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Wendy's International 10-K 2007
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549


FORM 10-K
(MARK ONE)

 

 

 

S

 

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

FOR THE FISCAL YEAR ENDED DECEMBER 31, 2006.
OR

 

 

 

£

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

 

 

FOR THE TRANSITION PERIOD FROM                    TO                    .

COMMISSION FILE NUMBER 1-2207


TRIARC COMPANIES, INC.
(Exact Name of Registrant as Specified in its Charter)


 

 

 

Delaware
(State or other Jurisdiction of
Incorporation or Organization)

 

38-0471180
(I.R.S. Employer
Identification No.)

280 Park Avenue
New York, New York

(Address of Principal Executive Offices)

 

10017
(Zip Code)

Registrant’s Telephone Number, Including Area Code: (212) 451-3000


Securities Registered Pursuant to Section 12(b) of the Act:

 

 

 

Title of Each Class

 

Name of Each Exchange
on Which Registered

Class A Common Stock, $.10 par value

 

New York Stock Exchange

Class B Common Stock, Series 1, $.10 par value

 

New York Stock Exchange

Securities Registered Pursuant to Section 12(g) of the Act:

None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. S Yes £ No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934. £ Yes S No

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. S Yes £ No

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. S

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):

 

 

 

 

 

Large accelerated filer S

 

 

 

Accelerated filer £

   

 

 

Non-accelerated filer £

 

Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2). £ Yes S No

The aggregate market value of the registrant’s common equity held by non-affiliates of the registrant as of June 30, 2006 was approximately $984,464,928. As of February 15, 2007, there were 28,850,672 shares of the registrant’s Class A Common Stock and 63,762,190 shares of the registrant’s Class B Common Stock, Series 1, outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

The information required by Part III of this Form 10-K, to the extent not set forth herein, is incorporated herein by reference from the registrant’s definitive proxy statement to be filed with the Securities and Exchange Commission pursuant to Regulation 14A not later than 120 days after December 31, 2006.




PART 1
Special Note Regarding Forward-Looking Statements and Projections

Certain statements in this Annual Report on Form 10-K, including statements under “Item 1. Business” and “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations,” that are not historical facts, including, most importantly, information concerning possible or assumed future results of operations of Triarc Companies, Inc. and its subsidiaries, and statements preceded by, followed by, or that include the words “may,” “believes,” “plans,” “expects,” “anticipates,” or the negation thereof, or similar expressions, constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. All statements that address operating performance, events or developments that are expected or anticipated to occur in the future, including statements relating to revenue growth, earnings per share growth or statements expressing general optimism about future operating results, are forward-looking statements within the meaning of the Reform Act. The forward-looking statements contained in this Form 10-K are based on our current expectations, speak only as of the date of this Form 10-K and are susceptible to a number of risks, uncertainties and other factors. Our actual results, performance and achievements may differ materially from any future results, performance or achievements expressed or implied by such forward-looking statements. For all of our forward-looking statements, we claim the protection of the safe harbor for forward-looking statements contained in the Reform Act. Many important factors could affect our future results and could cause those results to differ materially from those expressed in or implied by the forward-looking statements contained herein. Such factors, all of which are difficult or impossible to predict accurately and many of which are beyond our control, include, but are not limited to, the following:

 

 

 

 

competition, including pricing pressures and the potential impact of competitors’ new units on sales by Arby’s restaurants;

 

 

 

 

consumers’ perceptions of the relative quality, variety, affordability and value of the food products we offer;

 

 

 

 

success of operating initiatives;

 

 

 

 

development costs, including real estate and construction costs;

 

 

 

 

advertising and promotional efforts by us and our competitors;

 

 

 

 

consumer awareness of the Arby’s brand;

 

 

 

 

the existence or absence of positive or adverse publicity;

 

 

 

 

new product and concept development by us and our competitors, and market acceptance of such new product offerings and concepts;

 

 

 

 

changes in consumer tastes and preferences, including changes resulting from concerns over nutritional or safety aspects of beef, poultry, french fries or other foods or the effects of food-borne illnesses such as “mad cow disease” and avian influenza or “bird flu”;

 

 

 

 

changes in spending patterns and demographic trends, such as the extent to which consumers eat meals away from home;

 

 

 

 

adverse economic conditions, including high unemployment rates, in geographic regions that contain a high concentration of Arby’s restaurants;

 

 

 

 

the business and financial viability of key franchisees;

 

 

 

 

the timely payment of franchisee obligations due to us;

 

 

 

 

availability, location and terms of sites for restaurant development by us and our franchisees;

 

 

 

 

the ability of our franchisees to open new restaurants in accordance with their development commitments, including the ability of franchisees to finance restaurant development;

 

 

 

 

delays in opening new restaurants or completing remodels;

 

 

 

 

the timing and impact of acquisitions and dispositions of restaurants;

 

 

 

 

our ability to successfully integrate acquired restaurant operations;

 

 

 

 

anticipated or unanticipated restaurant closures by us and our franchisees;

1


 

 

 

 

our ability to identify, attract and retain potential franchisees with sufficient experience and financial resources to develop and operate Arby’s restaurants successfully;

 

 

 

 

changes in business strategy or development plans, and the willingness of our franchisees to participate in our strategies and operating initiatives;

 

 

 

 

business abilities and judgment of our and our franchisees’ management and other personnel;

 

 

 

 

availability of qualified restaurant personnel to us and to our franchisees, and our and our franchisees’ ability to retain such personnel;

 

 

 

 

our ability, if necessary, to secure alternative distribution of supplies of food, equipment and other products to Arby’s restaurants at competitive rates and in adequate amounts, and the potential financial impact of any interruptions in such distribution;

 

 

 

 

changes in commodity (including beef and chicken), labor, supply, distribution and other operating costs;

 

 

 

 

availability and cost of insurance;

 

 

 

 

adverse weather conditions;

 

 

 

 

significant reductions in our client assets under management (which would reduce our advisory fee revenue), due to such factors as weak performance of our investment products (either on an absolute basis or relative to our competitors or other investment strategies), substantial illiquidity or price volatility in the fixed income instruments that we trade, loss of key portfolio management or other personnel (or lack of availability of additional key personnel if needed for expansion), reduced investor demand for the types of investment products we offer, loss of investor confidence due to adverse publicity, and non-renewal or early termination of investment management agreements;

 

 

 

 

increased competition from other asset managers offering products similar to those we offer;

 

 

 

 

pricing pressure on the advisory fees that we can charge for our investment advisory services;

 

 

 

 

difficulty in increasing assets under management, or efficiently managing existing assets, due to market-related constraints on trading capacity, inability to hire the necessary additional personnel or lack of potentially profitable trading opportunities;

 

 

 

 

our removal as investment manager of one or more of the collateral debt obligation vehicles (CDOs) or other accounts we manage, or the reduction in our CDO management fees because of payment defaults by issuers of the underlying collateral or the triggering of certain structural protections built into CDOs;

 

 

 

 

availability, terms (including changes in interest rates) and effective deployment of capital;

 

 

 

 

changes in legal or self-regulatory requirements, including franchising laws, investment management regulations, accounting standards, environmental laws, overtime rules, minimum wage rates and taxation rates;

 

 

 

 

the costs, uncertainties and other effects of legal, environmental and administrative proceedings;

 

 

 

 

the impact of general economic conditions on consumer spending or securities investing, including a slower consumer economy and the effects of war or terrorist activities; and

 

 

 

 

other risks and uncertainties affecting us and our subsidiaries referred to in this Form 10-K (see especially “Item 1A. Risk Factors” and “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations”) and in our other current and periodic filings with the Securities and Exchange Commission.

All future written and oral forward-looking statements attributable to us or any person acting on our behalf are expressly qualified in their entirety by the cautionary statements contained or referred to in this section. New risks and uncertainties arise from time to time, and it is impossible for us to predict these events or how they may affect us. We assume no obligation to update any forward-looking statements after the date of this Form 10-K as a result of new information, future events or developments, except as required by federal securities laws. In addition, it is our policy generally not to make any specific projections as to future earnings, and we do not endorse any projections regarding future performance that may be made by third parties.

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Item 1. Business.

Introduction

We are a holding company and, through our subsidiaries, we are currently the franchisor of the Arby’s restaurant system and the owner of approximately 94% of the voting interests, approximately 64% of the capital interests and at least 52% of the profits interests in Deerfield & Company LLC (Deerfield), an asset management firm. The Arby’s restaurant system is comprised of approximately 3,600 restaurants, of which, as of December 31, 2006, 1,061 were owned and operated by our subsidiaries. References in this Form 10-K to restaurants that we “own” or that are “company-owned” include owned and leased restaurants as well as two restaurants managed pursuant to management agreements. Deerfield, through its wholly-owned subsidiary Deerfield Capital Management LLC, is a Chicago-based asset manager offering a diverse range of fixed income and credit-related strategies to institutional investors with approximately $13.2 billion under management as of December 31, 2006. Our corporate predecessor was incorporated in Ohio in 1929. We reincorporated in Delaware in June 1994. Our principal executive offices are located at 280 Park Avenue, New York, New York 10017 and our telephone number is (212) 451-3000. We make our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to such reports, available, free of charge, on our website as soon as reasonably practicable after such reports are electronically filed with, or furnished to, the Securities and Exchange Commission. Our website address is www.triarc.com. Information contained on our website is not part of this Form 10-K.

Business Strategy; Potential Corporate Restructuring

The key elements of our business strategy have included (1) using our resources to grow our restaurant and asset management businesses, (2) evaluating and making various acquisitions and business combinations, whether in the restaurant industry, the asset management industry or other industries, (3) building strong operating management teams for each of our businesses and (4) providing strategic leadership and financial resources to enable these management teams to develop and implement specific, growth-oriented business plans. The implementation of this business strategy may result in increases in expenditures for, among other things, acquisitions and, over time, marketing and advertising. See “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Unless circumstances dictate otherwise, it is our policy to publicly announce an acquisition or business combination only after an agreement with respect to such acquisition or business combination has been reached.

We are continuing to explore a possible corporate restructuring that is expected to involve the disposition of our asset management operations, whether through a sale of our ownership interest in Deerfield, a spin-off of our ownership interest in Deerfield to our stockholders or such other means as our board of directors may conclude would be in the best interests of our stockholders. Any such corporate restructuring is currently expected to, and any other form of corporate restructuring could, involve Nelson Peltz, our Chairman and Chief Executive Officer, Peter W. May, our President and Chief Operating Officer, Edward P. Garden, our Vice Chairman, and certain other senior officers and employees of Triarc no longer being officers and employees of Triarc, in which case it is expected that Triarc would be led by the current management team of Arby’s. In connection with the potential restructuring, in addition to our regular quarterly dividends, in 2006 we declared and paid special cash dividends aggregating $0.45 per share on each outstanding share of our Class A Common Stock and Class B Common Stock, Series 1. The special cash dividends were paid in three installments of $0.15 per share on each of March 1, July 14 and December 20, 2006. Options for our remaining non-restaurant net assets are also under review and could include the allocation of these net assets between our two businesses (Arby’s and Deerfield) and/or additional special dividends or distributions to our stockholders.

Depending on the nature of the restructuring, various arrangements relating to the affected businesses could be necessary, the cost of which has not been determined. Among other things, we have employment agreements and severance arrangements with certain of our executive officers and corporate employees. If we proceed with a restructuring, we would incur significant severance or contractual settlement payments under these agreements and arrangements, which would result in Triarc being relieved of its long-term obligations under the employment agreements. In the case of Messrs. Peltz and May, the amount of such payments would be subject to negotiation and approval by a special committee comprised of independent members of our board of directors, which is considering these matters. There can be no assurance that a corporate restructuring will occur or the form, terms or timing of such restructuring if it does occur. Our board of directors has not reached any definitive conclusions concerning the form, scope, benefits or timing of the corporate restructuring.

