NATH

Business Context and Reporting Period

Company: Nathan's Famous, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 29, 2008 (Thirteen weeks)
Business Overview: The Company operates and franchises Nathan's Famous restaurants, licenses its brand for retail and foodservice products, and manages a Branded Product Program. As of June 29, 2008, the system included 230 franchised/licensed units and six Company-owned units.

Key Financial Metrics

Margins: Gross profit from continuing operations was 24.4% of sales for both periods. The effective tax rate on continuing operations was 37.1% in 2008 versus 36.5% in 2007.

Material Changes vs. Prior Period

• Revenue Growth: Total revenues increased 10.2% to $14.042 million. Sales from the Branded Product Program rose 11.7% to $6.618 million, driven by an 11.0% volume increase. Company-owned restaurant sales increased 6.2%.
• Discontinued Operations: Net income was significantly boosted by discontinued operations ($2.467 million vs. $1.744 million). This includes a $3.656 million gain from the April 2008 sale of NF Roasters Corp. and a $250,000 additional gain recognized from the prior sale of Miami Subs Corporation.
• Continuing Operations Profitability: Income from continuing operations decreased slightly to $1.355 million from $1.408 million, despite revenue growth, due to higher operating expenses.
• Expense Increases: General and administrative expenses rose 18.0% ($373,000 increase), primarily due to higher legal fees ($147,000) related to litigation with supplier SMG, Inc., and higher audit fees ($95,000) for Sarbanes-Oxley compliance.
• Cost of Sales: Increased 12.2% to $8.332 million. A purchase commitment for hot dogs saved approximately $304,000, mitigating the impact of record-high beef prices.

Guidance, Outlook, Risks, and Unusual Items

• Outlook: Management expects the annual tax rate for fiscal 2008 to be approximately 37.0% to 38.0%. They anticipate continued price volatility for beef and other commodities (cooking oil, fish, potatoes) in fiscal 2009.
• Commodity Risks: Beef costs are at historic highs. While a purchase commitment secured savings in Q2, the benefit is expected to diminish in Q3 as the commitment is depleted. The Company has initiated price increases in the Branded Product Program to offset costs.
• Legal Proceedings:
  • SMG, Inc. Litigation: Ongoing dispute with the primary frankfurter supplier regarding the termination of a License Agreement. A stipulation was reached on July 31, 2008, delaying termination until litigation is adjudicated, with an option for a six-month transition period.
  • Personal Injury: A "trip and fall" lawsuit at a leased property in Huntington, NY. The Company is not a named defendant but may have indemnification obligations.
• Capital Allocation: The Company continues a stock repurchase program. Through June 29, 2008, it repurchased 103,858 shares for $1.46 million. Subsequent to the period end, an additional 85,830 shares were repurchased.
• Liquidity: The Company maintains a $7.5 million uncommitted bank line of credit and has no outstanding indebtedness. Cash and marketable securities total $37.5 million.

Investor Verification Checklist

• Discontinued Operations Impact: Verify the sustainability of earnings by analyzing results excluding the $3.9 million gain from the sale of NF Roasters Corp.
• Supplier Litigation Status: Monitor the outcome of the SMG, Inc. lawsuit, as a disruption in frankfurter supply could severely impact the Branded Product Program and restaurant operations.
• Commodity Cost Exposure: Assess the Company's ability to pass on rising beef and utility costs to customers once the current purchase commitment expires in August 2008.
• Stock Repurchase Activity: Confirm the remaining capacity under the $6 million 10b5-1 agreement and the impact of buybacks on share count and EPS.
• Franchise Growth: Review the performance of the new "Limited Menu Frank and Fry" franchise model, which contributed to unit growth but carries different royalty structures.