NATH

Business Context and Reporting Period

Company: Nathan's Famous, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: December 27, 2009 (Thirteen and Thirty-Nine Weeks)
Business Overview: The Company operates and franchises quick-service restaurants and markets the "Nathan's Famous" brand through a Branded Product Program (retail/foodservice) and Branded Menu Program. As of December 27, 2009, the system included 246 franchised/licensed units and five Company-owned units.

Key Financial Metrics

Note: The Company reported no outstanding indebtedness as of December 27, 2009.

Material Changes vs. Prior Period

• Revenue Growth: Total revenues increased 5.7% for the 13-week period and 3.0% for the 39-week period compared to the prior year. This was driven by a 13.1% increase in foodservice sales (Branded Product/Menu Programs) for the quarter, offset by a 6.3% decrease in comparable domestic franchise sales due to adverse economic conditions.
• Profitability: Net income for the 13-week period rose 22.8% to $1.052 million. Gross profit margins improved significantly, reaching 25.6% of sales for the quarter (up from 20.8% in the prior year) and 28.0% for the 39-week period (up from 23.5%), primarily due to lower hot dog costs and price increases.
• Expense Increases: General and administrative expenses increased by $273,000 (13 weeks) and $446,000 (39 weeks), largely due to costs associated with the relocation of the corporate headquarters and higher professional fees.
• Discontinued Operations: The prior year (2008) included income from discontinued operations related to the sale of NF Roasters and Miami Subs. The current period contains no discontinued operations.

Outlook, Risks, and Contingencies

• Guidance: Management estimates the annual effective tax rate for the fiscal year ending March 28, 2010, will be approximately 35.0% to 37.5%. No specific revenue or earnings guidance was provided for the full year.
• Commodity Risk: The Company faces volatility in beef and beef trimmings costs. While purchase commitments helped mitigate costs in the prior year, market prices rebounded later in the current period. Management expects to enter a new purchase commitment in February 2010.
• Legal Proceedings:
  • SMG, Inc. Dispute: Ongoing litigation regarding the termination of a license agreement for hot dog manufacturing. SMG recently sought leave to amend its complaint to include additional affirmative defenses.
  • Class Action: A New Jersey consumer fraud class action regarding processed meat products; management believes liability will not be material.
  • Copyright Infringement: A lawsuit by Painted Pieces LTD seeking $10.5 million in damages regarding artwork used in advertising. The Company has filed a motion to dismiss and is reviewing insurance coverage.
• Stock Repurchases: The Company actively repurchased 438,516 shares for $5.7 million during the 39-week period. Three active repurchase plans remain with approximately 867,678 shares remaining to be purchased.

Investor Verification Checklist

• Franchise Sales Trends: Verify the impact of the 6.3% decline in comparable domestic franchise sales on future royalty revenue streams.
• Commodity Hedging: Confirm the terms and pricing of the new hot dog purchase commitment expected in February 2010 to assess margin protection.
• Legal Exposure: Monitor the status of the SMG license agreement dispute and the Painted Pieces LTD copyright claim, specifically regarding insurance coverage denials.
• Capital Allocation: Review the remaining capacity under the three active stock repurchase plans and the Company's cash burn rate relative to its $34 million in liquid assets.
• Tax Position: Track the resolution of uncertain tax positions, which could reduce unrecognized tax benefits by up to $90,000 and favorably impact the effective tax rate.