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On November 1, 2005, Messrs. Peltz, May and Garden (collectively, the Principals) started a series of equity investment funds (the Funds) that are separate and distinct from Triarc and that are being managed by the Principals and certain other senior officers and employees of Triarc (the Employees) through a management company (the Management Company) formed by the Principals. The investment strategy of the Funds is to achieve capital appreciation by investing in equity securities of publicly traded companies and effecting positive change through active hands-on influence and involvement. In contrast, Deerfield is an asset manager focusing on fixed income and credit-related strategies with approximately $13.2 billion of assets under management as of December 31, 2006, none of which was invested in equity securities of publicly traded companies. Before agreeing to acquire more than 50% of the outstanding securities of a company in the quick service restaurant segment in which Arby’s operates, the Principals have agreed to offer us such acquisition opportunity.

The Principals and Employees continue to serve as officers and employees of, and receive compensation from, Triarc. Triarc is making available the services of the Principals and the Employees, as well as certain support services including investment research, legal, accounting and administrative services, to the Management Company. The length of time that these management services will be provided has not yet been determined. Triarc is being reimbursed by the Management Company for the allocable cost of these services, including an allocable portion of base salaries, rent and various overhead costs for periods both before and after the launch of the Funds. Such allocated costs amounted to $4.3 million for the year ended December 31, 2006. In addition, certain of the incentive compensation paid by Triarc to Messrs. Peltz and May and all of the incentive compensation paid by Triarc to Mr. Garden and the Employees reflects an allocation of their time between the services that they provided in 2006 to Triarc and to the Management Company. As a result of this allocation, Triarc reduced its incentive compensation expense in 2006 by an aggregate of approximately $7.4 million. A special committee comprised of independent members of our board of directors has reviewed and considered the support service arrangements and allocations, and the Compensation Committee and the Performance Compensation Subcommittee, as applicable, have approved the amounts of the incentive compensation paid by Triarc to the Principals and the Employees.

At December 31, 2006, our consolidated indebtedness was approximately $720.0 million, including approximately $709.0 million of debt of our restaurant subsidiaries. The debt of our restaurant subsidiaries has neither been guaranteed by Triarc nor secured by Triarc’s cash, cash equivalents or investments.

Fiscal Year

We use a 52/53 week fiscal year convention for Triarc and most of our subsidiaries whereby our fiscal year ends each year on the Sunday that is closest to December 31 of that year. Each fiscal year generally is comprised of four 13 week fiscal quarters, although in some years one quarter represents a 14 week period. Deerfield reports on a calendar year basis.

Business Segments

Restaurant Franchising and Operations (Arby’s)

The Arby’s Restaurant System

Through Arby’s Restaurant Group, Inc. (ARG) and its subsidiaries, we participate in the quick service restaurant segment of the restaurant industry as the franchisor of the Arby’s restaurant system and, as of December 31, 2006, the owner and operator of 1,061 Arby’s restaurants. We acquired our company-owned Arby’s restaurants principally through the acquisitions of Sybra, Inc. in December 2002 and the RTM Restaurant Group in July 2005. We acquire additional company-owned restaurants from time to time through acquisitions as well as the

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development and construction of new restaurants. There are approximately 3,600 Arby’s restaurants in the United States and Canada and Arby’s is the largest restaurant franchising system specializing in the roast beef sandwich segment of the quick service restaurant industry. According to Nation’s Restaurant News, Arby’s is the 12th largest quick service restaurant chain in the United States. As of December 31, 2006, there were 1,061 company-owned Arby’s restaurants and 2,524 Arby’s restaurants owned by 473 franchisees. Of the 2,524 franchisee owned restaurants, 2,397 operated within the United States and 127 operated outside the United States.

ARG also owns the T.J. Cinnamons® concept, which consists of gourmet cinnamon rolls, gourmet coffees and other related products, and the Pasta Connection® concept, which includes pasta dishes with a variety of different sauces. As of December 31, 2006, there were a total of 256 T.J. Cinnamons outlets, 233 of which are multi-branded with domestic Arby’s restaurants, and nine Pasta Connection outlets, all of which are multi- branded with domestic Arby’s restaurants. ARG is not currently offering to sell any additional Pasta Connection franchises. As of December 31, 2006, ARG also owned and operated one Arby’s Market Fresh® unit. Developed as a test design, the Arby’s Market Fresh unit features an expansion of Arby’s successful Market Fresh® line of premium sandwiches and salads within an in-line shopping center.

In addition to various slow-roasted roast beef sandwiches, Arby’s offers an extensive menu of chicken, turkey and ham sandwiches, side dishes and salads. In 2001, Arby’s introduced its Market Fresh line of premium sandwiches on a nationwide basis. Since its introduction, the Arby’s Market Fresh line has grown to include fresh salads made with premium ingredients such as fresh apples, dried cranberries, corn salsa and black beans. Arby’s also offers Market Fresh wrap sandwiches with the same ingredients as its Market Fresh sandwiches inside a tortilla wrap.

During the first quarter of 2006, Arby’s replaced its entire line of chicken products with Arby’s Chicken Naturals®, a line of menu offerings made with 100 percent all natural chicken breast that is not altered or injected with added water, salt or phosphates. In the fourth quarter of 2006, Arby’s began serving french fries with zero grams of trans fat. To accomplish this, Arby’s worked with its french fry suppliers to eliminate the use of hydrogenated oil during the par-frying process at the supplier level, allowing Arby’s to become the first national quick service restaurant chain to announce the elimination of trans fat oils in french fries from supplier to restaurant. That transition is expected to be fully implemented in all domestic Arby’s locations by the end of the second quarter of 2007.

During 2006, ARG opened 35 new Arby’s restaurants and two Arby’s Market Fresh test restaurants and closed ten generally underperforming Arby’s restaurants, two underperforming Arby’s Market Fresh test restaurants and two T.J. Cinnamons outlets located in Arby’s units. In addition, ARG acquired 13 existing Arby’s restaurants from its franchisees and sold 16 of its company-owned restaurants to new or existing franchisees. During 2006, Arby’s franchisees opened 94 new Arby’s restaurants and closed 40 generally underperforming Arby’s restaurants. In addition, during 2006, Arby’s franchisees opened six and closed 13 T.J. Cinnamons outlets located in Arby’s units, and franchisees closed an additional 15 T.J. Cinnamons outlets located outside of Arby’s units. As of December 31, 2006, franchisees have committed to open 295 Arby’s restaurants over the next six years. You should read the information contained in “Item 1A. Risk Factors–Our restaurant business is significantly dependent on new restaurant openings, which may be affected by factors beyond our control.”

Overview

As the franchisor of the Arby’s restaurant system, ARG, through its subsidiaries, owns and licenses the right to use the Arby’s brand name and trademarks in the operation of Arby’s restaurants. ARG provides Arby’s franchisees with services designed to increase both the revenue and profitability of their Arby’s restaurants. The more important of these services are providing strategic leadership for the brand, product development, quality control, operational training and counseling regarding site selection.

The revenues from our restaurant business are derived from three principal sources: (1) franchise royalties received from all Arby’s franchised restaurants; (2) up-front franchise fees from restaurant operators for each new unit opened; and (3) sales at company-owned restaurants.

References herein to “ARG” may include one or more of ARG’s subsidiaries, as applicable.

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Arby’s Restaurants

Arby’s opened its first restaurant in Boardman, Ohio in 1964. As of December 31, 2006, ARG and Arby’s franchisees operated Arby’s restaurants in 48 states, the District of Columbia and four foreign countries. As of December 31, 2006, the six leading states by number of operating units were: Ohio, with 288 restaurants; Michigan, with 191 restaurants; Indiana, with 175 restaurants; Florida, with 175 restaurants; Texas, with 156 restaurants; and Georgia, with 153 restaurants. The country outside the United States with the most operating units is Canada with 118 restaurants as of December 31, 2006.

Arby’s restaurants in the United States and Canada typically range in size from 2,500 square feet to 3,000 square feet. At December 31, 2006, approximately 98% of freestanding system-wide restaurants (including approximately 99% of freestanding company-owned restaurants) featured drive-thru windows. Restaurants typically have a manager, at least one assistant manager and as many as 30 full and part-time employees. Staffing levels, which vary during the day, tend to be heaviest during the lunch hours.

The following table sets forth the number of Arby’s restaurants at the beginning and end of each year from 2004 to 2006:

 

 

 

 

 

 

 

 

 

2004

 

2005

 

2006

Restaurants open at beginning of period

 

 

 

3,450

   

 

 

3,461

   

 

 

3,506

 

Restaurants opened during period

 

 

 

94

   

 

 

101

   

 

 

131

 

Restaurants closed during period

 

 

 

83

   

 

 

56

   

 

 

52

 

 

 

 

 

 

 

 

Restaurants open at end of period

 

 

 

3,461

   

 

 

3,506

   

 

 

3,585

 

 

 

 

 

 

 

 

During the period from December 29, 2003 through December 31, 2006, 326 new Arby’s restaurants were opened and 191 generally underperforming Arby’s restaurants were closed. We believe that closing underperforming Arby’s restaurants has contributed to an increase in the average annual unit sales volume of the Arby’s system, as well as to an improvement of the overall brand image of Arby’s.

As of December 31, 2006, ARG owned or operated 1,061 domestic Arby’s restaurants. Of these 1,061 restaurants, 1,021 were freestanding units, 24 were in shopping malls, 5 were in office buildings/urban in-line locations, 4 were in convenience stores, 4 were in travel plazas and 3 were in strip center locations.

Franchise Network

ARG seeks to identify potential franchisees that have experience in owning and operating quick service restaurant units, have a willingness to develop and operate Arby’s restaurants and have sufficient net worth. ARG identifies applicants through its website, targeted mailings, maintaining a presence at industry trade shows and conventions, existing customer and supplier contacts and regularly placed advertisements in trade and other publications. Prospective franchisees are contacted by an ARG sales agent and complete an application for a franchise. As part of the application process, ARG requires and reviews substantial documentation, including financial statements and documents relating to the corporate or other business organization of the applicant. Franchisees that already operate one or more Arby’s restaurants must satisfy certain criteria in order to be eligible to enter into additional franchise agreements, including capital resources commensurate with the proposed development plan submitted by the franchisee, a commitment by the franchisee to employ trained restaurant management and to maintain proper staffing levels, compliance by the franchisee with all of its existing franchise agreements, a record of operation in compliance with Arby’s operating standards, a satisfactory credit rating and the absence of any existing or threatened legal disputes with Arby’s. The initial term of the typical “traditional” franchise agreement is 20 years.

ARG currently does not offer any financing arrangements to franchisees seeking to build new franchised units. In 2006, ARG terminated a program offered through CIT Group to provide remodel financing to Arby’s franchisees, with ARG having no financial obligations under the program. ARG continues to evaluate potential new financial programs to assist franchisees in remodeling existing Arby’s restaurants.

As of December 31, 2006, Canadian franchisees have committed to open two Arby’s restaurants over the next two years. During 2006, one new Arby’s unit was opened in Canada and four Arby’s units in Canada were closed. During 2006, no other Arby’s units were opened or closed outside the United States.

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ARG offers franchises for the development of both single and multiple “traditional” restaurant locations. Both new and existing franchisees may enter into either a development agreement, which requires the franchisee to develop two or more Arby’s restaurants in a particular geographic area within a specified time period, or a license option agreement that grants the franchisee the option, exercisable for a one year period, to build an Arby’s restaurant on a specified site. All franchisees are required to execute standard franchise agreements. ARG’s standard U.S. franchise agreement for new Arby’s franchises currently requires an initial $37,500 franchise fee for the first franchised unit and $25,000 for each subsequent unit and a monthly royalty payment equal to 4.0% of restaurant sales for the term of the franchise agreement. Franchisees typically pay a $10,000 commitment fee, which is credited against the franchise fee during the development process for a new restaurant. Because of lower royalty rates still in effect under earlier agreements, the average royalty rate paid by U.S. franchisees was approximately 3.5% in 2004 and 2005 and 3.6% in 2006.

