look at all different types of media and certain combinations. We haven't done a lot of outdoor, we haven't done a lot of FSIs, in terms of new markets, so we'll try a lot of different combinations.

Ashley, this is Denny. Just a follow-up -- it's not the issue of when, how, the volumes at time of opening because we have very large openings and honeymoons, and so we do not do a lot of marketing around the opening and specifically have kind of backed off that in the last couple of years because we get buried, frankly.

But the issue is the follow-up after honeymoon and how long it takes us to get it back up to catch-up with the comp base. And that historically has been a long period of time, the three years that we've used. We need to figure out and shorten that gap, and we will look at all kinds, all alternatives to shorten that gap.

But why do you think that there's more of a fall-off in new markets versus existing markets?

It's - they both fall-off similarly. It's the new markets don't come back as quickly because they've tried us, I mean our conjecture is they tried us and we know the brand awareness that we do in existing markets where they already know what to expect when they go to a Red Robin. You know, we're not a shoe store in North Carolina, but we're well known in Washington, for instance.

So we think that with that fall-off, and then we're not pulsing with any type of media during that, after the honeymoon, to bring them back in, and that's what we're looking at and testing various methods, to bring people back in to experience Red Robin quicker. Our guests are repeat guests. They come three times plus a month. In new markets that's not the case, so we need to expose them to the Red Robin experience so they do become repeat customers. And we need to do it sooner than waiting for the three-year period.

Sorry, just one follow-up. Do you think it's because you don't execute as well when you open in new markets, because your employees don't understand the brand as well, so people come in and try it and don't come back? I mean do you think it's an operation issue or just a brand awareness issue?

I think it really is actually a brand awareness issue, because we do open and operate these the same in new markets that we do in existing. It's the same training. It's the same staffing pars, They're the same modules. Now, we're going to strengthen that, so because we don't want to risk that, opening in a new market. But really to Denny's point, it really is a brand recognition and a loyalty piece after the restaurant opens.

And the opening teams actually are from existing core Red Robin, our best core Red Robin markets that we take into these new markets and existing markets to open. So it's done exactly the same way, and we try to transmit the culture that way.

Okay, thank you.

Thank you.

We'll take our next question from CIBC, [John Glass].

Thanks. Can you talk a little bit about those eight underperforming units? I may have missed some of this in the comments, but how much of those in the third quarter negatively impacted the NROs, and how much of the average weekly volumes, and how much of that negatively impact margin, if you will?

Well, the ones that came into the comp base in the third quarter were openings from first quarter of '05, so they didn't impact the NRO base but they impacted the comp base. Our comps, as I said, would have been, if you exclude those eight units from the comp base, our same-store sales would have been up 1.6% versus the 0.8% that we achieved.

Okay, so these were all the same quarter, they opened in the same quarter. It wasn't that there were eight underperforming new units dispersed throughout the system? You're just talking about they happened to come into the company this quarter?

Right.

They roll-in after 15 periods.

Got you, okay. And then if you look at the non-comp store base, are there any specific sites, for example, is the distribution widened where you've got a few that are true underperformers? Or is the average just moving down as a whole?

I would say it's probably the average, as a whole.

Got you, okay. And then just to clarify, I thought I heard part of this, you talked about ten sites under construction for next year and another 14, so you'll do 24 units next year?

Well, we're going to fine-tune that as we move into our fourth, our '07 guidance, but we have leases signed for 14 and we have 10 under construction.

Okay. And you don't - do you have any thoughts, I guess, on how you view your longer term growth rate? It sounds like you're looking at this as more than just an '07 adjustment to the growth of the company.

Well, today, we're not going to comment on that. We'll have more as we give guidance and go forward here.

Got you, okay. Thank you.

And we'll take our next question from Jeff Omohundro with Wachovia.

Yes, I guess first just a follow-up on this new unit issue. Is there any shift in the real estate strategy or your site evaluation metrics or overall quality of sites, are any of those changing, or have they changed?

