Ruby Tuesday 10-K 2006
Documents found in this filing:
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
Commission file number 1-12454
RUBY TUESDAY, INC.
(Exact name of registrant as specified in charter)
150 West Church Avenue, Maryville, Tennessee 37801
(Address of principal executive offices and zip code)
(Registrants telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Securities registered pursuant to Section 12(g) of the Act:
Title of class
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes x No o
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o No x
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check one):
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o No x
The aggregate market value of the voting and non-voting common stock held by non-affiliates of the registrant as of the last day of the second fiscal quarter ended November 29, 2005 was $1,447,169,794 based on the closing stock price of $24.36 on November 29, 2005.
The number of shares of the registrant's common stock outstanding as of July31, 2006, the latest practicable date prior to the filing of this Annual Report, was 58,191,114.
DOCUMENTS INCORPORATED BY REFERENCE
Proxy statement for the Registrants 2006 Annual Meeting of Shareholders, to be filed pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended, is incorporated by reference into Part III hereof.
Item 1. Business
The first Ruby Tuesday® restaurant was opened in 1972 in Knoxville, Tennessee near the campus of the University of Tennessee. The Ruby Tuesday concept, which at the time consisted of 16 restaurants, was acquired by Morrison Restaurants Inc. (Morrison) in 1982. During the following years, Morrison grew the concept to over 300 restaurants with concentrations in the Northeast, Southeast, Mid-Atlantic and Midwest regions of the United States and added other casual dining concepts, including the internally-developed American Cafe® and the acquired Tias, Inc., a chain of Tex-Mex restaurants. In a spin-off transaction that occurred on March 9, 1996, shareholders of Morrison approved the distribution of two separate businesses of Morrison to its shareholders, Morrison Fresh Cooking, Inc. (MFC) and Morrison Health Care, Inc. (MHC). In conjunction with the spin-off, Morrison was reincorporated in the State of Georgia and changed its name to Ruby Tuesday, Inc. Ruby Tuesday, Inc. and its wholly-owned subsidiaries are sometimes referred to herein as RTI, the Company, we and/or our.
We began our traditional franchise program in 1997 with the opening of one domestically and two internationally franchised Ruby Tuesday restaurants. The following year, we introduced a program we called our franchise partnership program, under which we own 1% or 50% of the equity of each of the entities that own and operate Ruby Tuesday franchised restaurants. We do not own any of the equity of entities that hold franchises under our traditional franchise program. We currently have signed agreements for the development of new franchised Ruby Tuesday restaurants with 44 franchisees, comprised of 18 franchise partnerships, nine traditional domestic and 17 traditional international franchisees. In conjunction with the signing of the franchise partnership agreements, between fiscal 1997 and 2002, we sold 124 Ruby Tuesday restaurants in our non-core markets to our franchisees. In addition, the 17 international franchisees (including Puerto Rico) hold rights as of June 6, 2006 to develop Ruby Tuesday restaurants in 23 countries.
On November 20, 2000, the American Cafe (including L&N Seafood) and Tias Tex-Mex concepts, with 69 operating restaurants, were sold to Specialty Restaurant Group, LLC (SRG), a limited liability company owned by the former President of the Companys American Cafe and Tias Tex-Mex concepts and certain members of his management team.
We own and operate the Ruby Tuesday concept in the bar and grill segment of casual dining. We also offer franchises for the Ruby Tuesday concept in domestic and international markets. As of June 6, 2006, we owned and operated 629 casual dining restaurants, located in 29 states and the District of Columbia. Also, as of June 6, 2006, the franchise partnerships operated 168 restaurants located in 17 states and traditional franchisees operated 36 domestic and 47 international restaurants. A listing of the states and countries in which our franchisees operate is set forth below in Item 2 entitled Properties.
Ruby Tuesday restaurants offer simple, fresh American dining emphasizing 14 appetizers, handcrafted burgers, a garden bar which offers up to 46 items, fish, ribs, steaks and more. Burger choices include such items as beef, bison, turkey, chicken, and crab. Entree selections range in price from $6.99 to $16.99.
Ruby Tuesdays To Go CurbsideSM initiative was launched at both Company-owned and franchise restaurants in the second quarter of fiscal 2004. This program provides a quick, convenient alternative for active customers who are on the go.
At June 6, 2006, the Company owned and operated restaurants concentrated primarily in the Southeast, Northeast, Mid-Atlantic and Midwest of the United States. We consider these regions to be our core markets. We plan to open approximately 45-50 Company-owned restaurants during fiscal 2007. The majority of these new restaurants are expected to be located in existing markets. We expect almost all new restaurants to be freestanding. Existing prototypes range in size from 4,600 to 5,400 square feet with seating for 162 to 230 guests. Because these restaurants provide for substantial seating in proportion to the square footage of the buildings, we believe these restaurants offer an opportunity for improved restaurant-level returns on investment. We also believe there is potential for more than one thousand additional Ruby Tuesday restaurants to be operated across the United States. The availability of several different restaurant prototypes enables us to develop restaurants in a variety of different markets, including rural
America, locations adjacent to interstate highways, retail locations, as well as our more traditional sites. Other than population and traffic volume, our site selection requirements for these new restaurants include annual household incomes ranging from $36,000 to $80,000, good accessibility to our restaurants, and visibility of the location. New restaurants are operated by general managers who are rewarded for their ability to grow guest counts, achieve high standards and achieve cost control norms.
As previously noted, we currently have franchise arrangements with 44 franchise groups which operate Ruby Tuesday restaurants in 22 states and Puerto Rico and in 13 foreign countries.
As of June 6, 2006, there were 251 franchise restaurants, including 168 operated by franchise partnerships. In July 2006, 17 of the franchise partnerships restaurants were acquired by the Company. Franchisees opened 32 restaurants in fiscal 2006, 27 restaurants in fiscal 2005, and 40 restaurants in fiscal 2004. We anticipate that our franchisees will open approximately 30 to 35 restaurants in fiscal 2007.
Generally, franchise arrangements consist of a development agreement and a separate franchise agreement for each restaurant. Under a development agreement, a franchisee is granted the exclusive right, and undertakes the obligation, to develop multiple restaurants within a specifically described geographic territory. The term of a domestic franchise agreement is generally 15 years, with two five-year renewal options.
For each restaurant developed under a domestic development agreement, a franchisee is currently obligated to pay a development fee of $10,000 per restaurant (at the time of signing a development agreement), an initial franchise fee (which typically is $35,000 in the aggregate for domestic franchisees), and a royalty fee equal to 4.0% of the restaurants monthly gross sales, as defined in the franchise agreement. Development and operating fees for international franchise restaurants vary.
We offer support service agreements for domestic franchisees. Under the support services agreements, we have one level of support, which is required for franchise partnerships and optional for traditional franchisees, in which we provide specified additional services to assist the franchisees with various aspects of the business including, but not limited to, processing of payroll, basic bookkeeping and cash management. Fees for these services are typically 2.5% of monthly gross sales for franchise partnerships and 2.25% for traditional franchisees, as defined in the franchise agreement. There is also an optional level of support services, available only to traditional franchisees, in which we charge a fee to cover certain information technology related support that we provide. All domestic franchisees also are required to pay a marketing and purchasing fee based on 1.5% of monthly gross sales. Beginning in May 2005, under the terms of the franchise operating agreements, we required all domestic franchisees to contribute a percentage of monthly gross sales, currently 2.3%, to a national advertising fund formed to cover their pro rata portion of the production and airing costs associated with our national cable advertising campaign. Under the terms of those agreements, we can charge up to 3.0% of monthly gross sales for this national advertising fund.
While financing is the responsibility of the franchisee, we make available to the domestic franchisees information about financial institutions that may be interested in financing the costs of restaurant development for qualified franchisees. Additionally, in limited instances, and only with regard to the franchise partnerships we provide partial guarantees to certain of these lenders.
We provide ongoing training and assistance to all of our franchisees in connection with the operation and management of each restaurant through WOW-U®, our training facility, meetings, on-premises visits, and by written or other material.
The Companys WOW-U®, located in the Maryville, Tennessee Restaurant Support Services Center, serves as the centralized training center for all of our and the franchisees multi-restaurant operators and other team members. Facilities include classrooms and a test kitchen. WOW-U® provides managers with the opportunity to assemble for intensive, ongoing instruction and interaction. Programs include classroom instruction and various team competitions, which are designed to contribute to the skill and enhance the dedication of the Company and franchise teams and to strengthen our corporate culture. Further contributing to the training experience is the RT LodgeSM, which is located on a wooded campus just minutes from the Restaurant Support Services Center. RT LodgeSM serves as the lodging quarters and dining facility for those attending WOW-U®. After a long day of instruction and competition, trainees
have the opportunity to dine and socialize with fellow team members in a relaxed and tranquil atmosphere. We believe our emphasis on training and retaining high quality restaurant managers is critical to our long-term success.
Research and Development
We do not engage in any material research and development activities. However, we do engage in ongoing studies to assist with food and menu development. Additionally, we conduct extensive consumer research to determine our guests preferences, trends, and opinions, as well as to better understand other competitive brands.
We negotiate directly with our suppliers for the purchase of raw materials and maintain contracts with select suppliers for both our Company-owned and franchised restaurants. These contracts may include negotiations for distribution of raw materials under a cost plus delivery fee basis and/or specifications that maintain a term-based contract with a renewal option. If any major supplier or our distributor is unable to meet our supply needs, we would negotiate and enter into agreements with alternative providers to supply or distribute products to our restaurants.
We use purchase commitment contracts to stabilize the potentially volatile prices of certain commodities. Because of the relatively short storage life of inventories, limited storage facilities at the restaurants, our requirement for fresh products and the numerous sources of goods, a minimum amount of inventory is maintained at our restaurants. In the event of a disruption of supply, all essential food, beverage and operational products can be obtained from secondary vendors and alternative suppliers. We believe these alternative suppliers can provide, upon short notice, items of comparable quality.
Trade and Service Marks of the Company
We and our affiliates have registered certain trade and service marks with the United States Patent and Trademark Office, including the name Ruby Tuesday. RTI holds a license to use all such trade and service marks from our affiliates, including the right to sub-license the related trade and service marks. We believe that these and other related marks are of material importance to our business. Registration of the Ruby Tuesday trademark expires in 2015, unless renewed. We expect to renew this registration at the appropriate time.
Our business is moderately seasonal. Average restaurant sales of our mall-based restaurants, which represent approximately 20% of our total restaurants, are slightly higher during the winter holiday season. Freestanding restaurant sales are generally higher in the spring and summer months.