Franchised restaurants are required to be operated under uniform operating standards and specifications relating to the selection, quality and preparation of menu items, signage, decor, equipment, uniforms, suppliers, maintenance and cleanliness of premises and customer service. ARG monitors franchisee operations and inspects restaurants periodically to ensure that company practices and procedures are being followed.

Acquisitions and Dispositions of Arby’s Restaurants

As part of ARG’s continuous efforts to enhance the Arby’s brand, grow the Arby’s system and improve Arby’s system operations, ARG from time to time acquires or sells individual or multiple Arby’s restaurants. ARG may use such transactions as a way of further developing a targeted market. For example, ARG may sell a number of restaurants in a particular market to a franchisee and obtain a commitment from the franchisee to develop additional restaurants in that market. Or, ARG may acquire restaurants from a franchisee demonstrating a limited desire to grow and then seek to further penetrate that market through the development of additional company-owned restaurants. ARG believes that dispositions of multiple restaurants at once can also be an effective strategy for attracting new franchisees who seek to be multiple unit operators with the opportunity to benefit from economies of scale. In addition, ARG may acquire restaurants from a franchisee who wishes to exit the Arby’s system. When ARG acquires underperforming restaurants, it seeks to improve their results of operations and then either continues to operate them as company-owned restaurants or re-sells them to new or existing franchisees.

Advertising and Marketing

Arby’s advertises nationally on several cable television networks. In addition, from time to time, Arby’s will sponsor a nationally televised event or participate in a promotional tie-in for a movie. Locally, Arby’s primarily advertises through regional network and cable television, radio and newspapers. The AFA Service Corporation (the AFA), an independent membership corporation in which every domestic Arby’s franchisee is required to participate, was formed to create advertising and perform marketing for the Arby’s system. The AFA is funded primarily through member contributions. ARG and Arby’s franchisees contribute 0.7% of net sales of their domestic Arby’s restaurants to the AFA. ARG and Arby’s franchisees are also required to contribute incremental dues to the AFA equal to 0.5% of net sales of their domestic Arby’s restaurants to help fund national advertising programs (bringing their total contribution to the AFA for advertising and marketing to 1.2% of net sales).

Effective October 2005, ARG and the AFA entered into a Management Agreement that ARG believes enables a closer working relationship between ARG and the AFA, allows for improved collaboration on strategic marketing decisions and creates certain operational efficiencies, thus benefiting the Arby’s system as a whole. Pursuant to the Management Agreement, ARG assumed general responsibility for the day-to-day operations of the AFA, including preparing annual operating budgets, developing the brand marketing strategy and plan, recommending advertising agencies and media buying agencies, and implementing all marketing/media plans. ARG performs these tasks subject to the approval of the AFA’s Board of Directors. In addition to these responsibilities, ARG is obligated to pay for the general and administrative costs of the AFA, other than the cost of an annual audit of the AFA and certain other expenses specifically retained by the AFA. ARG incurred expenses of approximately $6.5 million to cover the AFA’s general and administrative costs for 2006, a portion of which was offset by the AFA’s payment of $2.5 million to ARG, as required under the Management Agreement. The AFA is required to pay an additional $1.5 million and $500,000 to ARG in

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2007 and 2008, respectively, to defray a portion of these costs. Beginning in 2009 and for each year thereafter, the AFA will no longer be required to make any such payments to ARG. Under the Management Agreement, ARG is also required to provide the AFA with appropriate office space at no cost to the AFA. The Management Agreement with the AFA continues in effect until terminated by either party upon one year’s prior written notice. In addition, the AFA may terminate the Management Agreement upon six months’ prior written notice if there is a change in the identity of any two of the individuals holding the titles of Chief Executive Officer, Chief Operating Officer or Chief Administrative Officer of ARG in any period of 36 months.

In addition to their contributions to the AFA, ARG and Arby’s franchisees are also required to spend a reasonable amount, but not less than 3% of net sales of their Arby’s restaurants, for local advertising. This amount is divided between (i) individual local market advertising expenses and (ii) expenses of a cooperative area advertising program. Contributions to the cooperative area advertising program, in which both company- owned and franchisee-owned restaurants participate, are determined by the local cooperative participants and are generally in the range of 3% to 6.5% of net sales.

In December 2006, Arby’s announced that in 2007 it will be a primary sponsor of Roush Racing’s NASCAR® team led by driver Matt Kenseth and his #17 Ford® race car in 13 Busch® Series events and one Nextel Cup® Series event. The Arby’s/NASCAR relationship will be supported through national and local television advertising, radio, print, in-store merchandising and the Arby’s website.

Provisions and Supplies

As of December 31, 2006, two independent meat processors supplied all of Arby’s beef for roasting in the United States. Franchise operators are required to obtain beef for roasting from these approved suppliers. ARCOP, Inc., a not-for-profit purchasing cooperative, negotiates contracts with approved suppliers on behalf of ARG and Arby’s franchisees. Suppliers to the Arby’s system must comply with United States Department of Agriculture (“USDA”) and United States Food and Drug Administration (“FDA”) regulations governing the manufacture, packaging, storage, distribution and sale of all food and packaging products.

Franchisees may obtain other products, including food, ingredients, paper goods, equipment and signs, from any source that meets ARG’s specifications and approval. Through ARCOP, ARG and Arby’s franchisees purchase food, beverage, proprietary paper and operating supplies under national contracts employing volume purchasing.

Quality Assurance

ARG has developed a quality assurance program designed to maintain standards and the uniformity of menu offerings at all Arby’s restaurants. ARG assigns a quality assurance employee to each of the independent facilities that process beef for domestic Arby’s restaurants. The quality assurance employee inspects the beef for quality and uniformity and to assure compliance with quality and safety requirements of the USDA and the FDA. In addition, ARG periodically evaluates randomly selected samples of beef and other products from its supply chain. Each year, ARG representatives conduct unannounced inspections of operations of a number of franchisees to ensure that ARG policies, practices and procedures are being followed. ARG field representatives also provide a variety of on-site consulting services to franchisees. ARG has the right to terminate franchise agreements if franchisees fail to comply with quality standards.

Trademarks

ARG, through its subsidiaries, owns several trademarks that we consider to be material to our restaurant business, including Arby’s®, Arby’s Market Fresh®, Market Fresh®, T.J. Cinnamons®, Horsey Sauce® , Sidekickers® and Arby’s Chicken Naturals®.

ARG’s material trademarks are registered in the U.S. Patent and Trademark Office and various foreign jurisdictions. Our registrations for such trademarks in the United States will last indefinitely as long as ARG continues to use and police the trademarks and renew filings with the applicable governmental offices. There are no pending challenges to ARG’s right to use any of its material trademarks in the United States.

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Competition

Arby’s faces direct and indirect competition from numerous well-established competitors, including national and regional non-burger sandwich chains, such as Panera Bread®, Subway® and Quiznos®, as well as hamburger chains, such as McDonald’s®, Burger King® and Wendy’s®, and other quick service restaurant chains, such as Taco Bell®, Chick-Fil-A® and Kentucky Fried Chicken®. In addition, Arby’s competes with locally owned restaurants, drive-ins, diners and other similar establishments. Key competitive factors in the quick service restaurant industry are price, quality of products, quality and speed of service, advertising, name identification, restaurant location and attractiveness of facilities. Arby’s also competes within the food service industry and the quick service restaurant sector not only for customers, but also for personnel, suitable real estate sites and qualified franchisees.

Many of the leading restaurant chains have focused on new unit development as one strategy to increase market share through increased consumer awareness and convenience. This has led to increased competition for available development sites and higher development costs for those sites. This has also led some competitors to employ other strategies, including frequent use of price discounting and promotions and heavy advertising expenditures. Continued price discounting in the quick service restaurant industry and the re-emphasis on value menus could have an adverse impact on us. In addition, the growth of fast casual chains and other in-line competitors could cause some fast food customers to “trade up” to a more traditional dining out experience while keeping the benefits of quick service dining.

Other restaurant chains have also competed by offering higher quality sandwiches made with fresh ingredients and artisan breads. Several chains have also sought to compete by targeting certain consumer groups, such as capitalizing on trends toward certain types of diets (e.g., low carbohydrate or low trans fat) by offering menu items that are specifically identified as being consistent with such diets.

Additional competitive pressures for prepared food purchases have recently come from operators outside the restaurant industry. Several major grocery chains now offer fully prepared food and meals to go as part of their deli sections. Some of these chains also have in-store cafes with service counters and tables where consumers can order and consume a full menu of items prepared especially for that portion of the operation. Additionally, convenience stores and retail outlets at gas stations frequently offer sandwiches and other foods.

Many of our competitors have substantially greater financial, marketing, personnel and other resources than we do.

Governmental Regulations

Various state laws and the Federal Trade Commission regulate ARG’s franchising activities. The Federal Trade Commission requires that franchisors make extensive disclosure to prospective franchisees before the execution of a franchise agreement. Several states require registration and disclosure in connection with franchise offers and sales and have “franchise relationship laws” that limit the ability of franchisors to terminate franchise agreements or to withhold consent to the renewal or transfer of these agreements. In addition, ARG and Arby’s franchisees must comply with the federal Fair Labor Standards Act and the Americans with Disabilities Act (the ADA), which requires that all public accommodations and commercial facilities meet federal requirements related to access and use by disabled persons, and various state and local laws governing matters that include, for example, the handling, preparation and sale of food and beverages, minimum wages, overtime and other working and safety conditions. Compliance with the ADA requirements could require removal of access barriers and non-compliance could result in imposition of fines by the U.S. government or an award of damages to private litigants. As described more fully under “Item 3. Legal Proceedings,” one of ARG’s subsidiaries was a defendant in a lawsuit alleging failure to comply with Title III of the ADA at approximately 775 company-owned restaurants acquired as part of the July 2005 acquisition of the RTM Restaurant Group. Under a court approved settlement of that lawsuit, we estimate that ARG will spend approximately $1.0 million per year of capital expenditures over an eight-year period beginning in 2007 to bring these restaurants into compliance with the ADA, in addition to paying certain legal fees and expenses.

We do not believe that the costs related to this matter or any other costs relating to compliance with the ADA will have a material adverse effect on the Company’s consolidated financial position or results of operations. We cannot predict the effect on our operations, particularly on our relationship with franchisees, of any pending or future legislation.

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Asset Management (Deerfield)

Overview

Deerfield Capital Management LLC (DCM) is a Chicago-based asset manager that offers clients a variety of investment products focused on fixed income securities and related financial instruments. DCM is a Delaware limited liability company that is wholly owned by Deerfield & Company LLC (Deerfield), an Illinois limited liability company. Deerfield also wholly owns Deerfield Capital Management (Europe) Ltd. (DCM Europe), a United Kingdom company formed in 2006 that provides investment advisory services related to European collaterized debt obligation vehicles (CDOs) managed by DCM. We own an approximate 64% capital interest, a profits interest of at least 52% and approximately 94% of the outstanding voting interests in Deerfield, which we acquired in July 2004. DCM (together with its predecessor companies) has acted as an asset manager since 1993 and has been registered with the Securities and Exchange Commission (the SEC) as an investment adviser since 1997. As of December 31, 2006, Deerfield had approximately $13.2 billion of assets under management.