John, this is Denny. We don't, the short answer would be no, but let me elaborate. We've gone back, Eric, I, Tod, who runs Development, Katie and others, have gone back through site [packs], going back to pre '05 to look in the demographics, et cetera. And we have not changed. When you look at the sites that we're on, they are very high quality sites. You know, they're sites where you'll find most of our named competitors near or competing for those sites. So no, we haven't lowered the standards one iota. And we are, you know, I guess one of the follow up is that, is when we open in existing markets we're achieving 96, 97% of comp base right away.

Same demographics, site packages for existing markets than new markets.

Opening the same way.

And another point I wanted to touch on is menu [absolution], menu development, and particularly product development. I'm thinking about the most recent menu update. It just doesn't seem like there's a lot of incremental new news on there, unless I'm missing something. Maybe you can talk to us about how you're building an evolving menu?

Yes, a great question.

The one we just came out with, you mean?

Yes.

Yes, that new menu with the new shell, with the knife-and-forker category, is doing everything that we anticipated from a menu engineering standpoint. You know, typically we only do, Jeff, one or two menu runs a year, so we're not going to be doing a lot of the - we typically in the past haven't done a lot of these limited time offers, as maybe some of our competitors.

We do have a new test menu that rolls out in, shoot, about another week, that has probably 10 or 12 items. And we think that they're probably out of those items three or four that actually could make it to a permanent menu, we're that excited about it.

And we are gearing up for a great spring promo that should have not only new burgers, new wraps, but also some great mocktails and such. And continually doing second round of focus groups that actually just wrapped up a couple of weeks ago in a number of different markets to fill the pipeline. So we're real excited about some of the new products that we've got in test or that will be going into test on menus.

And there was some discussion about some cost of sales benefit, I think in this current quarter. What is your current outlook as we go into next year?

I think we'll continue to see some relief from commodities. I think first quarter last year we had some challenging produce pricing. We're still continuing to benefit from the decline in beef and poultry. Some of the beef outlook is a little mixed, depending on who you talk to. But I think that there's generally a sense that the commodity relief is still out there.

We're locked on poultry to December of '07, fries to November of '07, bread to October of '07, and cod to December of '07. So we're locked on a lot - and poultry, obviously, at 15% of our total cost, we're happy with that.

Very good. Thank you.

Andrew Barish with Banc of America Securities, has our next question.

I guess any particular regions you want to pull out, just to kind of help both on the new openings, as well as the comp numbers continuing to be soft. I know historically you've talked about the big three markets, or maybe even California now as, obviously, a very important market. Just any differing trends there?

And then on the new, I guess on the new opening profitability, can you give us a sense of where sort of margins stand versus the mature stores at kind of that 21, 22% target or even more in some cases?

Hello, Andy. Denny. On the first part of your question, Katie will take the second. But on the first part, as we've said, while we did break-out the big three which was three years ago plus or whatever, I think four, was when we had material issues in any particular market. And at this point we're watching all the markets very closely, but at this point it doesn't seem like it's appropriate that we break out any markets or we're that concerned or that it would be that material.

There's certain markets, clearly, that we have to watch closer because we have a whole lot more exposure, and Southern California, for instance, Northern California, Washington and Oregon. But at this point, other than Washington and trying to build up comp sales, we're not breaking them out separately.

And Katie will take the second part.

Yes, Andy, on the RLOP area, when we look at comp RLOPs, as we talked about even with the impact of these eight new ones coming in, we're running around a 22% RLOP. We like to see that closer to the mid 22s, 22-plus. And that's going to continue to have some pressure as we bring in less mature units into that comp base. Our non-comp restaurants run usually high teens to low 20s, depending on the class. But generally those are going to, as they come in the comp base less mature from an RLOP standpoint, they're going to continue to pressure that RLOP line for awhile.

And have you seen a big difference or deterioration in those non-comp restaurant level margins over the last couple of quarters as, you know, as the non-comp volumes have kind of drifted down to the mid 50s instead of the upper 50s?