Our business is subject to intense competition with respect to prices, services, locations, and the types and quality of food. We are in competition with other food service operations, with locally-owned restaurants, and other national and regional restaurant chains that offer the same or similar types of services and products as we do. Some of our competitors may be better established in the markets where our restaurants are or may be located. Changes in consumer tastes, national, regional or local economic conditions, demographic trends, traffic patterns, and the types, numbers and locations of competing restaurants often affect the restaurant business. There is active competition for management personnel and for attractive commercial real estate sites suitable for restaurants. In addition, factors such as inflation, increased food, labor and benefits costs, and difficulty in attracting qualified management and hourly employees may adversely affect the restaurant industry in general and our restaurants in particular.
We and our franchisees are subject to various licensing requirements and regulations at both the state and local levels, related to zoning, land use, sanitation, alcoholic beverage control, and health and fire safety. We have not encountered any significant difficulties or failures in obtaining the required licenses or approvals that could delay the opening of a new restaurant or the operation of an existing restaurant nor do we presently anticipate the occurrence of any such difficulties in the future. Our business is subject to various other regulations by federal, state and local governments, such as compliance with various health care, minimum wage, immigration, and fair labor standards. Compliance with these regulations has not had, and is not expected to have, a material adverse effect on our operations.
We are subject to a variety of federal and state laws governing franchise sales and the franchise relationship. In general, these laws and regulations impose certain disclosure and registration requirements prior to the offer and sale of franchises. Rulings of several state and federal courts and existing or proposed federal and state laws demonstrate a
trend toward increased protection of the rights and interests of franchisees against franchisors. Such decisions and laws may limit the ability of franchisors to enforce certain provisions of franchise agreements or to alter or terminate franchise agreements. Due to the scope of our business and the complexity of franchise regulations, we may encounter minor compliance issues from time to time. We do not believe, however, that any of these issues will have a material adverse effect on our business.
Compliance with federal, state and local laws and regulations which have been enacted or adopted regulating the discharge of materials into the environment, or otherwise relating to the protection of the environment, has not had, and is not expected to have a material effect on our capital expenditures, earnings or competitive position.
As of June 6, 2006, we employed approximately 16,500 full-time and 22,400 part-time employees, including approximately 450 support center management and staff personnel. We believe that our employee relations are good and that working conditions and employee compensation is comparable with our major competitors. Our employees are not covered by a collective bargaining agreement.
The Company maintains a web site at www.rubytuesday.com. The Company makes available on its web site, free of charge, annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports, as soon as it is reasonably practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission. The Company is not including the information contained on or available through its web site as a part of, or incorporating such information into, this Annual Report on Form 10-K. In addition, copies of the Companys corporate governance materials, including, Corporate Governance Guidelines, Nominating and Governance Committee Charter, Audit Committee Charter, Compensation and Stock Option Committee Charter, Code of Business Conduct and Ethics, Code of Ethical Conduct for Financial Professionals, and Whistleblower Policy, are available at the web site, free of charge. The Company will make available on its web site any waiver of or substantive amendment to its Code of Business Conduct and Ethics or its Code of Ethical Conduct for Financial Professionals within four business days following the date of such waiver or amendment.
A copy of the aforementioned documents will be made available without charge to all shareholders upon written request to the Company. Shareholders are encouraged to direct such requests to the Company's Investor Relations department at the Restaurant Support Services Center, 150 West Church Avenue, Maryville, Tennessee 37801. As an alternative, our Form 10-K can also be printed from the investor relations section of the Companys web site at www.rubytuesday.com.
The Companys Chief Executive Officer, Samuel E. Beall, III, submitted to the New York Stock Exchange (NYSE) the Annual Written Affirmation on November 2, 2005, pursuant to Section 303A.12 of the NYSEs corporate governance rules, certifying that he was not aware of any violation by the Company of the NYSEs corporate governance listing standards as of that date.
Executive Officers of the Company
Executive officers of the Company are appointed by and serve at the discretion of the Companys Board of Directors. Information regarding the Companys executive officers as of June 6, 2006, is provided below.
Mr. Beall has served as Chairman of the Board and Chief Executive Officer of the Company since May 1995 and also as President of the Company since July 2004. Mr. Beall served as President and Chief Executive Officer of the Company from June 1992 to May 1995 and President and Chief Operating Officer of the Company from September 1986 to June 1992. Mr. Beall founded Ruby Tuesday in 1972.
Mr. Johnson joined the Company in April 2000 and was named Senior Vice President in May 2000. Prior to joining the Company, Mr. Johnson was the President of Hopewell & Co. from February 1997 to April 2000, Vice President of Dollar General Corporation from October 1996 to February 1997, and President of the Specialty Division and Senior Vice President of the Company from May 1992 to May 1996.
Ms. Duffy joined the Company in August 1990 and was named Senior Vice President and Chief Financial Officer in June 2001. Ms. Duffy served as Vice President, Operations Controller of the Company from October 1999 to May 2001 and Vice President, Investor Relations and Planning from June 1996 to September 1999. Prior to that time Ms. Duffy served as Director, Investor Relations and Strategic Planning and Director, Corporate Accounting and Financial Analysis.
Mr. Ibrahim joined the Company in July 2001 and was named Senior Vice President, Chief Technology Officer in April 2003. He served as Vice President, Chief Technology Officer from July 2001 to April 2003. Prior to joining the company, Mr. Ibrahim served as a consultant to the Company's Information Technology department from June 1997 to July 2001.
Mr. LeBoeuf joined the Company in July 1986 and was named Senior Vice President, Chief People Officer in June 2003. From August 2001 to June 2003, Mr. LeBoeuf served as Vice President, Human Resources and, from October 2000 to August 2001, as Vice President, Support Services. From October 1999 to October 2000, Mr. LeBoeuf was named Director of Training and Development, and he was a Regional Financial Analyst from January 1997 to October 1999. Prior to January 1997, Mr. LeBoeuf held various operational positions with the Company.
Ms. Grant joined the Company in June 1992 and was named Senior Vice President, Operations in January 2005. From September 2003 to January 2005, Ms. Grant served as Vice President, Operations and, from June 2002 to September 2003, as Regional Partner, Operations. From June 2001 to June 2002, Ms. Grant served as Vice President, Operations Controller, and she was Operations Controller for Specialty Restaurant Group, LLC from October 2000 to June 2001. From April 1999 to October 2000, Ms. Grant was a Regional Financial Analyst and prior to April 1999, she held various operational positions with the Company.
Mr. Ingram joined the Company in September 1979 and was named President of Franchise in May 2004. From December 2002 to May 2004, Mr. Ingram served as President of World Wide Franchise Operations. Mr. Ingram served as President and Partner, Domestic Franchise from June 1997 to December 2002. From September 1996 to September 1997, Mr. Ingram served as Senior Vice President of Human Resources and, from January 1994 to September 1996, as Senior Vice President of Operations. Prior to 1994, Mr. Ingram held various operational positions within the Company.
Mr. Juergens joined the Company in June 1992 and was named Senior Vice President, Development in January 2006. From January 2002 to January 2006, Mr. Juergens served as Vice President, Development and from March 1994 to January 2002, as Vice President, Real Estate. Prior to 1996, Mr. Juergens was a Regional Director of Real Estate.
Item 1A. Risk Factors
Our business and operations are subject to a number of risks and uncertainties. The risk factors discussed below may not be exhaustive. We operate in a continually changing business environment, and new risks may emerge from time to time. We cannot predict such new risks, nor can we assess the impact, if any, of such new risks on our business or the extent to which any risk or combination of risks may cause actual results to differ materially from those expressed in any forward looking statement.
We may fail to reach our Companys growth goals, which may negatively impact our continued financial and operational success.
Ruby Tuesday establishes growth goals each fiscal year based on a strategy of new market development and further penetration of existing markets. A significant portion of our historical growth has been attributable to opening new restaurants, and we typically set goals to open 45 to 50 Company restaurants per year. On the Company side, we minimize opening volatility by often identifying and acquiring sites a year or more in advance.
Because we believe that we have mitigated our risks relative to meeting the requirements of our new restaurant opening schedule, we believe the biggest risk to attaining our growth goals is our ability to increase restaurant sales in existing markets, which is dependent upon factors both within and outside our control. Among others, these desired increases are dependent upon consumer spending, the overall state of the economy, our quality of operations, and the effectiveness of our advertising.
Though believed to be smaller, there are risks associated with new restaurant openings. If we and/or our franchisees are unable to timely secure appropriate construction materials, financing, labor, permits, liquor licenses, or other resources, we run the risk of missing our projected growth goals.
In addition, the locations of our restaurants (geographic areas of growth) may serve as a factor in whether we are operationally successful. For instance, restaurants in new markets may not perform at the same level as restaurants in established markets with high rates of profitability. Further, because the investment costs associated with new restaurants have increased in recent years, newer restaurants actually need to achieve higher sales volumes in order to produce the same return on investment as we have historically desired. Fortunately, our experience in recent years has been that our average returns on new units, despite being negatively impacted by rising construction costs, have well exceeded our cost of capital, although we can provide no assurance that this trend will continue.
Another factor influencing our success is the management of our growth strategy. We must ensure that we maintain strong real estate and other operational leadership such that our expansion plans are appropriately backed by sound judgment and support. The risk of inappropriate growth decisions could negatively impact our growth strategy, and thus continued success.
Once opened, we anticipate new restaurants will take four to six months to reach planned operational profitability due to the associated start-up costs. We can provide no assurance that any restaurant we open will be profitable or obtain operating results similar to those of our existing restaurants. Aside from those previously listed, other factors impacting profitability of new restaurants include, but are not limited to, competition in the restaurant market, consumer acceptance of our restaurants in new markets, recruitment of qualified operating personnel, and weather conditions in the areas in which the new restaurants are located. Due to the presence or absence of these factors, we may not reach our projected financial targets.
The inability of our franchises to operate profitable restaurants may negatively impact our continued financial success.
Ruby Tuesday operates franchise programs with franchise partnerships (franchises in which we own a 1% or 50% interest) and traditional domestic and international franchisees (franchisees in which we do not own any equity interest). In addition to the income we record under the equity method of accounting from our investment in certain of these franchises, we also collect royalties, marketing, and purchasing fees, and in some cases support service fees, as well as interest and other fees from the franchises. Further, as part of the franchise partnership program, we serve as
partial guarantor for two current credit facilities and a third facility which, while no longer in existence, has three outstanding loans. The ability of these franchise groups, particularly the franchise partnerships, to continually generate profits impacts Ruby Tuesdays overall profitability and brand recognition.