Investment Management Services and Products

DCM’s current focus is on managing investments in fixed income instruments such as government securities, corporate bonds, bank loans and asset-backed securities. DCM manages these investments for various types of clients, including CDOs, private investment funds (usually referred to as “hedge” funds), a publicly traded real estate investment trust (the REIT), a structured loan fund, and managed accounts (separate, non- pooled accounts established by clients). Except for the managed accounts, these clients are collective investment vehicles that pool the capital contributions of multiple investors, which are typically U.S. and non-U.S. high net worth individuals and financial institutions, such as insurance companies, employee benefits plans and “funds of funds” (investment funds that in turn allocate their assets to a variety of other investment funds). Because the REIT’s shares are publicly-traded, its investors include retail investors, and DCM might in the future manage other publicly-traded investment products that are available to such investors. DCM is organized into distinct portfolio management teams, each of which focuses on a different category of investments. For example, CDOs that invest in bank loans are managed by DCM’s bank loan team. The portfolio management teams are supported by various other groups within DCM, such as risk management, systems, accounting, operations and legal. DCM enters into an investment management agreement with each client, pursuant to which the client grants DCM discretion to purchase and sell securities and other financial instruments without the client’s prior authorization of the transaction.

Investment Strategies

The various investment strategies that DCM uses to manage client accounts are developed internally by DCM and include fundamental credit research (such as for the CDOs) and arbitrage trading techniques (such as for some of the hedge funds). Arbitrage trading generally involves seeking to generate trading profits from changes in the price relationships between related financial instruments rather than from “directional” price movements in particular instruments. Arbitrage trading typically involves the use of substantial leverage, through borrowing of funds, to increase the size of the market position being taken and therefore the potential return on the investment. DCM intends to expand its asset management activities by offering new trading strategies and investment products, which may require the hiring of additional portfolio management and support personnel. The investment accounts managed by DCM are generally considered “alternative” as distinguished from “traditional” fixed income programs.

Assets Under Management

As of December 31, 2006, the total assets under management by DCM were approximately $13.2 billion, consisting of approximately $11.2 billion in 24 CDOs and a structured loan fund, $855.7 million in three hedge funds, $764.7 million in the REIT, and $331.6 million in six managed accounts.

Of the 24 CDOs, 11 (representing approximately $4 billion in assets under management) are invested mainly in bank loans, two (representing approximately $763.7 million in assets under management) are invested mainly in investment grade corporate bonds, and seven (representing approximately $6.4 billion in assets under management) are invested mainly in asset-backed securities (such as mortgage-backed securities).

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The structured loan fund (representing approximately $210.7 million in assets under management) is invested mainly in bank loans. Of the three hedge funds, DCM manages one fund (representing approximately $737.4 million in assets under management) mainly pursuant to arbitrage strategies, one fund (representing approximately $113.4 million in assets under management) mainly pursuant to a “flight to quality” strategy, and one fund (representing approximately $8.2 million in assets under management) mainly pursuant to global macro strategies. The arbitrage and flight to quality strategy hedge funds invest mainly in government securities and related instruments, such as interest rate swaps and futures contracts. The global macro fund invests in various instruments, such as options, currencies, fixed income instruments and futures contracts.

Advisory Fees

DCM’s revenue consists predominantly of investment advisory fees from the accounts it manages. DCM receives a periodic management fee from each account that generally is based on the net assets of the account. This fee ranges from approximately 0.10% to 0.50% per year of the net principal balance for CDOs, 1.5% per year of net assets for hedge funds, 1.75% per year of net assets for the REIT, 0.50% per year of net assets for the structured loan fund, and 0.15% to 0.30% per year of net assets for the managed accounts. DCM is also entitled to a performance fee from many of its accounts, generally based upon a percentage of the annual net profits generated by the account (in the case of the hedge funds) or the returns to certain investors (in the case of the CDOs). DCM also receives from certain CDOs a structuring fee, which is a one-time fee for DCM’s services in assisting in structuring the CDO, payable upon formation of the CDO. DCM receives its advisory fees pursuant to investment management agreements entered into with its clients. The terms of these agreements vary, ranging from contracts that are continuous but terminable by the client to those that have terms ranging from one to three years subject to renewal upon expiration of the initial terms. In general, these agreements are terminable by the clients, in most cases only for cause but in some instances without cause.

Under DCM’s investment management agreement with the REIT, at the end of the initial term of the agreement (which occurs on December 31, 2007) or at the end of any one-year renewal term thereafter, DCM can be removed as manager by a vote of at least two-thirds of the REIT’s independent directors or holders of at least a majority of the outstanding common stock of the REIT based upon unsatisfactory performance that is materially detrimental to the REIT or a determination that the management fees payable to DCM are not fair (subject to DCM’s right to prevent such a termination by accepting a reduction of management fees that at least two-thirds of the REIT’s independent directors determine to be fair). During 2006, DCM generated approximately 22% of its revenue from managing the REIT.

Marketing

DCM markets its CDO and REIT management services to institutions that organize and act as selling or placement agents for CDOs and REITs. DCM markets its hedge fund and separate account management services directly to existing and prospective investors in the hedge funds and separate accounts. DCM also markets its services through presentations to investment advisory consultants to pension plans and other institutional investors. DCM’s asset management services are marketed privately rather than through general advertising or solicitation.

Competition

The principal markets for DCM’s asset management services are high net worth individual and institutional investors that wish to allocate a portion of their investment capital to alternative fixed income asset management strategies. DCM competes for such clients with numerous other asset managers, some of which (like DCM) concentrate on fixed income instruments and others that are more diversified. The factors considered by clients in choosing DCM or a competing asset management firm include the past performance of the accounts managed by the firm, the background and experience of its key portfolio management personnel, its reputation in the fixed income asset management industry, its advisory fees, and the structural features of the investment products (such as CDOs and hedge funds) that it offers. Some of DCM’s competitors have greater portfolio management resources than DCM, have managed client accounts for longer periods of time or have other competitive advantages over DCM.

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Governmental Regulations

DCM is registered with the SEC as an investment adviser and with the U.S. Commodity Futures Trading Commission as a commodity pool operator and commodity trading advisor. DCM is also a member of the National Futures Association, the self-regulatory organization for the U.S. commodity futures industry. In these capacities, DCM is subject to various regulatory requirements and restrictions with respect to its asset management activities (in addition to other laws), such as regulations relating to promotional materials, the custody of client funds, allocation of investment opportunities among client accounts, recordkeeping, supervision, the establishment of compliance procedures, investing in securities by DCM employees, conflicts of interest, the prevention of money laundering, and ethical standards. In addition, investment vehicles managed by DCM, such as hedge funds and the REIT, are subject to various securities and other laws.

In 2006, Deerfield formed DCM Europe, a United Kingdom-based subsidiary, in order to expand DCM’s overseas business. DCM Europe is subject to significant regulation by the United Kingdom Financial Services Authority under the U.K. Financial Services and Markets Act of 2000.

While DCM believes that it and the investment vehicles it manages are substantially in compliance with all applicable regulatory and other legal requirements, DCM and such investment vehicles may incur significant additional costs to comply with such requirements and any additional requirements that may be imposed in the future. However, we do not believe that any such cost increase would materially affect the Company’s consolidated financial position or results of operations.

Other Services

In connection with its management of client investment vehicles, DCM typically provides other services to those vehicles in addition to investment advice, such as selecting the brokerage firms and counterparties through which the vehicles conduct their investing and assisting the vehicles in obtaining the financing needed to leverage their investing. Also, DCM provides day-to-day administrative services to the REIT in addition to managing its investment portfolio.

Intellectual Property

We have developed rights in the trademarks and trade names “Deerfield” and “Deerfield Capital Management”, which we consider to be material to our business. We have licensed the “Triarc” and “Deerfield” names to the REIT on a non-exclusive basis. Under our license agreement with the REIT, these licenses may be terminated if an affiliate of Triarc or Deerfield, as applicable, ceases to serve as investment manager of the REIT.

General

Environmental Matters

Our past and present operations are governed by federal, state and local environmental laws and regulations concerning the discharge, storage, handling and disposal of hazardous or toxic substances. These laws and regulations provide for significant fines, penalties and liabilities, sometimes without regard to whether the owner or operator of the property knew of, or was responsible for, the release or presence of the hazardous or toxic substances. In addition, third parties may make claims against owners or operators of properties for personal injuries and property damage associated with releases of hazardous or toxic substances. We cannot predict what environmental legislation or regulations will be enacted in the future or how existing or future laws or regulations will be administered or interpreted. We similarly cannot predict the amount of future expenditures that may be required to comply with any environmental laws or regulations or to satisfy any claims relating to environmental laws or regulations. We believe that our operations comply substantially with all applicable environmental laws and regulations. Accordingly, the environmental matters in which we are involved generally relate either to properties that our subsidiaries own, but on which they no longer have any operations, or properties that we or our subsidiaries have sold to third parties, but for which we or our subsidiaries remain liable or contingently liable for any related environmental costs. Our company-owned Arby’s restaurants have not been the subject of any material environmental matters. Based on currently available information, including defenses available to us and/or our subsidiaries, and our current reserve levels,

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we do not believe that the ultimate outcome of the environmental matter discussed below or in which we are otherwise involved will have a material adverse effect on our consolidated financial position or results of operations. See “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” below.

In 2001, a vacant property owned by Adams Packing Association, Inc. (Adams Packing), an inactive subsidiary of ours, was listed by the United States Environmental Protection Agency on the Comprehensive Environmental Response, Compensation and Liability Information System, which we refer to as CERCLIS, list of known or suspected contaminated sites. The CERCLIS listing appears to have been based on an allegation that a former tenant of Adams Packing conducted drum recycling operations at the site from some time prior to 1971 until the late 1970s. The business operations of Adams Packing were sold in December 1992. In February 2003, Adams Packing and the Florida Department of Environmental Protection, which we refer to as the Florida DEP, agreed to a consent order that provided for development of a work plan for further investigation of the site and limited remediation of the identified contamination. In May 2003, the Florida DEP approved the work plan submitted by Adams Packing’s environmental consultant and the work under that plan has been completed. Adams Packing submitted its contamination assessment report to the Florida DEP in March 2004. In August 2004, the Florida DEP agreed to a monitoring plan consisting of two sampling events, which occurred in January and June 2005, and the results were submitted to the Florida DEP for its review. In November 2005, Adams Packing received a letter from the Florida DEP identifying certain open issues with respect to the property. The letter did not specify whether any further actions are required to be taken by Adams Packing and Adams Packing has sought clarification from, and continues to expect to have additional conversations with, the Florida DEP in order to attempt to resolve the matter. Based on provisions made prior to 2005 of approximately $1.7 million for costs associated with this matter, and after taking into consideration various legal defenses available to us, including Adams Packing, Adams Packing has provided for its estimate of its remaining liability for completion of this matter. Accordingly, this matter is not expected to have a material adverse effect on our consolidated financial position or results of operations. See “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations—Legal and Environmental Matters.”

Seasonality

Our consolidated results are not significantly impacted by seasonality. However, our restaurant revenues are somewhat lower in our first quarter. Further, while our asset management business is not directly affected by seasonality, our asset management revenues likely will be higher in our fourth quarter as a result of our revenue recognition accounting policy for incentive fees related to certain funds managed by Deerfield, which fees are usually based upon calendar year performance and are recognized when the amounts become fixed and determinable upon the close of a performance fee measurement period.

Employees

As of December 31, 2006, we had a total of 24,372 employees, including 2,573 salaried employees and 21,799 hourly employees. Of these, 69 are employed by Triarc, 24,155 are employed by ARG and 148 are employed by Deerfield. As of December 31, 2006, none of our employees was covered by a collective bargaining agreement. We believe that our employee relations are satisfactory.

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Item 1A. Risk Factors.

We wish to caution readers that in addition to the important factors described elsewhere in this Form 10-K, the following important factors, among others, sometimes have affected, or in the future could affect, our actual results and could cause our actual consolidated results during 2007, and beyond, to differ materially from those expressed in any forward-looking statements made by us or on our behalf.

Risks Related to Triarc

A substantial amount of our shares of Class A Common Stock and Class B Common Stock is concentrated in the hands of certain stockholders.