Yes, I mean, the new markets, particularly where we're only running 80% of our comp base, revenue volumes are certainly, there's some fixed costs there that are going to be under pressure and get deleveraged.

Yes, substantially from where we thought it was going to be at 90% of comp base.

Right.

In new market NROs.

Okay. And can you give us a couple of examples on sort of those underperforming newer market regions?

Well, again, it's pretty consistent.

Yes, I mean our new markets, Andy are, you know, not West Coast obviously, those are all existing markets, and in Phoenix. But we had, you know, three years ago Maryland was new for us. Maryland is not new for us anymore. So we have some great success, although a little bit of a rocky start in all those areas, Phoenix and Las Vegas, as well.

So we're seeing after three years of being in those markets we're doing great. And now those are existing markets for us and those are, you know, restaurants we're opening in the 96% plus range. So I think as we talk about Midwest and East coast, where we are unknown as a brand, those are areas that we're struggling. Just by definition we're not known in those areas.

Okay, thanks. That's helpful.

We'll take our next question from Nicole Miller with Piper Jaffray.

Good afternoon.

Hi, Nicole.

Hi, Nicole.

I was wondering if you could help us understand the same-store sales number, the 0.8% comp? Can you talk to us about the trends throughout the quarter, if things were getting progressively worse going into the end of the quarter, if they were improving throughout the quarter?

The trends were sequentially declining through the quarter.

And was that because of tougher comparisons in the year-over-year, or is there anything you can point to for that reason?

We didn't really have the down trend that other restaurant concepts had in September last year, as Eric talked about the Hurricane Katrina and Wilma, didn't provide us with any kind of issue in September of last year, so we didn't have an easy comp like some of the concepts did in September. We did see a sequential decline, and I wouldn't say it was easier at all year-over-year, and it was a sequential decline which is reflected in our fourth quarter guidance, as well.

Okay, and so --

We were comping over 2.1 last year.

And looking into the fourth quarter, you already - I mean your guidance kept in mind what, do your comparisons get harder or not? I know what last year's was, but I don't know it by month, so again I'm just asking does your comparison last year to this year get progressively easier going into November, December, or tougher?

Well, last year we had a 2.7% same-store sales growth and 0.9 of that was from price mix and 1.8 was from guest. And so we're definitely seeing a sequential decline with a negative 0.6 in Q3 of '06, and we expect to see that decline when we guide it to flat comp in fourth quarter. We've got about a 1.7, 1.5 price, or 2.7 price included in that fourth quarter, and so flat would include a decline of about 2.5, 2.7 of guest, as well.

Okay. And can you, just so I'm clear on this menu rollout, when is the next scheduled menu rollout, or when is the next opportunity to take price?

Well, the opportunity to take price is just a function of a menu print run, and that's a 30-day, 45-day lead-time at the most. It has nothing to do with the 'new' menu rollout. We just took the price in October, which was just a reprint of the new menu that we rolled out in April, which is the knife-and-fork menu that Eric was talking about earlier that we're very pleased with. So it's a 30-day lead-time probably.

Okay, great. And then can you give us an update on the new prototype and where you're at in that test phase?

Well, we're just coming - we're just in planned development at this point. We should be out to bid and hope to open the first one or two as part of those under construct -- or that will be going under construction shortly, in late first quarter or early second quarter.

And do you know which markets you would open those in?

We're opening one in - pardon?

Georgia.

In Augusta, Georgia.

Okay.

And the second one, we hope to open in Colorado. We're still finalizing some details on permitting.

And we have a franchise partner who might be interested.

Actually, yes, we've talked to our franchise partners and we have one at least and hopefully more than one that will open, also. One in Oregon, hopefully, one in Nevada, and one in Pennsylvania, but they're not committed yet.

Okay, great. Thank you very much.

Thank you.

Thanks, Nicole.

[Matt Alonso] of T. Rowe Price has our next question.