Growth within the existing franchise base is dependent upon many of the same factors that apply to Ruby Tuesdays Company-owned restaurants, and sometimes the challenges of opening profitable restaurants prove to be more difficult for our franchisees. For example, franchisees may not have access to the financial or management resources that they need to open or continue operating the restaurants contemplated by their franchise agreements with us. In addition, our continued growth is also partially dependent upon our ability to find and retain qualified franchisees in new markets, which may include markets in which the Ruby Tuesday brand may be less well known. Furthermore, the loss of any of our franchisees due to financial concerns and/or operational inefficiencies could impact our profitability and brand.
Our franchisees are obligated in many ways to operate their restaurants according to the specific guidelines set forth by Ruby Tuesday. We provide training opportunities to our franchise operators to fully integrate them into our operating strategy. However, since we do not have control over these restaurants, we cannot give assurance that there will not be differences in product quality or that there will be adherence to all Company guidelines at these franchise restaurants. In order to mitigate these risks, we do require that our franchisees focus on the quality of their operations, and we expect full compliance with our Company standards.
We face continually increasing competition in the restaurant industry for locations, guests, staff, supplies, and new products.
Our business is subject to intense competition with respect to prices, services, locations, qualified management personnel and quality of food. We compete with other food service operations, with locally-owned restaurants, and with other national and regional restaurant chains that offer the same or similar types of services and products. Some of our competitors may be better established in the markets where our restaurants are or may be located. Changes in consumer tastes; national, regional, or local economic conditions; demographic trends; traffic patterns and the types, numbers and locations of competing restaurants often affect the restaurant business. There is active competition for management personnel and for attractive commercial real estate sites suitable for restaurants. In addition, factors such as inflation, increased food, labor, equipment, fixture and benefit costs, and difficulty in attracting qualified management and hourly employees may adversely affect the restaurant industry in general and our restaurants in particular.
Economic, demographic and other changes, seasonal fluctuations, natural disasters, and terrorism could adversely impact guest traffic in our restaurants, and thus our profitability.
Our business can be negatively impacted by many factors, including those which affect the restaurant only at the local level as well as others which attract national or international attention. Risks that could cause us to suffer losses include the following:
Each of the above items could potentially negatively impact our guest traffic and, thus, our profitability.
We may be unable to remain competitive because we are a leveraged company.
The amount of debt we carry, while believed by us to be prudent based upon our financial strategy, is significant. At June 6, 2006, we had a total of $377.1 million in debt and capital lease obligations. This indebtedness requires us to dedicate a portion of our cash flows from operating activities to principal and interest payments on our indebtedness, which could prevent us from implementing growth plans or proceeding with operational improvement initiatives.
The three most significant loans we have are our revolving credit facility ($212.8 million outstanding at June 6, 2006) and our Series A and B senior notes ($85.0 million and $65.0 million, respectively, outstanding at June 6, 2006). The revolving credit facility and the Series A senior notes both mature in fiscal 2010. Although our total amount owed for debt and capital lease obligations is currently less than two times our net cash provided by operating activities, we cannot give assurance we will be able to renew either facility at terms as favorable as those we have today, or that we will be able to renew the loans at all.
The cost of compliance with various government regulations may negatively affect our business.
We are subject to various forms of governmental regulations. We are required to follow various international, federal, state, and local laws common to the food industry, including regulations relating to food and workplace safety, sanitation, the sale of alcoholic beverages, environmental issues, minimum wage, overtime, immigration and other labor issues. Changes in these laws, including additional government-imposed increases in minimum wages, overtime pay, paid leaves of absence and mandated health benefits, or a reduction in the number of states that allow tips to be credited toward minimum wage requirements, could harm our operating results. Also, failure to obtain or maintain the necessary licenses and permits needed to operate our restaurants could result in an inability to open new restaurants or force us to close existing restaurants.
We are also subject to regulation by the Federal Trade Commission and to state and foreign laws that govern the offer, sale and termination of franchises and the refusal to renew franchises. The failure to comply with these regulations in any jurisdiction or to obtain required approvals could result in a ban or temporary suspension on future franchise sales or fines or require us to rescind offers to franchisees, any of which could adversely affect our business and operating costs. Further, any future legislation regulating franchise laws and relationships may negatively affect our operations.
Approximately 9% of our revenue is attributable to the sale of alcoholic beverages. We are required to comply with the alcohol licensing requirements of the federal government, states and municipalities where our restaurants are located. Alcoholic beverage control regulations require applications to state authorities and, in certain locations, county and municipal authorities for a license and permit to sell alcoholic beverages on the premises and to provide service for extended hours and on Sundays. Typically, the licenses are renewed annually and may be revoked or suspended for cause at any time. Alcoholic beverage control regulations relate to numerous aspects of the daily operations of the restaurants, including minimum age of guests and employees, hours of operation, advertising, wholesale purchasing, inventory control and handling, storage and dispensing of alcoholic beverages. If we fail to comply with federal, state or local regulations, our licenses may be revoked and we may be forced to terminate the sale of alcoholic beverages at one or more of our restaurants.
In certain states we are subject to dram shop statutes, which generally allow a person injured by an intoxicated person the right to recover damages from an establishment that wrongfully served alcoholic beverages to the intoxicated person. We carry liquor liability coverage as part of our existing comprehensive general liability insurance, but we cannot guarantee that this insurance will be adequate in the event we are found liable in such an action.
As a publicly traded corporation, we are subject to various rules and regulations as mandated by the Securities and Exchange Commission (the SEC). Failure to timely comply with these guidelines could result in penalties and/or adverse reactions by our stakeholders. Changes in applicable accounting rules imposed by the SEC or private governing bodies could also affect our reported results of operations and thus cause our stock price to fluctuate or decline.
The potential for increased commodity, energy, and other costs may adversely affect our results of operations.
We continually purchase basic commodities such as beef, chicken, cheese and other items for use in many of the products we sell. Although we attempt to maintain control of commodity costs by engaging in volume commitments with third parties for many of our food-related supplies, we cannot assure that the costs of these commodities will not fluctuate, as we often have no control over such items. In addition, we rely on third party distribution companies to frequently deliver perishable food and supplies to our restaurants. We cannot make assurances regarding the continued supply of our inventory since we do not have control over the businesses of our suppliers. Should our inventories lack in supply, our business could suffer, as we may be unable to meet customer demands. These disruptions may also force us to purchase food supplies from suppliers at higher costs. The result of this is that our operating costs may increase without the desire and/or ability to pass the price increases to our customers.
Ruby Tuesday must purchase energy-related products such as electricity, oil and natural gas for use in each of our restaurants. Our suppliers must purchase gasoline in order to transport food and supplies to us. Our guests purchase energy to heat and cool their homes and fuel their automobiles. When energy prices, such as those for gasoline, heating and air increase, we incur greater costs to operate our restaurants. Likewise our guests have lower disposable income and thus may reduce the frequency in which they dine out and/or feel compelled to choose more inexpensive restaurants when eating outside the home.
The costs of these energy-related items will fluctuate due to factors that may not be predictable, such as the economy, current political/international relations and weather conditions. Because Ruby Tuesday cannot control these types of factors, we maintain the risk that prices of energy/utility items will increase beyond our current projections and adversely affect our operations.
Food safety and food-borne illness concerns could adversely affect consumer confidence in our restaurants.
We face food safety issues that are common to the food industry. We must work to provide a clean, safe environment for both our guests and employees. Otherwise, we risk losing guests and/or employees due to unfavorable publicity and/or a lack of confidence in our ability to provide a safe dining and/or work experience.
Food-borne illnesses, such as E. coli, hepatitis A, trichinosis, or salmonella, as well as the prospect of mad cow disease and avian flu, are also a concern for our industry. We can and do attempt to purchase supplies from reputable suppliers/distributors and have certain procedures in place to test for safety and quality standards, but we can make no assurances regarding whether these supplies may contain contaminated goods. In addition, we cannot ensure the continued health of each of our employees. We provide health-related training for each of our staff and strive to keep ill employees away from food items. However, we may not be able to detect when our employees are sick until the time that their symptoms occur, which may be too late if they have prepared/served food for our guests. The occurrence of an outbreak of a food-borne illness, whether at one of our restaurants or one of our competitors, could result in negative publicity which could adversely affect our sales and profitability.
Litigation could negatively impact our results of operations as well as our future business.
We are subject to litigation and other customer complaints concerning our food safety, service, and/or other operational factors. Guests may file formal litigation complaints that we are required to defend, whether or not we believe them to be true. Substantial, complex or extended litigation could have an adverse effect on our results of operations if it develops into a costly situation and distracts our management. Employees may also, from time to time, subject us to litigation regarding injury, discrimination and other labor issues. Suppliers, landlords and distributors, particularly those with which we currently maintain purchase commitments/contracts, could also potentially allege non-compliance with their contracts should they consider our actions to be contrary to our commitments.
We are dependent on key personnel.
Our future success is highly dependent upon our ability to attract and retain certain key employees. These personnel serve to maintain a corporate vision for our Company as well as execute our business strategy. The loss of any of them could potentially impact our future growth decisions and our future profitability.
While we maintain an employment agreement with Samuel E. Beall, III, our chief executive officer and founder, this employment agreement may not provide sufficient incentives for him to continue employment with Ruby Tuesday. While we are constantly focused on succession plans at all levels, in the event his employment terminates or he becomes incapacitated, we can make no assurance regarding the impact his loss could have on our business and financial results.
We may not be successful at operating profitable restaurants.
The success of our brand is dependent upon operating profitable restaurants. The profitability of our restaurants is dependent on several factors, including the following:
The profitability of our restaurants also depends on the ability of our Company as a whole to absorb the risks associated with growth. In addition, the results of our currently high performing restaurants may not be indicative of their long-term performance, as factors affecting their success may change. Among others, one potential impact of declining profitability of our restaurants is increased asset impairment charges. This could be significant as property and equipment currently represent 84% of our total assets at June 6, 2006.
Item 2. Properties
Information regarding the locations of our Ruby Tuesday restaurants is shown in the list below. Of the 629 Company-owned and operated restaurants as of June 6, 2006, we owned the land and buildings for 295 restaurants, owned the buildings and held non-cancelable long-term land leases for 178 restaurants, and held non-cancelable leases covering land and buildings for 156 restaurants. The Company's Restaurant Support Services Center in Maryville, Tennessee, which was opened in fiscal 1998, is owned by the Company. Our executives and certain other administrative personnel are located in the Maryville Support Services Center. Since fiscal 2001, we have expanded the Restaurant Support Services Center by opening second and third locations also in Maryville.