As of February 15, 2007, Nelson Peltz, our Chairman and Chief Executive Officer, and Peter May, our President and Chief Operating Officer, beneficially owned shares of our outstanding Class A Common Stock and Class B Common Stock, Series 1, that collectively constituted approximately 36.8% of our Class A Common Stock, 21.5% of our Class B Common Stock and 34.0% of our total voting power.

Messrs. Peltz and May may from time to time acquire additional shares of Class A Common Stock, including by exchanging some or all of their shares of Class B Common Stock for shares of Class A Common Stock. Additionally, we may from time to time repurchase shares of Class A Common Stock or Class B Common Stock. Such transactions could result in Messrs. Peltz and May together owning more than a majority of our outstanding voting power. If that were to occur, Messrs. Peltz and May would be able to determine the outcome of the election of members of our board of directors and the outcome of corporate actions requiring majority stockholder approval, including mergers, consolidations and the sale of all or substantially all of our assets. They would also be in a position to prevent or cause a change in control of us. In addition, to the extent we issue additional shares of our Class B Common Stock for acquisitions, financings or compensation purposes, such issuances would not proportionally dilute the voting power of existing stockholders, including Messrs. Peltz and May.

Our success depends substantially upon the continued retention of certain key personnel.

We believe that over time our success has been dependent to a significant extent upon the efforts and abilities of our and our subsidiaries’ senior management teams. The failure by us to retain members of our and/or our subsidiaries’ senior management teams could adversely affect our ability to build on the efforts we have undertaken to increase the efficiency and profitability of our businesses. Specifically, in the event a corporate restructuring is not completed, the loss of Nelson Peltz, our Chairman and Chief Executive Officer, or Peter May, our President and Chief Operating Officer, or other members of our senior management team could adversely affect us.

We are continuing to explore a possible corporate restructuring that is expected to involve the disposition of our asset management operations, whether through a sale of our ownership interest in Deerfield, a spin-off of our ownership interest in Deerfield to our stockholders or such other means as our board of directors may conclude would be in the best interests of our stockholders. If the corporate restructuring is completed, it is currently anticipated that Triarc would be renamed Arby’s and would be led by ARG’s current Chief Executive Officer, Roland Smith, and the remainder of ARG’s management team. Following the corporate restructuring, although Messrs. Peltz and May will continue to be large stockholders and directors of Arby’s, it is currently expected that they and other members of our existing senior management team would no longer be involved as senior executives of Arby’s and the success of the Arby’s business would depend to a significant extent upon the efforts and abilities of Arby’s senior management team. See “Item 1. Business—Business Strategy; Potential Corporate Restructuring.”

Equity investment funds started by the Principals may create a conflict of interests between the Funds and us.

On November 1, 2005, the Principals started the Funds, which are separate and distinct from us and are being managed by the Principals and the Employees through the Management Company. Although the Principals and the Employees continue to serve as officers and employees of, and receive compensation from, us, we are making the services of the Principals and the Employees available to the Management Company. Consequently, the Principals and the Employees are no longer providing their services exclusively to us. Triarc

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is being reimbursed by the Management Company for the allocable cost of these and other support services being made available to the Management Company. The arrangement by which the Principals and the Employees provide these services was reviewed and considered by a special committee comprised of independent directors of our board of directors. See “Item 1. Business—Business Strategy; Potential Corporate Restructuring.”

The investment strategy of the Funds is to achieve capital appreciation by investing in equity securities of publicly traded companies and effecting positive change through active hands-on influence and involvement. In contrast, Deerfield is an asset manager focusing on fixed income and credit-related strategies with approximately $13.2 billion of assets under management as of December 31, 2006, none of which was invested in equity securities of publicly traded companies. Although neither the Funds nor Deerfield currently plans to change its investment strategy, a change in investment strategy by either party in the future may create conflicts of interest between the Funds and us. The Funds have invested and may continue to invest from time to time in companies that compete with Arby’s or Deerfield. In addition, while the Principals have agreed to offer us the opportunity to acquire more than 50% of the outstanding securities of a company in the quick service restaurant segment, if we decline to exercise such opportunity, the Funds could consummate such an acquisition.

We have broad discretion in the use of our cash, cash equivalents and investments.

As of December 31, 2006, we had $327.0 million of cash and cash equivalents, restricted cash equivalents, investments other than investments held in deferred compensation trusts and receivables from sales of investments, net of liabilities related to investments. The foregoing amounts do not reflect regular quarterly cash dividends of $0.08 per share on our Class A Common Stock and $0.09 per share on our Class B Common Stock that were declared on February 1, 2007 and are scheduled to be paid on March 15, 2007 in the aggregate amount of approximately $8.0 million. We have not otherwise designated any specific use for our cash, cash equivalents and investment position. In connection with the potential corporate restructuring, in addition to expected significant severance or contractual settlement payments, options for our remaining non-restaurant net assets are under review and could include the allocation of such assets between our businesses (Arby’s and Deerfield) and/or additional special dividends or distributions to our stockholders.

Acquisitions have been a key element of our business strategy, but we cannot assure you that we will be able to identify appropriate acquisition targets in the future and that we will be able to successfully integrate any future acquisitions into our existing operations.

Acquisitions involve numerous risks, including difficulties assimilating new operations and products. In addition, acquisitions may require significant management time and capital resources. We cannot assure you that we will have access to the capital required to finance potential acquisitions on satisfactory terms, that any acquisition would result in long-term benefits to us or that management would be able to manage effectively the resulting business. Future acquisitions, if any, are likely to result in the incurrence of additional indebtedness, which could contain restrictive covenants, or the issuance of additional equity securities, which could dilute our existing stockholders.

We cannot assure you that our proposed corporate restructuring will be successfully implemented.

We are continuing to explore the feasibility, as well as the risks and opportunities, of a possible corporate restructuring that is expected to involve the disposition of our asset management operations, whether through a sale of our ownership interest in Deerfield, a spin-off of our ownership interest in Deerfield to our stockholders or such other means as our board of directors may conclude would be in the best interests of our stockholders. There can be no assurance that the corporate restructuring will occur or the form, terms or timing of such restructuring if it does occur. Our failure to implement these transactions timely and economically could materially increase our costs and impair our results of operations. Even if the restructuring is completed, there can be no assurance that the expected benefits to Triarc and its stockholders would be realized.

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Our investment of excess funds may be subject to risk, particularly due to use of leverage and the riskiness of underlying assets.

From time to time we place our excess cash in investment funds managed by third parties (including the Management Company). Some of these funds use substantial leverage in their trading, including through the use of borrowed funds, total return swaps and/or other derivatives. The use of leverage generates various risks, including the exacerbation of losses, increased interest expense in the case of leverage through borrowing, and exposure to counterparty risk in the case of leverage through derivatives. However, volatility in the value of a fund is a function not only of the amount of leverage employed but also of the riskiness of the underlying investments. Therefore, the greater the amount of leverage used by a fund and the greater the riskiness of a fund’s underlying assets, the greater the risk associated with our investment in such fund.

In the future, we may have to take actions that we would not otherwise take so as not to be subject to tax as a “personal holding company.”

If at any time during the last half of our taxable year, five or fewer individuals own or are deemed to own more than 50% of the total value of our shares and if during such taxable year we receive 60% or more of our gross income, as specially adjusted, from specified passive sources, we would be classified as a “personal holding company” for U.S. federal income tax purposes. If this were the case, we would be subject to additional taxes at the rate of 15% on a portion of our income, to the extent this income is not distributed to stockholders. We do not currently expect to have any liability in 2007 for tax under the personal holding company rules. However, we cannot assure you that we will not become liable for such tax in the future. Because we do not wish to be classified as a personal holding company or to incur any personal holding company tax, we may be required in the future to take actions that we would not otherwise take. These actions may influence our strategic and business decisions, including causing us to conduct our business and acquire or dispose of investments differently than we otherwise would.

Our certificate of incorporation contains certain anti-takeover provisions and permits our board of directors to issue preferred stock and additional series of Class B Common Stock without stockholder approval.

Certain provisions in our certificate of incorporation are intended to discourage or delay a hostile takeover of control of us. Our certificate of incorporation authorizes the issuance of shares of “blank check” preferred stock and additional series of Class B Common Stock, which will have such designations, rights and preferences as may be determined from time to time by our board of directors. Accordingly, our board of directors is empowered, without stockholder approval, to issue preferred stock and/or Class B Common Stock with dividend, liquidation, conversion, voting or other rights that could adversely affect the voting power and other rights of the holders of our Class A Common Stock and Class B Common Stock, Series 1. The preferred stock and additional series of Class B Common Stock could be used to discourage, delay or prevent a change in control of us that is determined by our board of directors to be undesirable. Although we have no present intention to issue any shares of preferred stock or additional series of Class B Common Stock, we cannot assure you that we will not do so in the future.

Risks Related to Arby’s

Our restaurant business is significantly dependent on new restaurant openings, which may be affected by factors beyond our control.

Our restaurant business derives earnings from sales at company-owned restaurants, franchise royalties received from all Arby’s restaurants and up-front fees from restaurant operators for each new unit opened. Growth in our restaurant revenues and earnings is significantly dependent on new restaurant openings. Numerous factors beyond our control may affect restaurant openings. These factors include but are not limited to:

 

 

 

 

our ability to attract new franchisees;

 

 

 

 

the availability of site locations for new restaurants;

 

 

 

 

the ability of potential restaurant owners to obtain financing;

 

 

 

 

the ability of restaurant owners to hire, train and retain qualified operating personnel;

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the availability of construction materials and labor;

 

 

 

 

construction and development costs of new restaurants, particularly in highly-competitive markets;

 

 

 

 

the ability of restaurant owners to secure required governmental approvals and permits in a timely manner, or at all; and

 

 

 

 

adverse weather conditions.

Although as of December 31, 2006, franchisees had signed commitments to open 295 Arby’s restaurants over the next six years and have made or are required to make non-refundable deposits of $10,000 per restaurant, we cannot assure you that franchisees will meet these commitments and that they will result in open restaurants. See “Item 1. Business—Business Segments—Restaurant Franchising and Operations (Arby’s)—Franchise Network.”

Arby’s franchisees could take actions that could harm our business.

Arby’s franchisees are contractually obligated to operate their restaurants in accordance with the standards ARG sets in its agreements with them. ARG also provides training and support to franchisees. However, franchisees are independent third parties that ARG does not control, and the franchisees own, operate and oversee the daily operations of their restaurants. As a result, the ultimate success and quality of any franchise restaurant rests with the franchisee. If franchisees do not successfully operate restaurants in a manner consistent with ARG’s standards, the Arby’s image and reputation could be harmed, which in turn could hurt ARG’s business and operating results.

ARG’s success depends on Arby’s franchisees’ participation in ARG’s strategy.

Arby’s franchisees are an integral part of ARG’s business. ARG may be unable to successfully implement ARG’s brand strategies that it believes are necessary for further growth if Arby’s franchisees do not participate in that implementation. The failure of ARG’s franchisees to focus on the fundamentals of restaurant operations such as quality, service and cleanliness would have a negative impact on ARG’s success.

ARG’s financial results are affected by the financial results of Arby’s franchisees.

ARG receives revenue in the form of royalties and fees from Arby’s franchisees, which are generally based on a percentage of sales at franchised restaurants. Accordingly, a substantial portion of ARG’s financial results is to a large extent dependent upon the operational and financial success of Arby’s franchisees, including their implementation of ARG’s strategic plans. If sales trends or economic conditions worsen for Arby’s franchisees, their financial results may worsen and ARG’s collection rates may decline. When ARG divests company-owned restaurants, ARG is often required to remain responsible for lease payments for these restaurants to the extent that the relevant franchisees default on their leases. Additionally, if Arby’s franchisees fail to renew their franchise agreements, or if ARG is required to restructure its franchise agreements in connection with such renewal, it would result in decreased revenues for ARG.

