Business Context and Reporting Period
This Form 10-Q covers the quarterly period ended September 28, 2008, for Wendy's/Arby's Group, Inc. (formerly Triarc Companies, Inc.). The filing reflects the company's operations prior to the completion of its merger with Wendy's International, Inc. on September 29, 2008. Consequently, the financial statements include only the Arby's restaurant business and do not incorporate Wendy's results. The company operates as a single segment following the December 2007 sale of its asset management subsidiary, Deerfield.
Key Financial Metrics
| Metric | Three Months Ended Sept 28, 2008 | Nine Months Ended Sept 28, 2008 |
|---|---|---|
| Total Revenues | $310.4 million | $926.2 million |
| Operating Profit | $3.8 million | $20.1 million |
| Net Income (Loss) | ($12.1 million) | ($86.5 million) |
| EPS (Basic & Diluted) | ($0.13) | ($0.94) |
| Cash and Cash Equivalents | $26.0 million | $26.0 million (Ending Balance) |
| Total Debt (Current + Long-term) | $721.2 million | $721.2 million |
| Working Capital | ($124.1 million) Deficit | N/A |
Restaurant Margin: Decreased to 16.6% for the quarter and 16.5% for the nine-month period, down from 18.8% and 19.3% respectively in the prior year, due to higher food, labor, and utility costs.
Material Changes Versus Prior Period
- Revenue Decline: Total revenues decreased 4.3% in the quarter and 1.8% year-to-date compared to 2007. This decline is primarily due to the elimination of asset management fees following the Deerfield sale in late 2007, which was partially offset by growth in restaurant sales and franchise revenues.
- Significant Investment Losses: The company recorded a net loss of $86.5 million for the nine months ended September 28, 2008. This was driven largely by a $68.1 million "other than temporary" loss on its investment in Deerfield Capital Corp. (DFR) common stock, which was distributed to shareholders as a dividend in April 2008. Additional losses included $6.5 million on an investment in Jurlique International and $5.1 million on available-for-sale securities.
- Restructuring Costs: Facilities relocation and corporate restructuring charges dropped significantly to $0.8 million for the nine months ended September 28, 2008, compared to $81.3 million in the prior year period, as the major corporate restructuring was completed in early 2008.
- Same-Store Sales: Systemwide same-store sales declined 5.2% in the quarter and 3.1% for the nine-month period, attributed to economic softness, high fuel and food costs, and competitive pricing pressures.
Guidance, Outlook, and Risks
- Merger Impact: The company expects a significant increase in sales and franchise revenues in the fourth quarter of 2008 due to the inclusion of Wendy's results following the September 29 merger. However, restaurant margins are expected to decrease as Wendy's historically has lower margins than Arby's.
- Investment Volatility: Management warns that continuing economic weakness could result in additional "other than temporary" losses on the Equities Account securities in the fourth quarter. As of October 31, 2008, these securities had declined approximately $11.0 million in fair value since the quarter-end.
- Goodwill Impairment Risk: The company anticipates that factors negatively impacting company-owned restaurant margins will continue into the fourth quarter. Continued deterioration in store results could trigger a goodwill impairment charge during the annual review.
- Liquidity and Debt: The company has a working capital deficit of $124.1 million. It anticipates meeting fourth-quarter cash requirements through operating cash flows, the $199.8 million in cash acquired from Wendy's, and available borrowings under its revolving credit facility. The company expects to make approximately $40.0 million in non-mandatory prepayments on its term loan to maintain covenant compliance.
- Legal Proceedings: Several class action lawsuits regarding the Wendy's merger were filed in 2008. A memorandum of understanding for settlement was reached in August 2008, but court approval is pending. The company does not believe these matters will have a material adverse effect.
Investor Verification Checklist
- Merger Accounting: Verify the final purchase price allocation and goodwill recognition for the Wendy's merger in the subsequent 10-K filing.
- Investment Portfolio: Monitor the fourth-quarter 10-Q for any additional "other than temporary" impairment charges on the Equities Account and DFR notes.
- Debt Covenants: Confirm compliance with the ARG Credit Agreement leverage ratios, specifically regarding the anticipated $40 million term loan prepayment.
- Goodwill Testing: Review the annual goodwill impairment test results for the Arby's reporting unit in the fourth quarter.
- Legal Settlement: Track the status of the class action lawsuit settlements related to the merger to ensure no unexpected liabilities arise.