Additional information concerning our properties and leasing arrangements is included in Note 5 to the Consolidated Financial Statements appearing in Part II, Item 8 of this Form 10-K.
Under our franchise agreements, we have certain rights to gain control of a restaurant site in the event of default under the franchise agreements.
The following table lists the locations of the Company-owned and franchised restaurants as of June 6, 2006:
Item 3. Legal Proceedings
We are presently, and from time to time, subject to pending claims and lawsuits arising in the ordinary course of business. In the opinion of management, the ultimate resolution of these pending legal proceedings will not have a material adverse effect on our operations, financial position or liquidity.
Item 4. Submission of Matters to a Vote of Security Holders
Item 5. Market for the Registrant's Common Equity,
Related Stockholder Matters and Issuer Purchases of Equity Securities
Certain information required by this Item 5 is included in Note 11 to the Consolidated Financial Statements appearing in Part II, Item 8 of this Form 10-K.
During fiscal 1997, our Board of Directors approved a dividend policy as an additional means of returning capital to RTIs shareholders. The payment of a dividend in any particular future period and the actual amount thereof remain, however, at the discretion of the Board of Directors and no assurance can be given that dividends will be paid in the future. Additionally, our credit facilities contain certain limitations on the payment of dividends. During fiscal 2006, we declared and paid semi-annual dividends of 2.25¢ per share in the first and third quarters. On July 11, 2006 in accordance with a previously announced strategy of returning excess capital to shareholders through increased dividends and share repurchases, our Board of Directors declared a semi-annual cash dividend of $0.25 per share payable on August 8, 2006 to shareholders of record on July 24, 2006.
The following table includes information regarding purchases of our common stock made by us during the fourth quarter of the year ended June 6, 2006:
(1) No shares were repurchased other than through our publicly announced repurchase programs and authorizations during the fourth quarter of our year ended June 6, 2006. These repurchase programs include shares surrendered as payment for the exercise price of options or purchase rights or in satisfaction of tax withholding obligations in connection with the Companys stock incentive plans.
(2) On January 5, 2006, the Company's Board of Directors authorized the repurchase of an additional 6.7 million shares of Company common stock under the Company's on-going share repurchase program. As of June 6, 2006, 1.5 million shares of the January 2006 authorization have been repurchased at a cost of approximately $43.2 million.
Item 6. Selected Financial Data
Summary of Operations
(In thousands except per-share data)
Item 7. Management's Discussion and Analysis
of Financial Condition and Results of Operations
Introduction and Overview
Ruby Tuesday, Inc. (RTI, the Company, we and/or our) owns and operates Ruby Tuesday® casual dining restaurants. We also franchise the Ruby Tuesday concept in selected domestic and international markets. As of fiscal year end, we owned and operated 629 Ruby Tuesday restaurants, located in 29 states and the District of Columbia. We also own 1% or 50% of the equity of each of 18 domestic franchisees, with the balance of the equity in these franchisees being owned by the various operators of the franchise businesses. As of year end, these franchisees, which we refer to as franchise partnerships, operated 168 restaurants. We have a contractual right to acquire, at predetermined valuation formulas, the remaining equity of any or all of the franchise partnerships. Our other franchisees, domestic and international, operated 83 restaurants. In total RTIs franchisees operate restaurants in 22 states and Puerto Rico and 13 foreign countries.
Casual dining, the segment of the restaurant industry in which RTI operates, is intensely competitive with respect to prices, services, convenience, locations and the types and quality of food. We compete with other food service operations, including locally-owned restaurants, and other national and regional restaurant chains that offer the same or similar types of services and products as we do. Our industry is often affected by changes in consumer tastes, national, regional or local conditions, demographic trends, traffic patterns, and the types, numbers and locations of competing restaurants as well as overall marketing efforts. There also is significant competition in the restaurant industry for management personnel and for attractive commercial real estate sites suitable for restaurants.
A key performance goal for us is to get more out of existing assets. To measure our progress towards that goal, we focus on measurements we believe are critical to our growth and progress including, but not limited to, the following:
Our goal is to increase same-restaurant sales on average 3-5% per year and to increase average restaurant volumes by $100,000 per year towards our long-term goal of $2.5 million in sales per restaurant per year. We also have strategies to invest wisely in new restaurants as it relates to generating both higher sales as well as higher returns and to maintain the right capital structure to create value for our shareholders. Our historical performance in these areas is discussed throughout this Managements Discussion and Analysis of Financial Condition and Results of Operations (MD&A) section.
Our fiscal year ends on the first Tuesday following May 30 and, as is the case once every five or six years, we have a 53 week year. Fiscal 2006 was a 53 week year. All other years discussed throughout this MD&A section contained 52 weeks. In fiscal 2006, the 53rd week added $24.5 million to restaurant sales and operating revenue and $0.04 to diluted earnings per share in our Consolidated Statement of Income. We remind you that, in order to best obtain an understanding of the significant factors that influenced our performance during the last three fiscal years, this MD&A section should be read in conjunction with the Consolidated Financial Statements and related Notes.
References to franchise system revenue contained in this section are presented solely for the purposes of enhancing the investor's understanding of the franchise system, including franchise partnerships and traditional domestic and international franchisees. Franchise system revenue is not included in, and is not, revenue of Ruby Tuesday, Inc. However, we believe that such information does provide the investor with a basis for better understanding of our revenue from franchising activities, which includes royalties, and, in certain cases, support service income and equity in earnings of unconsolidated franchises. Franchise system revenue contained in this section is based upon or derived from information which we obtain from our franchisees in our capacity as franchisor.
Ruby Tuesday Restaurants
The table below presents the number of Ruby Tuesday concept restaurants at each fiscal year end from fiscal 2002 through fiscal 2006:
During fiscal 2006, we
During fiscal 2005, we
Our franchisees entered into development agreements with us whereby they committed to open a specified number of Ruby Tuesday restaurants in their assigned territories over a specific period of time. Pursuant to development agreements, 32 Ruby Tuesday franchise restaurants (22 domestic and 10 international) were opened during fiscal 2006 and 27 Ruby Tuesday franchise restaurants (22 domestic and five international) were opened during fiscal 2005. RTIs franchisees closed seven restaurants (six domestic and one international) in fiscal 2006. In addition to the 44 Ruby Tuesday restaurants sold to the Company in fiscal 2005, RTIs franchisees closed nine restaurants (six domestic and three international) during fiscal 2005.
Sales at Ruby Tuesday restaurants in fiscal 2006 grew 17.9% over fiscal 2005 for Company-owned restaurants and 8.6% for domestic and international franchise restaurants as explained below. The tables presented below reflect Ruby Tuesday concept sales for the last five years, and other revenue information for the last three years.
Ruby Tuesday Concept Sales (in millions):
Other Revenue Information:
RTIs increase in Company restaurant sales in fiscal 2006 is attributable to growth in the number of restaurants, coupled with an increase in same-restaurant sales and higher average restaurant volumes. Management attributes the increase in same-restaurant sales to a combination of factors, including a higher check average, driven by an improved menu with slightly higher pricing and better quality products, and a positive response to our media advertising which has continued to evolve favorably since its introduction in the prior fiscal year.
RTIs increase in Company restaurant sales in fiscal 2005 is attributable to growth in the number of restaurants offset with a decrease in same-restaurant sales and lower average restaurant volumes. During the second quarter of fiscal 2005, a decision was made to move away from couponing as a means of driving trial and traffic towards media advertising. Coupon redemptions totaled $10.0 million in fiscal 2005 as compared to $22.3 million for fiscal 2004. While we believe that there were other operational and external factors which contributed to a poor same-restaurant sales performance for fiscal 2005, this decision is believed to be the key driver.
Franchise development and license fees received are recognized when we have substantially performed all material services and the restaurant has opened for business. Franchise royalties (generally 4% of monthly sales) are recognized as franchise revenue on the accrual basis. Franchise revenue decreased 0.5% to $15.7 million in fiscal 2006 and decreased 12.3% to $15.8 million in fiscal 2005. The decrease in fiscal 2006 is due in part to the acquisition of four franchise partnership entities in the prior fiscal year and temporarily reduced royalty rates for certain franchisees. Total franchise restaurant sales are shown in the table below.
The 8.6% increase in fiscal 2006 franchise restaurant sales is due in part to the growth in restaurants in international and domestic markets and an increase in average restaurant volumes as a result of an increase in same-restaurant sales, partially offset by the acquisition of four franchise partnerships during the prior year.
RTI franchise sales decreased 6.9% in fiscal 2005. The decrease is due in part to the acquisition of the four franchise partnership entities discussed above and a decrease in average restaurant volumes resulting from lower same-restaurant sales for domestic franchise restaurants.
The following table sets forth selected restaurant operating data as a percentage of revenue for the periods indicated. All information is derived from our Consolidated Financial Statements located in Item 8 of this Annual Report.
For fiscal 2006, pre-tax profit was $151.0 million or 11.6% of total revenue, as compared to $154.9 million or 14.0% of total revenue, for fiscal 2005. The decrease is primarily due to increases, as a percentage of restaurant sales and operating revenue or total revenue, as appropriate, of cost of merchandise, other restaurant operating costs, advertising (contained within selling, general and administrative expenses), interest expense, net, and decreased income from our equity in earnings of unconsolidated franchises as discussed below. These higher costs were offset by increases in same-restaurant sales coupled with the growth in the number of restaurants and lower, as a percentage of restaurant sales and operating revenue, payroll and related costs and depreciation and amortization.
For fiscal 2005, pre-tax profit was $154.9 million or 14.0% of total revenue, as compared to $170.5 million or 16.4% of total revenue, for fiscal 2004. The decrease was primarily due to lower average restaurant volumes (driven by a decrease of 7.1% in same-restaurant sales at Company-owned restaurants), increased advertising costs and lower franchising revenue. In addition, the decrease was due to increases, as a percentage of restaurant sales and operating revenue or total revenue, as appropriate, of cost of merchandise, other restaurant operating costs, depreciation and amortization, and decreased income from our equity in earnings of unconsolidated franchises as discussed below. These higher costs were offset by the growth in the number of restaurants and lower, as a percentage of restaurant sales and operating revenue, payroll and related costs.
Cost of Merchandise
Cost of merchandise, as a percentage of restaurant sales and operating revenue, increased 0.5% in fiscal 2006 primarily due to increased food costs as a result of burger enhancements such as wheat buns, whole leaf lettuce, apple-wood smoked bacon, higher quality pickles and tomatoes, and other product enhancements such as increased portion sizes, and an extended salad bar selection.