ARG may be unable to manage effectively its strategy of acquiring and disposing of Arby’s restaurants, which could adversely affect ARG’s business and financial results.

ARG’s strategy of acquiring Arby’s restaurants from franchisees and eventually “re-franchising” these restaurants by selling them to new or existing franchisees is dependent upon the availability of sellers and buyers as well as ARG’s ability to negotiate transactions on terms that ARG deems acceptable. In addition, the operations of restaurants that ARG acquires may not be integrated successfully, and the intended benefits of such transactions may not be realized. Acquisitions of Arby’s restaurants pose various risks to ARG’s on-going operations, including:

 

 

 

 

diversion of management attention to the integration of acquired restaurant operations;

 

 

 

 

increased operating expenses and the inability to achieve expected cost savings and operating efficiencies;

 

 

 

 

exposure to liabilities arising out of sellers’ prior operations of acquired restaurants; and

 

 

 

 

incurrence or assumption of debt to finance acquisitions or improvements and/or the assumption of long-term, non-cancelable leases.

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In addition, engaging in acquisitions and dispositions places increased demands on ARG’s operational, financial and management resources and may require ARG to continue to expand these resources. If ARG is unable to manage the acquisition and disposition strategy effectively, its business and financial results could be adversely affected.

ARG does not exercise ultimate control over advertising and purchasing for the Arby’s restaurant system, which could hurt sales and the Arby’s brand.

Arby’s franchisees control the provision of national advertising and marketing services to the Arby’s franchise system through AFA Service Corporation (the AFA), a company controlled by Arby’s franchisees. Subject to ARG’s right to protect its trademarks, and except to the extent that ARG participates in the AFA through its company-owned restaurants, the AFA has the right to approve all significant decisions regarding the national marketing and advertising strategies and the creative content of advertising for the Arby’s system. Although ARG has entered into a management agreement pursuant to which ARG, on behalf of the AFA, manages the day-to-day operations of the AFA, many areas are still subject to ultimate approval by the AFA’s independent board of directors and the management agreement may be terminated by either party for any reason upon one year’s prior notice. See “Item 1. Business—Business Segments—Restaurant Franchising and Operations (Arby’s)—Advertising and Marketing.” In addition, local cooperatives run by operators of Arby’s restaurants in a particular local area (including ARG) make their own decisions regarding local advertising expenditures, subject to spending the required minimum amounts. ARG’s lack of control over advertising could hurt sales and the Arby’s brand.

In addition, although ARG ensures that all suppliers to the Arby’s system meet quality control standards, Arby’s franchisees control the purchasing of food, proprietary paper, equipment and other operating supplies from such suppliers through ARCOP, Inc., a not-for-profit entity controlled by Arby’s franchisees. ARCOP negotiates national contracts for such food, equipment and supplies. ARG is entitled to appoint one representative on the board of directors of ARCOP and participate in ARCOP through its company-owned restaurants, but otherwise does not control the decisions and activities of ARCOP except to ensure that all suppliers satisfy Arby’s quality control standards. If ARCOP does not properly estimate the needs of the Arby’s system with respect to one or more products, makes poor purchasing decisions, or decides to cease its operations, system sales and operating costs could be adversely affected and the financial condition of ARG or the financial condition of Arby’s franchisees could be hurt.

Shortages or interruptions in the supply or delivery of perishable food products could damage the Arby’s brand reputation and adversely affect ARG’s operating results.

ARG and Arby’s franchisees are dependent on frequent deliveries of perishable food products that meet ARG’s specifications. Shortages or interruptions in the supply of perishable food products caused by unanticipated demand, problems in production or distribution, disease or food-borne illnesses, inclement weather or other conditions could adversely affect the availability, quality and cost of ingredients, which would likely lower ARG’s revenues, damage Arby’s reputation and otherwise harm ARG’s business.

Additional instances of mad cow disease or other food-borne illnesses, such as bird flu or salmonella, could adversely affect the price and availability of beef, poultry or other meats and create negative publicity, which could result in a decline in sales.

Instances of mad cow disease or other food-borne illnesses, such as bird flu, salmonella, e-coli or hepatitis A, could adversely affect the price and availability of beef, poultry or other meats, including if additional incidents cause consumers to shift their preferences to other meats. As a result, Arby’s restaurants could experience a significant increase in food costs if there are additional instances of mad cow disease or other food-borne illnesses.

In addition to losses associated with higher prices and a lower supply of our food ingredients, instances of food-borne illnesses could result in negative publicity for Arby’s. This negative publicity, as well as any other negative publicity concerning food products Arby’s serves, may reduce demand for Arby’s food and could result in a decrease in guest traffic to Arby’s restaurants. A decrease in guest traffic to Arby’s restaurants as a result of these health concerns or negative publicity could result in a decline in sales at company-owned restaurants or in ARG’s royalties from sales at franchised restaurants.

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Changes in consumer tastes and preferences and in discretionary consumer spending could result in a decline in sales at company-owned restaurants and in the royalties that ARG receives from franchisees.

The quick service restaurant industry is often affected by changes in consumer tastes, national, regional and local economic conditions, discretionary spending priorities, demographic trends, traffic patterns and the type, number and location of competing restaurants. ARG’s success depends to a significant extent on discretionary consumer spending, which is influenced by general economic conditions and the availability of discretionary income. Accordingly, ARG may experience declines in sales during economic downturns. Any material decline in the amount of discretionary spending or a decline in family food-away-from-home spending could hurt ARG’s revenues, results of operations, business and financial condition.

In addition, if company-owned and franchised restaurants are unable to adapt to changes in consumer preferences and trends, ARG and Arby’s franchisees may lose customers and the resulting revenues from company-owned restaurants and the royalties that ARG receives from its franchisees may decline.

Changes in food and supply costs could harm ARG’s results of operations.

ARG’s profitability depends in part on its ability to anticipate and react to changes in food and supply costs. Any increase in food prices, especially that of beef or chicken, could harm ARG’s operating results. While fuel price increases have increased the costs of transportation and distribution generally, ARG’s commodity prices have largely been unaffected by these distribution cost increases in 2006 due to purchase contracts for commodities, which are managed by ARCOP, that have allowed only limited increases for distribution costs. As these contracts expire and are replaced in 2007, ARG expects to experience more variability in its commodity prices. In addition, ARG is susceptible to increases in food costs as a result of other factors beyond its control, such as weather conditions, food safety concerns, product recalls and government regulations. For example, increased demand for ethanol as a fuel alternative has increased the cost of corn, which is also used as feed in the production of beef and chicken. Therefore, increases in the cost of corn could increase ARG’s food costs and harm its operating results. ARG cannot predict whether it will be able to anticipate and react to changing food costs by adjusting its purchasing practices and menu prices, and a failure to do so could adversely affect ARG’s operating results. In addition, ARG may not seek to or be able to pass along price increases to its customers.

Competition from other restaurant companies could hurt ARG.

The market segments in which company-owned and franchised Arby’s restaurants compete are highly competitive with respect to, among other things, price, food quality and presentation, service, location, and the nature and condition of the restaurant facility. Arby’s restaurants compete with a variety of locally-owned restaurants, as well as competitive regional and national chains and franchises. Several of these chains compete by offering high quality sandwiches and/or menu items that are targeted at certain consumer groups. Additionally, many of our competitors have introduced lower cost, value meal menu options. ARG’s revenues and those of Arby’s franchisees may be hurt by this product and price competition.

Moreover, new companies, including operators outside the quick service restaurant industry, may enter Arby’s market areas and target Arby’s customer base. For example, additional competitive pressures for prepared food purchases have come from deli sections and in-store cafes of several major grocery store chains, as well as from convenience stores and casual dining outlets. Such competitors may have, among other things, lower operating costs, lower debt service requirements, better locations, better facilities, better management, more effective marketing and more efficient operations. All such competition may adversely affect ARG’s revenues and profits by reducing revenues of company-owned restaurants and royalty payments from franchised restaurants. Many of ARG’s competitors have substantially greater financial, marketing, personnel and other resources than ARG, which may allow them to react to changes in pricing and marketing strategies in the quick service restaurant industry better than ARG can.

Current Arby’s restaurant locations may become unattractive, and attractive new locations may not be available for a reasonable price, if at all.

The success of any restaurant depends in substantial part on its location. There can be no assurance that current Arby’s locations will continue to be attractive as demographic patterns change. Neighborhood or

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economic conditions where Arby’s restaurants are located could decline in the future, thus resulting in potentially reduced sales in those locations. In addition, rising real estate prices, particularly in the Northeastern region of the U.S., may restrict the ability of ARG or Arby’s franchisees to purchase or lease new desirable locations. If desirable locations cannot be obtained at reasonable prices, ARG’s ability to effect its growth strategies will be adversely affected.

ARG’s business could be hurt by increased labor costs or labor shortages.

Labor is a primary component in the cost of operating our company-owned restaurants. ARG devotes significant resources to recruiting and training its managers and hourly employees. Increased labor costs due to competition, increased minimum wage or employee benefits costs or other factors would adversely impact ARG’s cost of sales and operating expenses. In addition, ARG’s success depends on its ability to attract, motivate and retain qualified employees, including restaurant managers and staff. If ARG is unable to do so, its results of operations may be hurt.

ARG’s leasing and ownership of significant amounts of real estate exposes it to possible liabilities and losses, including liabilities associated with environmental matters.

As of December 31, 2006, ARG leased or owned the land and/or the building for over 1,000 Arby’s restaurants. Accordingly, ARG is subject to all of the risks associated with leasing and owning real estate. In particular, the value of our real property assets could decrease, and ARG’s costs could increase, because of changes in the investment climate for real estate, demographic trends, supply or demand for the use of the restaurants, which may result from competition from similar restaurants in the area, and liability for environmental matters.

ARG is subject to federal, state and local environmental, health and safety laws and regulations concerning the discharge, storage, handling, release and disposal of hazardous or toxic substances. These environmental laws provide for significant fines, penalties and liabilities, sometimes without regard to whether the owner, operator or occupant of the property knew of, or was responsible for, the release or presence of the hazardous or toxic substances. Third parties may also make claims against owners, operators or occupants of properties for personal injuries and property damage associated with releases of, or actual or alleged exposure to, such substances. A number of ARG’s restaurant sites were formerly gas stations or are adjacent to current or former gas stations, or were used for other commercial activities that can create environmental impacts. ARG may also acquire or lease these types of sites in the future. ARG has not conducted a comprehensive environmental review of all of its properties. ARG may not have identified all of the potential environmental liabilities at its leased and owned properties, and any such liabilities identified in the future could cause ARG to incur significant costs, including costs associated with litigation, fines or clean-up responsibilities.

ARG leases real property generally for initial terms of 20 years. Many leases provide that the landlord may increase the rent over the term of the lease. Most leases require ARG to pay all of the costs of insurance, taxes, maintenance and utilities. ARG generally cannot cancel these leases. If an existing or future restaurant is not profitable, and ARG decides to close it, ARG may nonetheless be committed to perform its obligations under the applicable lease including, among other things, paying the base rent for the balance of the lease term. In addition, as each of ARG’s leases expires, ARG may fail to negotiate renewals, either on commercially acceptable terms or at all, which could cause ARG to close stores in desirable locations.

Complaints or litigation may hurt ARG.

Occasionally, ARG’s customers file complaints or lawsuits against it alleging that ARG is responsible for an illness or injury they suffered at or after a visit to an Arby’s restaurant, or alleging that there was a problem with food quality or operations at an Arby’s restaurant. ARG is also subject to a variety of other claims arising in the ordinary course of our business, including personal injury claims, contract claims, claims from franchisees and claims alleging violations of federal and state law regarding workplace and employment matters, discrimination and similar matters. ARG could also become subject to class action lawsuits related to these matters in the future. Regardless of whether any claims against ARG are valid or whether ARG is found to be liable, claims may be expensive to defend and may divert management’s attention away from operations and hurt ARG’s performance. A judgment significantly in excess of ARG’s insurance coverage for any claims could materially adversely affect ARG’s financial condition or results of operations. Further, adverse publicity resulting from these allegations may hurt ARG and Arby’s franchisees.