Hi, guys. Given that you are cutting growth for next year, I mean clearly there's going to be a drop-off in your CapEx. I was just curious if you can give us any kind of direction on what you might do? You know, the share repurchase kind of becomes part of the growth story longer term, especially in light of the, it looks to beat this point a $10 off sale on your stock tomorrow.

We haven't discussed share repurchase. We haven't even discussed what our growth plans are going to be in '07 and beyond. All of those factors will be discussed when we put our '07 plans together and with the Board as we move through '07 and beyond approval, and we'll disclose those as we go forward here.

And on the franchisee side, in terms of their growth over the next couple years, you know, you kind of hinted that company unit growth is coming down. I mean is franchise unit development going to slow, as well, or is it just on the company side?

Well, we expect, again, this year the 15 units, plus or minus. Obviously, we can't control that. Next year it will be, hopefully, in that same range. We'll have, again, more input from the franchise partners as we finalize the '07 plans. But given the territories, that should start to decline as we go forward.

Okay, great. Thanks.

Thank you.

And from Thomas Weisel Partners, Matthew DiFrisco has our next question.

Hi. Can you be a little bit more specific on what you classify as a new market and what changes it over to becoming not a new market? For instance, you classified Maryland most recently as a new market and then switching back now to a core market?

Do you want me to take this one, or do you want to take it? Okay. I guess it's over time, as we look at where we, in our market, let's use Atlanta, for example, we built one in Atlanta. We'll build another one probably within the next year or two in Atlanta. So that's still a new market for us. It takes a while, it takes probably three to four restaurants in an area to develop that brand and to develop that recognition that you need for the guests to understand that it's 3.3 times a month they can use Red Robin.

So over time we'll continue to develop those new markets and they'll become core markets, like we talked about Phoenix, Las Vegas, Maryland. We'll have areas that we're developing, like Iowa, where we're pretty spread-out in Iowa. That's a fairly new market and will be a new market for us for a while until we get some brand recognition and more than one restaurant in each of those locations.

Okay, so it's mass, and you need more density of restaurants. Is that what comes along then that numbers of restaurants and the brand awareness build through that?

Yes, but definitely, our activities to build brand awareness where we don't have the mass and won't have if we're not building. But definitionally we will, what's included in our NROs today will stay in NROs while we're working our way through this problem. We're not going to move from one category to another for benefit of discussion, frankly, with discussion with you or our own analysis internally. So we won't --

With regards to classifying the problem as a brand awareness, why do you feel that it's only a brand awareness and maybe it could be a demographic difference? Being that I guess if I look at where you are, very successful, Pacific Northwest, California and Denver, I sense most of your peer brands stay on the West Coast or come jump all the way over the country on to the other side of the coast, but really don't go into the Oklahomas, the Georgias, and the North Carolinas, for instance, before going into some higher disposable income areas. I'm just curious, have you done the analysis that makes you feel that you're okay and comfortable with the Greensboros and Fayettevilles and the Charlottes, that is looks and feels three years from now like Littleton, Colorado?

Yes, Matt, I think we're using the same type of demographic model, in terms of density, in terms of household incomes.

Population.

In terms of population. So when you look, for example, when we first went into Maryland, and we went into Maryland and opened up Columbia, you know, that would have classified, it would have been in the 85% of comp. And this year, three-and-a-half years later, it's almost a $5 million restaurant, and we consider that not a new market for us anymore.

So when I look at like a Charlotte, which has huge growth and, again, you know, big box shopping centers, you know, I can compare that to a Maryland in terms of demographic, household income, population, growth, but we're doing 80% of our comp to average unit in a couple of the units that we've opened there in the last year. So --

Okay. I guess why so much skew towards new markets and not filling in the southern Californias and the northern Californias and some other areas that are still heavily populated that you don't have as much a representation as your peers do?