Cost of merchandise, as a percentage of restaurant sales and operating revenue, increased 0.3% in fiscal 2005 primarily due to an increase in portion sizes for certain items as well as a shift to a new product for items such as chicken breasts, chicken tenders and wings, ribs and mashed potatoes, and the addition of new menu items, such as stackers and coconut shrimp, in fiscal 2005. This increase was partially offset by a benefit gained by purchasing bulk produce versus local produce and by the impact of decreased coupon redemptions.
Payroll and Related Costs
Payroll and related costs decreased 0.2% as a percentage of restaurant sales and operating revenue in fiscal 2006 due to the leveraging of certain costs as part of the 1.4% same-restaurant sales growth, labor cost efficiencies resulting from the rollout of a Kitchen Display System (KDS), the implementation of additional management tools, and improved tracking of hourly employees which resulted in reduced overtime, offset by higher management labor resulting from salary increases given at the beginning of fiscal 2006 and minimum wage increases in several states in which the Company has restaurant operations.
For fiscal 2005, payroll and related costs decreased 0.2% as a percentage of restaurant sales and operating revenue, due to labor cost efficiencies resulting from improved tracking of hourly employees which allowed for more efficient staffing, and new product additions that further reduced preparation times. In addition, the decrease was attributed to reduced coupon redemptions in fiscal 2005, which were $12.3 million lower than the prior fiscal year and favorable health claims experience.
Other Restaurant Operating Costs
Other restaurant operating costs, as a percentage of restaurant sales and operating revenue, increased 0.6% in fiscal 2006 primarily due to higher utility costs, increased bad debt expenses associated with certain franchise notes receivable, higher closing expense due to a lease reserve established upon the closing of an unprofitable restaurant as part of market upgrading, and a $1.0 million gain recognized in the prior year from the sale of our 50% interest in RT Northern Illinois Franchise, LLC. (RT Northern Illinois). Partially offsetting this increase is the impact of higher same-restaurant sales without equivalent increases in other restaurant operating costs, many of which are somewhat fixed in nature.
For fiscal 2005, other restaurant operating costs, as a percentage of restaurant sales and operating revenue, increased 0.8% primarily due to higher utility costs, including electricity and natural gas, higher rent and lease-required expenses driven by lower average restaurant volumes coupled with the addition of the four franchise partnership entities during the year, higher closing expense due to a favorable lease adjustment in the prior fiscal year, and a loss recorded on our guarantee of the Northern California franchises revolving credit facility (see Note 2 to the Consolidated Financial Statements for more information). Additionally, the costs, many of which as noted above are somewhat fixed in nature, as a percentage of restaurant sales and operating revenue, increased due to the loss of leverage resulting from lower same-restaurant sales. These increases were partially offset by a $1.0 million gain resulting from the sale of our 50% interest in RT Northern Illinois to RT Midwest, a traditional franchise, during the second quarter of fiscal 2005.
Depreciation and Amortization
Depreciation and amortization, as a percentage of restaurant sales and operating revenue, decreased 0.6% in fiscal 2006 primarily due to higher average restaurant volumes and reduced depreciation for older leased restaurants as initial leasehold improvements became fully depreciated during the current fiscal year.
For fiscal 2005, depreciation and amortization, as a percentage of restaurant sales and operating revenue, increased 0.5% primarily due to lower average restaurant volumes, and accelerated depreciation on seven restaurants expected to be closed at the end of their lease terms. Two of the seven restaurants with accelerated depreciation closed during fiscal 2005.
Selling, General and Administrative Expenses
Selling, general and administrative expenses, as a percentage of total revenue, increased 1.2% in fiscal 2006. The increase is attributable to higher advertising expense as the Company began utilizing cable television advertising at the beginning of fiscal 2006 in addition to its previous network television advertising. In addition, the Company began sponsoring certain events as part of its overall marketing strategy during fiscal 2006. Advertising costs increased $20.7 million in fiscal 2006 to $45.6 million, net of franchise marketing reimbursements. Bonus expense was also higher in fiscal 2006 due to higher attainment of Company performance goals. These increases were partially offset by lower training payroll due to lower management turnover and efficiencies created by KDS, and lower supervisor labor due to leveraging of higher sales volumes.
For fiscal 2005, selling, general and administrative expenses, as a percentage of total revenue, increased 0.4%. The increase was attributable to higher advertising expenditures as we transitioned towards television advertising as our primary form of marketing with less emphasis on the use of coupons (which are recorded as a reduction of restaurant revenues) and a reduction in franchise support service fee income due to the purchase of four franchise partnership
entities during the current year and lower same-restaurant sales for the franchise partnerships, offset by a decrease in bonus expense to adjust for lower bonuses. The transition towards television advertising began during the second quarter of fiscal 2005. Advertising costs increased $13.1 million in fiscal 2005 to $24.9 million, net of franchise marketing reimbursements.
Equity in Earnings of Unconsolidated Franchises
For fiscal 2006, our equity in the earnings of unconsolidated franchisees decreased to $0.9 million from $2.7 million in fiscal 2005, primarily due to the addition of advertising costs as the domestic franchise system began participating in our national media advertising program, which began including national cable covering the entire country at the beginning of this fiscal year, higher interest expense due to increased debt associated with new restaurant openings and higher interest rates on variable debt, higher utility costs, coupled with the acquisition of a prior 50%-owned franchise partnership in the second quarter of fiscal 2005.
For fiscal 2005, our equity in the earnings of unconsolidated franchises decreased to $2.7 million from $5.9 million in fiscal 2004, due to the acquisition of our Tampa franchise, which had been a 50%-owned franchise, coupled with the sale of our 50% ownership interest in RT Northern Illinois and lower same-restaurant sales for certain of our 50%-owned franchise partnerships during the year.
Net Interest Expense
Net interest expense increased $8.4 million in fiscal 2006 primarily due to higher debt outstanding resulting from the Company acquiring 7.8 million shares of its stock during the year under our on-going share repurchase program. In addition, the increase is attributable to higher interest rates on variable rate debt and the acquisition of franchise entities during the prior fiscal year, which resulted in more interest expense due to additional higher rate debt and less interest income from domestic franchises.
For fiscal 2005, net interest expense increased $0.6 million primarily due to lower interest income on the franchise partnership notes receivable due to the acquisition of franchise entities during the year coupled with collections on the notes remaining.
Provision for Income Taxes
Our effective tax rate for fiscal 2006 was 33.1%, down from 34.0% in fiscal 2005. The change in the effective rate was primarily due to higher tax credits coupled with lower pre-tax income, which resulted in our already increased tax credits having a greater impact on the overall tax rate. Our effective tax rate for fiscal 2005 was 34.0%, down from 35.6% in fiscal 2004, primarily for the same reasons.
Liquidity and Capital Resources
RTIs cash from operations and excess borrowing capacity allow us to pursue our growth strategies and targeted capital structure. Accordingly, we have established certain well-defined priorities for our operating cash flow:
Our primary source of liquidity is cash provided by operations. The following table presents a summary of our cash flows from operating, investing and financing activities for the last three fiscal years (in thousands).
We require capital principally for new restaurant construction, investments in technology, equipment, remodeling of existing restaurants, and on occasion for acquisitions of franchisees. We also require capital to pay dividends to our common stockholders and to repurchase our common stock.
Property and equipment expenditures purchased with internally generated cash flows for fiscal 2006, 2005, and 2004 were $171.6 million, $162.4 million, and $151.5 million, respectively. In addition during fiscal 2005, we spent $8.2 million, plus assumed debt, to acquire, directly and through our subsidiaries, the remaining member or limited partnership interests of four franchise partnerships, RT New York, the upstate New York (Buffalo area) franchisee, RT Tampa, RT Northern California, and RT Michiana, the southwest Michigan and northern Indiana franchisee. These acquisitions added 44 restaurants to the Company. Shortly after the end of fiscal 2006, we acquired the remaining partnership interests of RT Orlando. Further acquisitions, particularly from franchisees in the eastern United States, may occur either during fiscal 2007 or thereafter.
Capital expenditures for fiscal 2007 are budgeted to be approximately $145.0 to $155.0 million based on our expectation that we will open approximately 45 to 50 Company-owned restaurants in fiscal 2007. Also included are budgeted amounts for ongoing refurbishment and capital replacement for existing restaurants and the enhancement of information systems. We intend to fund capital expenditures for Company-owned restaurants with cash provided by operations. We will spend $3.0 million, plus assumed debt, as discussed above to acquire the Orlando franchisee, which had been a franchise partnership. See Special Note Regarding Forward-Looking Information below.
Borrowings and Credit Facilities
On November 19, 2004, RTI entered into a $200.0 million five-year revolving credit agreement (the Credit Facility), which includes a $20.0 million swingline sub-commitment and a $40.0 million sub-limit for letters of credit. The Credit Facility, which was increased by $100.0 million on November 7, 2005 to $300.0 million, is scheduled to mature on November 19, 2009.
At June 6, 2006, we had borrowings of $212.8 million outstanding under the Credit Facility with an associated floating rate of 6.02%. After consideration of letters of credit outstanding, the Company had $69.1 million available under the Credit Facility as of June 6, 2006. At May 31, 2005, we had borrowings of $72.1 million outstanding under the Credit Facility with an associated floating rate of 3.84%.
During fiscal 2003, we concluded the private sale of $150.0 million of non-collateralized senior notes (the Private Placement). The Private Placement consisted of $85.0 million with a fixed interest rate of 4.69% (the Series A Notes) and $65.0 million with a fixed interest rate of 5.42% (the Series B Notes). The Series A Notes and Series B Notes mature on April 1, 2010 and April 1, 2013, respectively.
During fiscal 2007, we expect to fund operations, capital expansion, any repurchase of common stock or purchase of franchise partnership equity, and the payment of dividends from operating cash flows, our Credit Facility, and operating leases. See Special Note Regarding Forward-Looking Information below.
From time to time our Board of Directors has authorized the repurchase of shares of our common stock as a means to return excess capital to our shareholders. The timing, price, quantity and manner of the purchases can be made at the discretion of management, depending upon market conditions. During fiscal 2006 we repurchased 7.8 million shares at an average price of $24.16 per share. Current year repurchases completed authorizations made in April 1999 and March 2005. In January 2006, the Board of Directors authorized the repurchase of 6.7 million shares. During the remainder of fiscal 2006, 1.5 million of those shares were repurchased, leaving 5.2 million available for repurchase during fiscal 2007 and beyond.