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Additionally, the restaurant industry has been subject to a number of claims that the menus and actions of restaurant chains have led to the obesity of certain of their customers. Adverse publicity resulting from these allegations may harm the reputation of Arby’s restaurants, even if the allegations are not directed against Arby’s restaurants or are not valid, and even if ARG is not found liable or the concerns relate only to a single restaurant or a limited number of restaurants. Moreover, complaints, litigation or adverse publicity experienced by one or more of Arby’s franchisees could also hurt ARG’s business as a whole.

ARG’s current insurance may not provide adequate levels of coverage against claims it may file.

ARG currently maintains insurance customary for businesses of its size and type. However, there are types of losses it may incur that cannot be insured against or that ARG believes are not economically reasonable to insure, such as losses due to natural disasters or acts of terrorism. In addition, ARG currently self-insures a significant portion of expected losses under its workers compensation, general liability and property insurance programs. Unanticipated changes in the actuarial assumptions and management estimates underlying ARG’s reserves for these losses could result in materially different amounts of expense under these programs, which could harm ARG’s business and adversely affect its results of operations and financial condition.

Changes in governmental regulation may hurt ARG’s ability to open new restaurants or otherwise hurt ARG’s existing and future operations and results.

Each Arby’s restaurant is subject to licensing and regulation by health, sanitation, safety and other agencies in the state and/or municipality in which the restaurant is located. There can be no assurance that ARG and/or Arby’s franchisees will not experience material difficulties or failures in obtaining the necessary licenses or approvals for new restaurants, which could delay the opening of such restaurants in the future. In addition, more stringent and varied requirements of local and tax governmental bodies with respect to zoning, land use and environmental factors could delay or prevent development of new restaurants in particular locations. ARG, and Arby’s franchisees, are also subject to the Fair Labor Standards Act, which governs such matters as minimum wages, overtime and other working conditions, along with the ADA, family leave mandates and a variety of other laws enacted by the states that govern these and other employment law matters. As described more fully under “Item 3. Legal Proceedings,” one of our subsidiaries was a defendant in a lawsuit alleging failure to comply with Title III of the ADA at approximately 775 company-owned restaurants acquired as part of the RTM acquisition in July 2005. Under a court approved settlement of that lawsuit, ARG estimates that it will spend approximately $1.0 million per year of capital expenditures over an eight-year period beginning in 2007 to bring these restaurants into compliance with the ADA, in addition to paying certain legal fees and expenses. ARG cannot predict the amount of any other future expenditures that may be required in order to permit company-owned restaurants to comply with any changes in existing regulations or to comply with any future regulations that may become applicable to ARG’s business.

ARG’s operations could be influenced by weather conditions.

Weather, which is unpredictable, can impact Arby’s restaurant sales. Harsh weather conditions that keep customers from dining out result in lost opportunities for Arby’s restaurants. A heavy snowstorm in the Northeast or Midwest or a hurricane in the Southeast can shut down an entire metropolitan area, resulting in a reduction in sales in that area. Our first quarter includes winter months and historically has a lower level of sales at company-owned restaurants. Because a significant portion of ARG’s restaurant operating costs is fixed or semi-fixed in nature, the loss of sales during these periods hurts ARG’s operating margins, and can result in restaurant operating losses. For these reasons, a quarter-to-quarter comparison may not be a good indication of ARG’s performance or how it may perform in the future.

Due to the concentration of Arby’s restaurants in particular geographic regions, ARG’s business results could be impacted by the adverse economic conditions prevailing in those regions regardless of the state of the national economy as a whole.

As of December 31, 2006 ARG and Arby’s franchisees operated Arby’s restaurants in 48 states, the District of Columbia and four foreign countries. As of December 31, 2006, the six leading states by number of operating units were: Ohio, with 288 restaurants; Michigan, with 191 restaurants; Indiana, with 175 restaurants; Florida, with 175 restaurants; Texas, with 156 restaurants; and Georgia, with 153 restaurants. This geographic concentration can cause economic conditions in particular areas of the country to have a

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disproportionate impact on ARG’s overall results of operations. ARG believes that the adverse economic conditions in Ohio and Michigan, two states that have a significant number of Arby’s restaurants, have adversely impacted its results of operations. It is possible that adverse economic conditions in those two states or in other states or regions that contain a high concentration of Arby’s restaurants could have a material adverse impact on ARG’s results of operations in the future.

ARG and its subsidiaries are subject to various restrictions, and substantially all of their assets are pledged, under a credit agreement.

Under its credit agreement, substantially all of the assets of ARG and its subsidiaries (other than real property) are pledged as collateral security. The credit agreement also contains financial covenants that, among other things, require ARG and its subsidiaries to maintain certain financial ratios and restrict their ability to incur debt, pay dividends or make other distributions, enter into certain fundamental transactions (including sales of assets and certain mergers and consolidations) and create or permit liens. If ARG and its subsidiaries are unable to generate sufficient cash flow or otherwise obtain the funds necessary to make required payments of interest or principal under, or are unable to comply with covenants of, the credit agreement, they would be in default under the terms of the credit agreement, which would, under certain circumstances, permit the lenders to accelerate the maturity of the indebtedness. You should read the information in Note 11 to the Consolidated Financial Statements.

Risks Related to Deerfield

DCM may lose client assets, and thus fee revenue, for various reasons.

DCM’s success depends on its ability to earn investment advisory fees from the client accounts it manages. Such fees generally consist of payments based on the amount of assets in the account (management fees), and on the profits earned by the account or the returns to certain investors in the accounts (performance fees). If there is a reduction in an account’s assets, there will be a corresponding reduction in DCM’s management fees from the account, and a likely reduction in DCM’s performance fees (if any) relating to the account, since the smaller the account’s asset base the smaller will be the potential profits earned by the account. There could be a reduction in an account’s assets as the result of investment losses in the account, the withdrawal by investors of their capital in the account, or both. Except for the REIT, investors in the accounts managed by DCM have various types of withdrawal rights, ranging from the right of investors in separate accounts to withdraw any or all of their capital on a daily basis, the right of investors in hedge funds to withdraw their capital on a monthly or quarterly basis, and the right of investors in CDOs to terminate the CDO in specified situations. Investors in hedge funds and managed accounts might withdraw capital for many reasons, including their dissatisfaction with the account’s performance, adverse publicity regarding DCM, DCM’s loss of key personnel, errors in reporting to investors account values or account performance, other matters resulting from problems in DCM’s systems technology, investors’ desire to invest the capital elsewhere, and their need (in the case of investors that are themselves investment funds) for the capital to fund withdrawals by their investors. DCM could experience a major loss of account assets, and thus advisory fee revenue, at any time.

Poor investment performance could lead to a loss of clients and a decline in DCM’s revenues.

Investment performance is a key factor for the retention of client assets, the growth of DCM’s assets under management and the generation of management fee revenue. Poor investment performance could impair DCM’s revenues and growth because:

 

 

 

 

existing clients might withdraw funds in favor of better performing products, which would result in lower investment management fees for DCM;

 

 

 

 

DCM’s subordinate management fees for a CDO may be deferred;

 

 

 

 

DCM’s ability to attract funds from existing and new clients might diminish; and

 

 

 

 

DCM might earn minimal or no performance fees.

The failure of DCM’s investment products to perform well both on an absolute basis and in relation to competing products, therefore, could have a material adverse effect on DCM’s business.

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DCM derives a substantial portion of its revenues from contracts that may be terminated on short notice.

DCM derives a substantial portion of its revenues from investment management agreements with accounts that generally have the right to remove DCM as the investment manager of the account and replace it with a substitute investment manager. Some of these investment management agreements may be terminated for various reasons, including failure to follow the account’s investment guidelines, fraud, breach of fiduciary duty and gross negligence, or may not be renewed. With respect to DCM’s agreements with some of the CDOs it manages, DCM can be removed without cause by investors that hold a specified amount of the securities issued by the CDO. All of DCM’s agreements with CDOs allow investors that hold a specified amount of securities issued by the CDO to remove DCM for “cause,” which typically includes DCM’s violation of the management agreement or the CDO’s indenture, DCM’s breach of its representations and warranties under the agreement, DCM’s bankruptcy or insolvency, DCM’s fraud or a criminal offense by DCM or its employees, and the failure of certain of the CDO’s performance tests. With respect to DCM’s investment management agreement with the REIT, at the end of the initial term of the agreement (which occurs on December 31, 2007) or at the end of any one-year renewal term thereafter, DCM can be removed as manager by a vote of at least two-thirds of the REIT’s independent directors or holders of at least a majority of the outstanding common stock of the REIT based upon unsatisfactory performance that is materially detrimental to the REIT or a determination that the management fees payable to DCM are not fair (subject to DCM’s right to prevent such a termination by accepting a reduction of management fees that at least two-thirds of the REIT’s independent directors determine to be fair). During 2006, DCM generated approximately 22% of its revenue from managing the REIT. DCM’s investment management agreements with separate accounts are typically terminable by the client without penalty on 30 days’ notice or less. DCM may not be able to replace these agreements on favorable terms. The revenue loss that would result from any such termination could have a material adverse effect on DCM’s business.

DCM could lose client assets as the result of the loss of key DCM personnel.

DCM generally assigns the management of its investment products to specific teams, consisting of DCM portfolio management and other personnel. The loss of a particular member or members of such a team—for example, because of resignation or retirement—could cause investors in the product to withdraw, to the extent they have withdrawal rights, all or a portion of their investment in the product, and adversely affect the marketing of the product to new investors and the product’s performance. In the case of some accounts, such as certain CDOs, DCM can be removed as investment manager upon its loss of specified key employees. In addition to the loss of specific portfolio management team members, the loss of one or more members of DCM’s senior management involved in supervising the portfolio teams could have similar adverse effects on DCM’s investment products.

DCM may need to offer new investment strategies and products in order to continue to generate revenue.

The segments of the asset management industry in which DCM operates are subject to rapid change. Investment strategies and products that had historically been attractive to investors may lose their appeal for various reasons. Thus, strategies and products that have generated fee revenue for DCM in the past may fail to do so in the future. In such case DCM would have to develop new strategies and products in order to retain investors or replace withdrawing investors with new investors. It could be both expensive and difficult for DCM to develop new strategies and products, and there is no assurance that DCM would be successful in this regard. In addition, alternative asset management products represent a substantially smaller segment of the overall asset management industry than traditional asset management products (such as many corporate bond funds). DCM’s inability to expand its offerings beyond alternative asset management products could inhibit its growth and harm its competitive position in the investment management industry.

Changes in the fixed income markets could adversely affect DCM.

DCM’s success depends largely on the attractiveness to institutional investors of investing in the fixed income markets, and changes in those markets could significantly reduce the appeal of DCM’s investment products to such investors. Such changes could include increased volatility in the prices of fixed income instruments, periods of illiquidity in the fixed income trading markets, changes in the taxation of fixed income

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instruments, significant changes in the “spreads” in the fixed income markets (the amount by which the yields on particular fixed income instruments exceed the yields on benchmark U.S. Treasury securities), and the lack of arbitrage opportunities between U.S. Treasury securities and their related instruments (such as interest rate swap and futures contracts). The fixed income markets can be highly volatile, and the prices of fixed income instruments may increase or decrease for many reasons beyond DCM’s control or ability to anticipate, including economic and political events and acts of terrorism. Any adverse changes in the fixed income markets could reduce DCM’s revenues.