Part of the problem in California is that our franchise partner controls a huge part of LA, LA County, et cetera. And north all the way through Santa Barbara, all the way up to Fresno, is controlled by one of our franchise partners. They have built two restaurants in the last four or five years probably. And in the Bay area, where we do have maybe acquisition three or four years ago, I don't recall, but we're precluded in some areas by the trade name. We can't use the name Red Robin.

So once you eliminate those two areas we're down into the San Diegos and we can't go out further than Redlands, California, which we just opened. We're aggressively attempting to open in California wherever we can, but it's not a big wide-open space to us. And in Oregon and Washingto--, we're pretty dense right now.

Okay. Last question. Do you feel like in this environment with the comps slowing a little bit, does the California market still have the ability to take pricing when the minimum wage increase goes through?

Well, we took the pricing in October in anticipation of the California minimum wage. It is going through. It's just a matter of what the - I mean I shouldn't say it is. We expect that very much it will go through in California, and we took the pricing already.

And that pricing for the next 12 months will be how much?

Well, we took the 1.2 in October, and again, as I said earlier in the call, if we find out that that wasn't enough, and it's hard to tell, but if it wasn't enough we can look at pricing. We're still at $10.65, $10.70 an average check, so.

Okay, that's 1.2% aggregated across the base or 1.2% in California only on the menu?

Across the base.

Thanks.

To take care of California, Oregon, Washington, possibly Colorado and Arizona and Ohio, and maybe Missouri.

Okay, thank you.

Thank you.

[Joe Buckley] with Bear Stearns has our next question.

Thank you. I just had a question on the new restaurant opening performance, again. In the past, as the new restaurants matured over three years, what was the inflection point when they were adding to comps as opposed to running negative comps? And maybe to put that into perspective, those eight restaurants that pulled the comp down by eight-tenths of a point, what did they comp in the quarter, if you could just do the math for us?

While Katie looks that up, the latter part of that question, Joe, I'll take the first part. The other thing to realize that in prior years we had a couple of things that were working. One in 2003, 2004 we were experiencing 2.5, 2.7% in guest and another 2, 2.5 in price, so when those comp units or non-comp came into the comp base, a, they didn't have the leverage that we're now seeing because of the sheer number, and that was being offset or masked a little bit with the strong comp guest count and price driver. So they're now becoming very much more visible and, hence, the reason we need to slow-down slightly and make sure that we have all our ducks in a row.

And, Joe, I have the answer to your question. Those eight units that entered the comp base Q3 '06 to Q3 of '05, actually dropped 12.5%.

Okay. And in the past when new market units would come into the comp base was it common that they would be negative in that first quarter that they were in? Or are we looking at more deterioration in those markets than in the past?

New markets, yes. Existing, no. But, again, it's a sheer weighting issue.

Okay. And just a question on the cost side, you know, you mentioned bolstering up the training, I don't know if that goes into pre-opening expense or if that goes into labor, but that's like a higher expense level. And you mentioned the, you know, the greater brand awareness support, which has gotten translated into some expense. Any way you can put some parameters around those?

Well, we said pre-opening will probably increase 5 to 10%.

And that's for the training dollars.

Training, okay.

Yes.

And then to the extent we have additional media or marketing initiatives, we fully expect that'll cost more, but we expect the return on the top end on RLOP numbers to offset it.

Okay, thank you.

Thank you.

And we'll take our next question from Destin Tompkins with Morgan Keegan.

Thanks. My first question is on the advertising. If I remember correctly, in past quarters when you've seen sales softness, you've been able to accelerate the marketing investment there or the advertising investment. Was that the case in Q3, or was it just the response was different, is that why we're re-looking at, you know, I guess the marketing strategy?

Well, I don't know specifically in referral of increasing the marketing, when we had some soft sales in the past. But we do it in specific call it opportunity markets, but on an overall basis the marketing spend hasn't changed as a percentage of sales for some time. Katie, do you have those numbers?

Yes, it runs about 2.5% of total revenue. But we've touched about 80% of our units this year with marketing, so it's not - we haven't isolated out any particular location, so we've got about 80% that have been touched with some type of marketing during the year.