Long-term financial obligations were as follows as of June 6, 2006 (in thousands):
For purposes of calculating total debt to capital, we include as debt all of the above on-balance sheet debt, plus the present value of operating leases, letters of credit, and franchisee loan guarantees.
Commercial Commitments (in thousands):
See Note 9 to the Consolidated Financial Statements for more information.
Our working capital deficiency and current ratio as of June 6, 2006 were $29.7 million and 0.7:1, respectively. As is common in the restaurant industry, we carry current liabilities in excess of current assets because cash (a current asset) generated from operating activities is reinvested in capital expenditures (a long-term asset) and receivable and inventory levels are generally not significant.
Off-Balance Sheet Arrangements
Since 1998, our franchise partnerships have been offered a credit facility for which we provide a partial guarantee. The current credit facility, which has been negotiated with various lenders, is a $48.0 million credit facility to assist franchise partnerships with working capital and operational cash flow requirements. As discussed in Note 9 to the Consolidated Financial Statements, on November 19, 2004 we amended and restated this credit facility with various lenders. As sponsor of the credit facility, we serve as partial guarantor of the draws made on this revolving line of credit. The credit facility expires on October 5, 2006 and allows for 12-month individual franchise partnership loan commitments. If desired, RTI can increase the amount of the facility by up to $25 million (to a total of $73 million) or, reduce the amount of the facility. The amount guaranteed under this program totaled $35.4 million as of June 6, 2006.
Prior to July 1, 2004, RTI also had an arrangement with a different third party lender whereby we could choose, in our sole discretion, to partially guarantee specific loans for new franchisee restaurant development (the Cancelled Facility). On July 1, 2004, RTI terminated the Cancelled Facility and notified this third party lender that it would no longer enter into additional guarantee arrangements. RTI will honor the partial guarantees of the three loans to franchise partnerships that were in existence as of the termination of the Credit Facility. Should payments be required under the Cancelled Facility, RTI has certain rights to acquire the operating restaurants after the third party debt is paid. This program had remaining outstanding guarantees of $1.0 million at June 6, 2006.
Also in July 2004, RTI entered into a new program, similar to the Cancelled Facility, with a different third party lender (the Franchise Development Facility). Under the Franchise Development Facility, the Companys potential guarantee liability is reduced, and the program includes better terms and lower rates for the franchise partnerships as compared to the Cancelled Facility. RTI has a guarantee of $6.8 million outstanding under this program as of June 6, 2006.
As consideration for providing these guarantees, we received $1.0 million in fiscal 2006.
As further discussed in Note 9 to the Consolidated Financial Statements and noted below, RTI has certain divestiture guarantees with Morrison Fresh Cooking, Inc. (MFC) and Morrison Health Care, Inc. (MHC) which arose in 1996 in connection with the distribution of MFC (subsequently acquired by Piccadilly Cafeterias, Inc., or Piccadilly) and MHC (subsequently acquired by Compass Group, PLC, or Compass) businesses. Contingent liabilities resulting from these guarantees include payments due to MFC and MHC employees retiring under two non-qualified defined benefit plans which existed at the time of the distribution (the Non-Qualified Pension Plans), or corresponding replacement plans established by MFC and MHC at the time of distribution, for their proportionate share of any accrued benefit that may have been earned under the Non-Qualified Pension Plans as of the distribution date and for payments due on six named workers compensation claims. Additionally, as a sponsor of the Morrison Restaurants Inc. Retirement Plan (the Retirement Plan), we, along with MFC and MHC, can be held responsible for benefits due to all of the Retirement Plans participants. As a result of the Piccadilly bankruptcy discussed herein, the amounts we expect to pay represent 50% of the total amounts due as we expect to share liabilities equally with MHC, which is also contingently liable.
During fiscal 2004, we recorded a liability of $4.2 million for the retirement plans collective divestiture guarantees for which MFC was originally responsible under the divestiture guarantee agreements, comprised of $1.8 million related to the Retirement Plan (the qualified plan) and $2.4 million (in the aggregate) attributable to the Management Retirement Plan and the Executive Supplemental Pension Plan previously maintained by MFC (the two nonqualified plans). These amounts were determined in consultation with the plans actuary, and assumed no recovery from the bankruptcy proceeding. As of June 6, 2006, we have received two partial settlements of the Piccadilly bankruptcy, $1.0 million in December 2004 and $0.3 million in December 2005. We hope to recover further amounts upon final settlement of the bankruptcy, which is expected in fiscal 2007. The actual amount we may be ultimately required to pay could be lower if there is any further recovery in the bankruptcy proceeding, or could be higher if more valid participants are identified or if actuarial assumptions are ultimately proven inaccurate. See Special Note Regarding Forward-Looking Information below.
Our contingent liability relative to MHC is estimated to be $8.7 million at June 6, 2006, and includes MHCs 50% share of the Piccadilly employee benefit plan liability, along with the amounts for which we would be liable relative to the employees of MHC. We currently do not anticipate having to pay any amounts on behalf of MHC due to our perception of MHCs financial strength and accordingly no amounts have been recorded relative to our MHC contingent liability.
We have an employment agreement with Samuel E. Beall, III, whereby he has agreed to serve as Chief Executive Officer of the Company until June 18, 2010. In accordance with the agreement, Mr. Beall is compensated at a base salary (adjusted annually based on various Company or market factors) and is entitled to an annual bonus opportunity and a long-term incentive compensation program, which currently includes stock option grants and life insurance coverage. The employment agreement also provides for certain severance payments to be made in the event of a termination other than for cause, or a change in control, the circumstances of which are defined in the agreement. As of June 6, 2006, the total of the potential liability for severance payments with regard to the employment agreement was approximately $10.6 million.
Pension Plans Funded Status
RTI is a sponsor of the Retirement Plan along with MHC, which was spun-off as a result of Morrison Restaurant Inc.s (Morrison) fiscal 1996 spin-off transaction. MFC, which also had been spun-off, was a sponsor of the Retirement Plan prior to Piccadillys 2003 bankruptcy, discussed below. The Retirement Plan was established to provide retirement benefits to qualifying employees of Morrison. Under the Retirement Plan, participants are entitled to receive benefits based upon salary and length of service. The Retirement Plan was amended as of December 31, 1987, so that no additional benefits will accrue and no new participants will enter the Retirement Plan after that date.
As discussed in more detail in Note 9 to the Consolidated Financial Statements, Piccadilly announced on October 29, 2003 that it had filed for Chapter 11 protection under the United States Bankruptcy Code. On March 16, 2004, Piccadillys assets and ongoing business operations were sold to a third party for $80 million. On March 10, 2004, RTI filed a claim against Piccadilly as part of the bankruptcy proceedings in the amount of approximately $6.2 million. Subsequently, the Company entered into a settlement agreement under which RTI agreed to accept a $5.0 million unsecured claim in exchange for the agreement of the creditors committee to allow such claims. The settlement was approved by the bankruptcy court on October 21, 2004.
In partial settlement of the Piccadilly bankruptcy, RTI received $1.0 million in December 2004 and $0.3 million in December 2005. The Company hopes to recover a further amount upon final settlement of the bankruptcy. No further recovery has been recorded in our Consolidated Financial Statements.
The Retirement Plans original three sponsors had agreed to voluntarily contribute such amounts as are necessary to provide assets sufficient to meet benefits to be paid to participants. Piccadilly, however, has not contributed to the Retirement Plan subsequent to its bankruptcy filing. Amounts payable to the Retirement Plan by Piccadilly since that date have been split equally between RTI and Compass. Because we have integrated the Piccadilly census data into our own, we no longer track the liability for MFC Retirement Plan benefits separately from the liability due RTI participants. Our total contributions to the Retirement Plan approximated $0.7 million, $2.0 million, and $1.9 million in fiscal 2006, 2005, and 2004, respectively. RTI contributions to the Retirement Plan for fiscal 2007 are projected to be $2.2 million. To the best of our knowledge, Compass has made all required contributions.
Subsequent to the end of fiscal 2006, the assets and obligations attributable to MHC participants, as well as former MFC participants who were allocated to Compass following Piccadillys bankruptcy, were spun out of the Retirement Plan and into a separate plan maintained by Compass. Following the spin-off, RTI became the sole sponsor of the Retirement Plan.
RTI also sponsors two additional pension plans, the Executive Supplemental Pension Plan and the Management Retirement Plan. Although these plans are legally considered to be unfunded, the Company does provide a source for the payment of benefits under these two plans in the form of Company-owned life insurance policies. The cash value of these policies was $24.6 million at June 6, 2006. The Management Retirement Plan was amended effective June 1, 2001 such that no additional benefits would accrue and no new participants may enter the plan after that date. MFC established successor pension plans at the time of its spin-off from RTI (March 1996) for the benefit of eligible RTI employees whose employment was being transferred to MFC. As with the Retirement Plan, the ultimate amount of liability which RTI will absorb relative to Piccadillys two nonqualified pension plans will not be known until the completion of Piccadillys bankruptcy proceedings. We expect to have some liability to the MFC employees who had an accrued benefit under the RTI unfunded pension plans at the time of the spin-off. Based on estimates prepared with the assistance of our independent actuaries, we have recorded a liability of $1.4 million on behalf of MFC participants relative to these two plans. As with the Retirement Plan, the extent of any recovery in the bankruptcy proceeding is unknown at this time.
As of our March 31, 2006 measurement date, RTI pension plans, including amounts recorded by RTI for liabilities assumed for former MFC employees, had a total projected benefit obligation (PBO) of $37.1 million, and an accumulated benefit obligation (ABO) of $35.8 million. The combined fair value of plan assets as of the end of fiscal 2006, including the Company-owned life insurance policies and a contribution of $0.2 million made to the Retirement Plan after the measurement date but before June 6, 2006, was approximately $32.4 million. As a result of the underfunded status of the three plans relative to the combined PBO, we have recorded a $7.2 million reduction to shareholders equity (net of tax of $4.8 million) as of June 6, 2006.
The PBO and ABO reflect the actuarial present value of all benefits earned to date by employees. The PBO incorporates assumptions as to future compensation levels while the ABO reflects only current compensation levels. Due to the relatively long time period over which benefits earned to date are expected to be paid, our PBO and ABO are highly sensitive to changes in discount rates. We measured our PBO and ABO using a discount rate of 6.00% at March 31, 2006 and 5.75% at March 31, 2005.
We believe our assumption of the expected rate of return on plan assets to be appropriate given the composition of plan assets and historical market returns thereon. We will continue to use the 8.0% expected rate of return on plan assets assumption for the determination of pension expense in fiscal 2007.
Assuming no further recoveries from the Piccadilly bankruptcy, we expect pension expense to decrease by $0.3 million in fiscal 2007. We do not believe that the underfunded status of the three RTI pension plans will materially affect our financial position or cash flows in fiscal 2007 or in future years. Given current funding levels and discount rates, we anticipate making contributions to more fully fund the pension plans over the course of the next five to ten years. We believe our cash flows from operating activities will be sufficient to allow us to make necessary contributions to the three plans. We have included known and expected increases in our pension expense as well as future expected plan contributions in our annual budgets and outlook. See Special Note Regarding Forward-Looking Information below.
During fiscal 1997, our Board of Directors approved a dividend policy as an additional means of returning capital to RTI's shareholders. This policy has historically called for payment of semi-annual dividends of 2.25¢ per share. In accordance with this policy, we paid dividends of $2.7 million in fiscal 2006. Because we are committed to returning an increasing amount of our excess capital to our shareholders and anticipate having sufficient free cash flow, beginning with fiscal 2007, we plan to increase our semi-annual dividend from $0.0225 to $0.25 per share. Our first $0.25 dividend was declared by our Board of Directors on July 11, 2006, payable August 8, 2006, to shareholders of record on July 24, 2006. The payment of a dividend in any particular future period and the actual amount thereof remain, however, at the discretion of the Board of Directors and no assurance can be given that dividends will be paid in the future. Additionally, our credit facilities contain certain limitations on the payment of dividends. See "Special Note Regarding Forward-Looking Information" below.
Critical Accounting Policies
Our MD&A is based upon our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to make subjective or complex judgments that may affect the reported financial condition and results of operations. We base our estimates on historical experience and other assumptions that we believe to be reasonable in the circumstances, the results of which form the basis for making judgments about carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We continually evaluate the information used to make these estimates as our business and the economic environment changes.
We believe that of our significant accounting policies, the following may involve a higher degree of judgment and complexity. Our significant accounting policies are more fully described in Note 1 to the Consolidated Financial Statements.
Impairment of Long-Lived Assets
Each quarter we evaluate the carrying value of any individual restaurant when the cash flows of such restaurant have deteriorated and we believe the probability of continued operating and cash flow losses indicate that the net book value of the restaurant may not be recoverable. In performing the review for recoverability, we consider the future cash flows expected to result from the use of the restaurant and its eventual disposition. If the sum of the expected future cash flows (undiscounted and without interest charges) is less than the carrying value of the restaurant, an impairment loss is recognized for the amount by which the net book value of the asset exceeds its fair value. Otherwise, an impairment loss is not recognized. Fair value is based upon estimated discounted future cash flows expected to be generated from continuing use through the expected disposal date and the expected salvage value. In the instance of a potential sale of a restaurant in a refranchising transaction, the expected purchase price is used as the estimate of fair value.
Restaurants open for less than five quarters are considered new and are excluded from our impairment review. We believe this approach provides sufficient time to establish the presence of the restaurant in the market and build a customer base. Approximately 14% of our restaurants have been open for less than five quarters and have not been evaluated for potential impairment.
If a restaurant that has been open for at least five quarters shows negative cash flow results, we prepare a plan to reverse the negative performance. Under our policies, recurring or projected annual negative cash flow signals a potential impairment. Both qualitative and quantitative information are considered when evaluating for potential impairments. In part due to the decision to transition marketing efforts from coupons to television and other similar forms of advertising, quarterly same-restaurant sales for Company-owned Ruby Tuesday restaurants were negative for the five consecutive quarters immediately preceding the second quarter of the current fiscal year. Since that time, same-restaurant sales were positive 1.9%, 4.7%, and 2.9% in the second, third, and fourth quarters of fiscal 2006, respectively.
At June 6, 2006 we had 10 restaurants that have been open more than five quarters with rolling 12 month negative cash flows. Of these 10 restaurants, only five have consistently had an annual negative cash flow amount in excess of $50,000. We recorded impairments on two of these five restaurants during fiscal 2005 and fiscal 2006. The other three restaurants are currently engaged in programs to improve operations, sales and profits. Each of these three restaurants has shown cash flow improvement in each quarter of the current fiscal year. We reviewed the plans to improve cash flows at each of the other five restaurants that have been open more than five quarters with negative cash flows for the 12 months ended June 6, 2006 and concluded that no impairment existed at three of these restaurants. The other two restaurants had previously been impaired. The combined 12-month cash flow loss at the six negative cash flow restaurants for which no impairment had previously been recorded was approximately $0.1 million. Should sales at these six and other restaurants not improve within a reasonable period of time, further impairment charges are possible. Considerable management judgment is necessary to estimate future cash flows, including cash flows from continuing use, terminal value, closure costs, salvage value, and sublease income. Accordingly, actual results could vary significantly from our estimates.
Allowance for Doubtful Notes and Interest Income
We follow a systematic methodology each quarter in our analysis of franchise and other notes receivable in order to estimate losses inherent at the balance sheet date. A detailed analysis of our loan portfolio involves reviewing the following for each significant borrower:
Based on the results of this analysis, the allowance for doubtful notes is adjusted as appropriate. No portion of the allowance for doubtful notes is allocated to guarantees. In the event that collection is deemed to be an issue, a number of actions to resolve the issue are possible, including the purchase of the franchised restaurants by us or a replacement franchisee, modification to the terms of payment of franchise fees or note obligations, or a restructuring of the borrowers debt to better position the borrower to fulfill its obligations.
At June 6, 2006 the allowance for doubtful notes was $5.6 million. Included in the allowance for doubtful notes is $4.8 million allocated to the $20.4 million of debt due from eight franchisees that have either reported coverage ratios below the required levels with certain of their third party debt, or reported ratios above the required levels but for an insufficient amount of time. With the exception of amounts borrowed under the $48 million credit facility for franchise partnerships (see Note 9 to the Consolidated Financial Statements for more information), the third party debt referred to above is not guaranteed by RTI. The Company believes that payments are being made by these franchisees in accordance with the terms of these debts.
We recognize interest income on notes receivable when earned which sometimes precedes collection. A number of our franchise notes have, since the inception of these notes, allowed for the deferral of interest during the first one to three years. With one exception and in accordance with the terms of the note, all franchisees that issued outstanding notes to us are currently paying interest on these notes. It is our policy to cease accruing interest income and recognize interest on a cash basis when we determine that the collection of interest is doubtful. The same analysis noted above for doubtful notes is utilized in determining whether to cease recognizing interest income and thereafter record interest payments on the cash basis.
The Company leases a significant number of its restaurant properties. At the inception of the lease, each property is evaluated to determine whether the lease will be accounted for as an operating or capital lease. The term used for this evaluation includes renewal option periods only in instances in which the exercise of the renewal option can be reasonably assured and failure to exercise such option would result in an economic penalty.
Our lease term used for straight-line rent expense is calculated from the date we take possession of the leased premises through the lease termination date. There is potential for variability in our rent holiday period which begins on the possession date and ends on the restaurant open date. Factors that may affect the length of the rent holiday period generally relate to construction related delays. Extension of the rent holiday period due to delays in restaurant opening will result in greater preopening rent expense recognized during the rent holiday period.
For leases that contain rent escalations, we record the total rent payable during the lease term, as determined above, on the straight-line basis over the term of the lease (including the rent holiday period beginning upon possession of the premises), and records the difference between the minimum rents paid and the straight-line rent as lease obligation.
Certain leases contain provisions that require additional rental payments, called "contingent rents", when the associated restaurants' sales volumes exceed agreed upon levels. We recognize contingent rental expense (in annual as well as interim periods) prior to the achievement of the specified target that triggers the contingent rental expense, provided that achievement of that target is considered probable.
Estimated Liability for Self-Insurance
We self-insure a portion of our current and past losses from workers compensation and general liability claims. We have stop loss insurance for individual claims for workers compensation and general liability in excess of stated loss amounts. Insurance liabilities are recorded based on third party actuarial estimates of the ultimate incurred losses, net of payments made. The estimates themselves are based on standard actuarial techniques that incorporate both the historical loss experience of the Company and supplemental information as appropriate.
The analysis performed in calculating the estimated liability is subject to various assumptions including, but not limited to, (a) the quality of historical loss and exposure information, (b) the reliability of historical loss experience to serve as a predictor of future experience, (c) the reasonableness of insurance trend factors and governmental indices as applied to the Company, and (d) projected payrolls and revenue. As claims develop, the actual ultimate losses may differ from actuarial estimates. Therefore, an analysis is performed quarterly to determine if modifications to the accrual are required.
Income Tax Valuation Allowances and Tax Accruals
We record deferred tax assets for various items. As of June 6, 2006, we have concluded that it is more likely than not that the future tax deductions attributable to our deferred tax assets will be realized and therefore no valuation allowance has been recorded.
As a matter of course, we are regularly audited by federal and state tax authorities. We record appropriate accruals for potential exposures should a taxing authority take a position on a matter contrary to our position. We evaluate these accruals, including interest thereon, on a quarterly basis to ensure that they have been appropriately adjusted for events that may impact our ultimate tax liability.
Recently Issued Accounting Standards
In December 2004, the Financial Accounting Standards Board (FASB) issued FASB Statement No. 123 (revised 2004), Share-Based Payment (FAS 123(R) or the Statement). FAS 123(R) requires that the compensation cost relating to share-based payment transactions, including grants of employee stock options, be recognized in financial statements. That cost will be measured based on the fair value of the equity or liability instruments issued. FAS 123(R) covers a wide range of share-based compensation arrangements including stock options, restricted share plans, performance-based awards, share appreciation rights, and employee share purchase plans.
The Statement is effective for public companies at the beginning of the first fiscal year beginning after June 15, 2005 (fiscal 2007 for RTI). As of the effective date, RTI will apply the Statement using a modified version of prospective application. Under that transition method, compensation cost is recognized for (1) all awards granted after the required effective date and for awards modified, cancelled, or repurchased after that date and (2) the portion of prior awards for which the requisite service has not yet been rendered, based on the grant-date fair value of those awards calculated for either recognition or pro forma disclosures under FAS 123. FAS 123R also requires the benefit of tax deductions in excess of recognized compensation costs to be reported as financing cash flow, rather than an operating cash flow as required under current accounting rules. This requirement will reduce net operating cash flows and increase net financing cash flows in periods after adoption. Total cash flow will remain unchanged from what would have been reported under prior accounting rules.
The amount of compensation expense associated with stock options anticipated to be unvested as of the date of required adoption is $20.0 million. Of this amount $10.6 million is expected to be recognized in fiscal 2007. The remainder will be recognized between fiscal 2008 and fiscal 2010.