Okay, thanks. And then on the cost side, you know, you mentioned utilities was a pressure point in the quarter. How long do you anticipate utilities remaining a pressure point?

It was primarily electricity, and the rates on electricity have actually increased, but hopefully the usage will start to drop back a little bit as we enter the winter months. And then year-over-year gas, natural gas prices we'll see some relief, so we'll start to see some benefit from the drop in natural gas, so that should help in the fourth quarter, as well.

Okay. And then, lastly, should we still look at the accretion from the acquisition as $0.04 to $0.05 in the back half of '06? And then can you quantify the benefit in the 53rd week on an EPS basis?

The EPS benefit is about 2%. There's not a lot of leverage in that 53rd week. And then we're not getting specific on the acquisition. We're not going to give specific guidance. We have $13.3 million of revenue, I can tell you that.

Great, thank you.

From BB&T Capital Markets, Barry Stouffer has our next question.

Good afternoon. There was a sequential decrease in G&A expense from the second quarter to the third quarter of about $400,000 if you back out the stock compensation expense. Was there anything unusual happening between those two quarters to explain that?

Yes, the decrease. That's Katie?

Yes, legal costs actually have dropped quarter-to-quarter.

And we get the leverage off the Great Western Dining acquisition.

I'm talking in absolute dollars?

Yes, legal expense.

Okay. And can you quantify what the increase in hourly wage rates and also management salaries was in the quarter?

Ask that question again, Barry?

Quantify the increase in hourly wage rate and then also the increase in management salaries?

That's not something I have right at my fingertips. I'll have to call you back on the average hourly wage increase. I don't think it's hugely material, but year-over-year there's definitely some cost there. About $0.50 an hour, you think? Okay, about $0.50 an hour on hourly, and management wages have gone up. We've had managers staying around longer, so we had merit increases that they're continuing to receive.

That's store level even.

Store level.

Okay. And can you share with us what the RLOP would be for the stores, the new stores that are doing about 80% of the comp base average unit volume, just how low those margins are?

They're somewhere in the mid-teens, 13, 16, something like that.

Okay, thank you.

Thank you.

From [Thompson Midwest], [Conrad Lyon] has our next question.

Yes, hi. I just want to talk about comps just for a sec here. You know, you put up some good comps in the first half of '06, and we're not looking so hot this second half. I realize that brand awareness is part of the issue, but within the four walls, can you talk about surveys or maybe customer service issues that might be going on? Do you see any of that going on?

Yes, Conrad, we, you know, we have a lot of different metrics in terms of mystery shopper, in terms of BVR scores, in terms of our Internet, which is real similar to IBR. And we haven't seen any substantial changes in terms of guest service in those. Like Katie mentioned, if - even in this challenging environment if you'd back out those non-comp, we would have ran a 1.6% comp store sales increase. While it's a little lower than what we're used to seeing in this environment, it's still positive. So we haven't seen anything; however, at the same time, we're not leaving any rock unturned, and it is all about four wall execution and taking care of each and every guest that comes into our buildings.

Yes, sure. How about in terms of competition, any indication with recent surveys where customers might be going or where they would go in lieu of a Red Robin?

We don't have surveys that get that granular in where they would go. Clearly, in terms of, you know, we're not a media driven concept, and if you watch football you're well aware that some of our friends have dramatically increased their media spend, so that could be a factor. But we've got to take care of business inside the four walls.

Yes. I'm not sure if you touched on this, what was your average check during the third quarter?

$10.73.

$10.73, okay. Got you. All right, great. Thank you very much.

Thank you.

And that's all the time we have for questions today. Mr. Mullen, I will turn the conference back over to you for any further or closing comments.

Well, thank you very much for your time. We'll look forward to talking with you all, as we roll through the fourth quarter, and again in February. Thank you.

That does conclude today's conference call. We thank you for your participation, and have a great day.