The impact of this Statement on RTI in fiscal 2007 and beyond will depend upon various factors, including, but not limited to, our future compensation strategy. In fiscal 2005, the Company restructured its compensation programs to limit eligibility as to which team members can receive share-based compensation. We may further modify grants in fiscal 2007 and forward to include performance or market conditions and/or shift a portion of the share-based compensation to cash-based incentive compensation. Assuming option grants in fiscal 2007 are similar to those in fiscal 2006, the Company estimates that the total impact of FAS 123(R) in fiscal 2007 will be between $0.11 and $0.12 per share on a fully diluted basis. The pro forma compensation costs presented in the table shown in Note 1 to our Consolidated Financial Statements and in our prior filings have been calculated using a Black-Scholes option pricing model, which is the model we plan to use upon adoption of FAS 123(R).
In June 2005, the FASB issued Statement No. 154, Accounting Changes and Error Corrections, a replacement of APB Opinion No. 20, Accounting Changes, and Statement No. 3, Reporting Accounting Changes in Interim Financial Statements (FAS 154). FAS 154 changes the requirements for the accounting for and reporting of a change in accounting principle. Previously, most voluntary changes in accounting principles required recognition of a cumulative effect adjustment within net income in the period of the change. FAS 154 requires retrospective application to prior periods financial statements, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change. FAS 154 is effective for accounting changes made in fiscal years beginning after December 15, 2005; however, it does not change the transition provisions of any existing accounting pronouncements. We do not believe adoption of FAS 154 will have a material effect on our consolidated financial position, results of operations or cash flows.
In October 2005, the FASB issued Staff Position FAS 13-1, Accounting for Rental Costs Incurred during a Construction Period, which requires rental costs associated with ground or building operating leases that are incurred during a construction period to be recognized as rental expense. This Staff Position is effective for reporting periods beginning after December 15, 2005, and retrospective application is permitted but not required. We have historically expensed rent costs incurred during the construction period. Accordingly, Staff Position FAS 13-1 is not expected to have any impact on our consolidated financial statements.
In March 2006, the FASB Emerging Issues Task Force issued Issue 06-3 (EITF 06-3), How Sales Taxes Collected From Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statement. A consensus was reached that a company should disclose its accounting policy (i.e., gross or net presentation) regarding presentation of taxes within the scope of EITF 06-3. If taxes are significant, a company should disclose the amount of such taxes for each period for which an income statement is presented. The guidance is effective for periods beginning
after December 15, 2006. We present Company sales net of sales taxes and therefore do not expect any changes as a result of EITF 06-3.
In July 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxesan interpretation of FASB Statement No. 109 (FIN 48). FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an entitys financial statements in accordance with Statement 109 and prescribes a recognition threshold and measurement attribute for financial statement disclosure of tax positions taken or expected to be taken on a tax return. Additionally, FIN 48 provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006 (fiscal 2008 for RTI), with early adoption permitted. We are currently evaluating whether the adoption of FIN 48 will have a material effect on our consolidated financial position, results of operations or cash flows.
Known Events, Uncertainties and Trends
Financial Strategy and Stock Repurchase Plan
Our financial strategy is to utilize a prudent amount of debt, including operating leases, letters of credit, and any guarantees, to minimize the weighted average cost of capital while allowing financial flexibility and maintaining the equivalent of an investment-grade bond rating. This strategy periodically allows us to repurchase RTI common stock. During the year ended June 6, 2006, we repurchased 7.8 million shares of RTI common stock for a total purchase price of $189.4 million. The total number of remaining shares authorized to be repurchased, as of June 6, 2006, is approximately 5.2 million. This amount reflects a 6.7 million share authorization approved by our Board of Directors on January 5, 2006. To the extent not funded with cash from operating activities and proceeds from stock option exercises, additional repurchases, if any, may be funded by borrowings on the Credit Facility.
Franchising and Development Agreements
Our agreements with franchise partnerships allow us to purchase an additional 49% equity interest for a specified price. We have chosen to exercise that option in situations in which we expect to earn a return similar to or better than that which we expect when we invest in new restaurants. During fiscal 2006 and fiscal 2005, we did not exercise our right to acquire an additional 49% equity interest in any franchise partnerships. We currently have a 1% ownership in seven of our 18 franchise partnerships which collectively operated 47 Ruby Tuesday restaurants at June 6, 2006.
Those same agreements with the franchise partnerships allow us to purchase all remaining equity interests beyond the 1% or 50% we already own, for an amount to be calculated based upon a predetermined valuation formula. On July 12, 2006, we acquired the remaining 50% partnership interests of RT Orlando bringing our equity interest in that franchise to 100%. At the time of acquisition RT Orlando operated 17 Ruby Tuesday restaurants.
We expect to sell two existing operating restaurants, and lease a third, to an existing 50%-owned franchise partnership early in fiscal 2007.
We may choose to sell existing restaurants or exercise our rights to acquire an additional equity interest in franchise partnerships in fiscal 2007 and beyond. See "Special Note Regarding Forward-Looking Information" below.
RTIs fiscal 2007 will contain 52 weeks and end on June 5, 2007. Fiscal year 2006 contained 53 weeks, while fiscal years 2004 and 2005 each contained 52 weeks.
Impact of Inflation
The impact of inflation on the cost of food, labor, supplies, utilities, real estate and construction costs could adversely impact our operating results. Historically, we have been able to recover inflationary cost increases through increased menu prices coupled with more efficient purchasing practices and productivity improvements. Competitive pressures may limit our ability to completely recover such cost increases. Historically, the effect of inflation has not significantly impacted our net income.
We continue to strategically position the Company for growth through the continuing emphasis on our Ruby Tuesday brand and our franchise programs. Our mission can best be described as Quality. Passion. Pride. By remaining intently focused on delivering products representing uncompromising quality and freshness, and empowering our teams with a passion to take great care of our guests and pride in their work and our company, we believe we will be able to accomplish our mission. Our strategies to drive future value are to: (1) get more out of existing assets, (2) invest wisely in new restaurants, and (3) maintain the right capital structure to create value for our shareholders. We believe that these strategies support our goal to grow EPS in the 12.5% to 15% range per year long term, while providing for our commitment to return excess capital to our shareholders. As part of that commitment, we plan to increase our semi-annual dividend from $0.0225 cents per share to $0.25 per share beginning with Fiscal 2007. As previously discussed, the first such dividend was declared by our Board of Directors on July 11, 2006.
Our goals are to increase same-restaurant sales on average 3-5% per year and increase average unit volumes by $100,000 per year. Our current sales strategies designed to help us attain those goals are to: (1) enhance our salad bar display with new lettuce choices and more fresh offerings of vegetables and salads, (2) increase our focus on uncompromising freshness and quality through new and/or improved menu offerings, (3) increase off-premise sales through continued emphasis on the existing take-out business and rolling out a new catering program, and (4) upgrading our quality beverage program through fresher, higher quality ingredients, recipes, glassware, training, designated bar managers and technology. Despite these programs, we don't anticipate achieving our same-restaurant sales growth goal in fiscal 2007 due to reductions in consumer spending in our current economy. We believe the above-mentioned programs will help mitigate any negative impact of this economic downturm and ultimately help us achieve our same-restaurant sales goals.
In the franchising area, as part of our longer-term plan to increase our Company-owned growth in the eastern United States, we anticipate continuing to explore the benefits of acquiring some of our franchisees in that area as well as selected additional areas. As previously mentioned, we bought the remaining 50% membership interests of RT Orlando early in Fiscal 2007. We continue to look for potential new, primarily traditional, franchisees in targeted areas in the United States and around the world. As RTIs franchise system continues to shift towards traditional franchise arrangements, we expect that the level of financial support to be provided through programs such as the $48.0 million franchise partner credit facility will be reduced. See "Special Note Regarding Forward-Looking Information" below.
The foregoing section contains various forward-looking statements, which represent the Companys expectations or beliefs concerning future events, including one or more of the following: future financial performance and restaurant growth (both Company-owned and franchised), future capital expenditures, future borrowings and repayment of debt, payment of dividends, stock repurchase, and restaurant and franchise acquisitions. The Company cautions the reader that a number of important factors and uncertainties could, individually or in the aggregate, cause actual results to differ materially from those included in the forward-looking statements, including, without limitation, the following: changes in promotional, couponing and advertising strategies; guests acceptance of changes in menu items; changes in our guests disposable income; consumer spending trends and habits; mall-traffic trends; increased competition in the restaurant market; weather conditions in the regions in which Company-owned and franchised restaurants are operated; guests acceptance of the Companys development prototypes; laws and regulations affecting labor and employee benefit costs; costs and availability of food and beverage inventory; the Companys ability to attract qualified managers, franchisees and team members; changes in the availability and cost of capital; impact of adoption of new accounting standards; effects of actual or threatened future terrorist attacks in the United States; significant fluctuations in energy prices; and general economic conditions.
Item 7A. Quantitative and Qualitative
Disclosure About Market Risk
We are exposed to market risk from fluctuations in interest rates and changes in commodity prices. The interest rate charged on our Credit Facility can vary based on the interest rate option we choose to utilize. Our options for the rate are the Base Rate or LIBO Rate plus an applicable margin. The Base Rate is defined to be the higher of the issuing banks prime lending rate or the Federal Funds rate plus 0.5%. The applicable margin for the LIBO Rate-based option is a percentage ranging from 0.625% to 1.25%. As of June 6, 2006, the total amount of outstanding debt subject to interest rate fluctuations was $217.4 million. A hypothetical 100 basis point change in short-term interest rates would result in an increase or decrease in interest expense of $2.2 million per year, assuming a consistent capital structure.
Many of the ingredients used in the products we sell in our restaurants are commodities that are subject to unpredictable price volatility. This volatility may be due to factors outside our control such as weather and seasonality. We attempt to minimize the effect of price volatility by negotiating fixed price contracts for the supply of key ingredients. Historically, and subject to competitive market conditions, we have been able to mitigate the negative impact of price volatility through adjustments to average check or menu mix.
Item 8. Financial Statements and Supplementary Data
Ruby Tuesday, Inc. and Subsidiaries
Index to Consolidated Financial Statements
Ruby Tuesday, Inc. and Subsidiaries
Consolidated Balance Sheets
(In thousands, except per-share data)
The accompanying notes are an integral part of the consolidated financial statements.
Ruby Tuesday, Inc. and Subsidiaries
Consolidated Statements of Shareholders Equity
and Comprehensive Income
(In thousands, except per-share data)