The narrowing of CDO spreads could make it difficult for DCM to launch new CDOs.

It is important for DCM to be able to launch new CDO products from time to time, both to expand its CDO activities (which are a major part of DCM’s business) and to replace existing CDOs as they are terminated or mature. The ability to launch new CDOs is dependent on, among other factors, the amount by which the interest earned on the collateral held by the CDO (such as bank loans or corporate bonds) exceeds the interest payable by the CDO on the debt obligations it issues to investors. If these “spreads” are not wide enough, the proposed CDO will not be attractive to investors and thus cannot be launched. There may be sustained periods when such spreads will not be sufficient for DCM to launch new CDO products, which could have a material adverse effect on DCM’s business.

DCM could lose client assets as the result of adverse publicity.

Asset managers such as DCM can be particularly vulnerable to losing clients because of adverse publicity. Asset managers are generally regarded as fiduciaries, and if they fail to adhere at all times to a high level of honesty, fair dealing and professionalism they can incur large and rapid losses of client assets. Accordingly, a relatively small lapse in this regard, particularly if it resulted in a regulatory investigation or enforcement proceeding, could materially hurt DCM’s business.

DCM could incur losses due to trading errors.

DCM could make errors in placing transaction orders for client accounts, such as purchasing a security for an account whose investment guidelines prohibited the account from holding the security, purchasing an unintended amount of the security, or placing a buy order when DCM intended to place a sell order. If the transaction resulted in a loss for the account, DCM might be required to reimburse the account for the loss, or DCM might choose to do so for client relations purposes. Such reimbursements could be substantial.

DCM could lose management fee income from its CDOs because of payment defaults by issuers of collateral held by the CDOs or the triggering of certain structural protections built into CDOs.

Pursuant to the investment management agreements between DCM and the CDOs it manages, DCM’s management fee from the CDO is generally subject to a “waterfall” structure, under which DCM will not receive all or a portion of its fees if, among other things, the CDO does not have sufficient cash flows from its underlying collateral (such as corporate bonds or bank loans) to pay the required interest on the notes it has issued to investors and certain expenses. This could occur if there are defaults by issuers of the collateral on their payments of principal or interest relating to the collateral. In that event, DCM’s management fees would be deferred until funds are available to pay the fees, if such funds become available. In addition, many CDOs have structural provisions meant to protect investors from deterioration in the credit quality of the underlying collateral pool. If those provisions are triggered, then certain portions of DCM’s management fees may be deferred indefinitely.

DCM may be unable to increase its assets under management in certain of its investment vehicles, or it may have to reduce such assets, because of capacity constraints.

A number of DCM’s investment vehicles are limited in the amount of client assets they can accommodate by the amount of liquidity in the instruments traded by such vehicles, the arbitrage opportunities available in those instruments, or other factors. Thus, DCM may manage investment vehicles that are relatively successful but that cannot accept additional capital because of such constraints. In addition, DCM might have to reduce the amount of assets managed in investment vehicles that face capacity constraints. Changes in the fixed income markets could materially reduce capacity, such as an increase in the number of asset managers using the same or similar strategies as DCM.

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The fixed income investment management market is highly competitive and DCM may lose client assets due to competition from other asset managers who have greater resources than DCM does or who are able to offer services and products at more competitive prices.

The alternative asset management industry is highly competitive. Many firms offer similar and additional investment management products and services to the same clients that DCM targets. DCM currently focuses almost exclusively on fixed income securities and related financial instruments in managing client accounts. DCM has limited experience in investing in equity securities. This is in contrast to numerous other asset managers with comparable assets under management, which have significant background and experience in both the equity and debt markets. In addition, many of DCM’s competitors have or may in the future develop greater financial and other resources, more extensive distribution capabilities, more effective marketing strategies, more attractive fund structures and broader name recognition. DCM’s competitors may be able to use these resources and capabilities to place DCM at a competitive disadvantage in retaining assets under management and achieving increased market penetration. Also, DCM may be at a disadvantage in competing with other asset managers that are subject to less regulation and thus less restricted in their client solicitation and portfolio management activities, and DCM may be competing for non-U.S. clients with asset managers that are based in the jurisdiction of the prospective client’s domicile. Because barriers to entry into the alternative asset management business are low, DCM may face increased competition from many new entrants into DCM’s relatively limited market of providing fixed income asset management services to institutional clients. Also, DCM is a relatively recent entrant into the REIT management business and DCM competes in this area against numerous firms that are larger, more experienced or both.

Additionally, if other asset managers offer services and products at more competitive prices than DCM offers, DCM may not be able to maintain its current fee structure. Although DCM’s investment management fees vary from product to product, historically DCM has competed primarily on the performance of its products and not on the level of its investment management fees relative to those of its competitors. In recent years, however, despite the fact that alternative asset managers typically charge higher fees than traditional managers, particularly with respect to hedge funds and similar products, there has been a trend toward lower fees in the investment management industry generally. In order to maintain its fee structure in a competitive environment, DCM must be able to continue to provide clients with investment returns and service that make investors willing to pay DCM’s fees. DCM cannot assure you that it will succeed in providing investment returns and service that will allow DCM to maintain its current fee structure. Fee reductions on existing or future business could have a material adverse effect on DCM’s profit margins and results of operations.

Changes in laws, regulations or government policies affecting DCM’s businesses could limit its revenues, increase its costs of doing business and materially and adversely affect its business.

DCM’s business is subject to extensive government regulation. This regulation is primarily at the federal level, through regulation by the SEC under the Investment Advisers Act of 1940, as amended, and regulation by the Commodity Futures Trading Commission, or CFTC, under the Commodity Exchange Act, as amended. DCM is also regulated by state regulators. The Investment Advisers Act imposes numerous obligations on investment advisers including anti-fraud prohibitions, advertising and custody requirements, disclosure obligations, compliance program duties and trading restrictions. The CFTC regulates commodity futures and option markets and imposes numerous obligations on the industry. DCM is registered with the CFTC as both a commodity trading advisor and a commodity pool operator and certain of its employees are registered with the CFTC as “associated persons.” DCM is also a member of the National Futures Association, the self-regulatory organization for the U.S. commodity futures industry, and thus subject to its regulations. If DCM fails to comply with applicable laws or regulations, DCM could be subject to fines, censure, suspensions of personnel or other sanctions, including revocation of its registration as an investment adviser, commodity trading advisor or commodity pool operator. Changes in laws, regulations or government policies could limit DCM’s revenues, increase its costs of doing business and materially adversely affect its business.

DCM Europe’s business is subject to extensive government regulation, primarily by the United Kingdom Financial Services Authority under the U.K. Financial Services and Markets Act of 2000. Such regulation is generally similar to the regulation governing DCM.

The non-U.S. domiciled investment funds that DCM manages are regulated in the jurisdiction of their domicile. Changes in the laws or government policies of these foreign jurisdictions could limit DCM’s revenues

25


from these funds, increase DCM’s costs of doing business in these jurisdictions and materially adversely affect DCM’s business.

The level of investor participation in DCM’s products may also be affected by the regulatory and self-regulatory requirements and restrictions applicable to DCM’s products and investors, the financial reporting requirements imposed on DCM’s investors and financial intermediaries, and the tax treatment of DCM’s products. Adverse changes in any of these areas may result in a loss of existing investors or difficulties in attracting new investors.

Other Risks

We may not be able to adequately protect our intellectual property, which could harm the value of our brands and hurt our business.

Our intellectual property is material to the conduct of our business. We rely on a combination of trademarks, copyrights, service marks, trade secrets and similar intellectual property rights to protect our brands and other intellectual property. The success of our business strategy depends, in part, on our continued ability to use our existing trademarks and service marks in order to increase brand awareness and further develop our branded products in both existing and new markets. If our efforts to protect our intellectual property are not adequate, or if any third party misappropriates or infringes on our intellectual property, either in print or on the Internet, the value of our brands may be harmed, which could have a material adverse effect on our business, including the failure of our brands to achieve and maintain market acceptance. This could harm our image, brand or competitive position and, if we commence litigation to enforce our rights, cause us to incur significant legal fees.

We franchise our restaurant brands to various franchisees. While we try to ensure that the quality of our brands is maintained by all of our franchisees, we cannot assure you that these franchisees will not take actions that hurt the value of our intellectual property or the reputation of the Arby’s restaurant system. We have registered certain trademarks and have other trademark registrations pending in the United States and certain foreign jurisdictions. The trademarks that we currently use have not been registered in all of the countries outside of the United States in which we do business or may do business in the future and may never be registered in all of these countries. We cannot assure you that all of the steps we have taken to protect our intellectual property in the United States and foreign countries will be adequate. The laws of some foreign countries do not protect intellectual property rights to the same extent as the laws of the United States.

In addition, we cannot assure you that third parties will not claim infringement by us in the future. Any such claim, whether or not it has merit, could be time-consuming, result in costly litigation, cause delays in introducing new menu items or investment products or require us to enter into royalty or licensing agreements. As a result, any such claim could harm our business and cause a decline in our results of operations and financial condition.

One of our subsidiaries remains contingently liable with respect to certain obligations relating to a business that we have sold.

In July 1999, we sold 41.7% of our then remaining 42.7% interest in National Propane Partners, L.P. and a sub-partnership, National Propane, L.P. to Columbia Energy Group, and retained less than a 1% special limited partner interest in AmeriGas Eagle Propane, L.P. (formerly known as National Propane, L.P. and as Columbia Propane, L.P.). As part of the transaction, our subsidiary, National Propane Corporation, agreed that while it remains a special limited partner of AmeriGas, it would indemnify the owner of AmeriGas for any payments the owner makes under certain debt of AmeriGas (aggregating approximately $138.0 million as of December 31, 2006), if AmeriGas is unable to repay or refinance such debt, but only after recourse to the assets of AmeriGas. Either National Propane Corporation or AmeriGas Propane, L.P., the owner of AmeriGas, may require AmeriGas to repurchase the special limited partner interest. However, we believe it is unlikely that either party would require repurchase prior to 2009 as either AmeriGas Propane, L.P. would owe us tax indemnification payments or we would accelerate payment of deferred taxes, which amount to approximately $36.0 million as of December 31, 2006, associated with our sale of the propane business.

Although we believe that it is unlikely that we will be called upon to make any payments under the indemnification described above, if we are required to make such payments it could have a material adverse

26


effect on our financial position and results of operations. You should read the information in “Item. 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources” and in Note 27 to the Consolidated Financial Statements.

Changes in governmental regulation may adversely affect our existing and future operations and results.

Certain of our current and past operations are or have been subject to federal, state and local environmental laws and regulations concerning the discharge, storage, handling and disposal of hazardous or toxic substances that provide for significant fines, penalties and liabilities, in certain cases without regard to whether the owner or operator of the property knew of, or was responsible for, the release or presence of such hazardous or toxic substances. In addition, third parties may make claims against owners or operators of properties for personal injuries and property damage associated with releases of hazardous or toxic substances. Although we believe that our operations comply in all material respects with all applicable environmental laws and regulations, we cannot predict what environmental legislation or regulations will be enacted in the future or how existing or future laws or regulations will be administered or interpreted. We cannot predict the amount of future expenditures that may be required in order to comply with any environmental laws or regulations or to satisfy any such claims. See “Item 1. Business—General—Environmental Matters.”

Item 1B. Unresolved Staff Comments.

Not applicable.

Item 2. Properties.

We believe that our properties, taken as a whole, are generally well maintained and are adequate for our current and foreseeable business needs. We lease each of our material properties.

The following table contains information about our material facilities as of December 31, 2006:

 

 

 

 

 

 

 

Active Facilities

 

Facilities—Location

 

Land Title

 

Approximate
Sq. Ft. of
Floor Space

Triarc Corporate Headquarters

 

New York, NY

 

 

 

leased

   

 

 

30,670

 

ARG Headquarters

 

Atlanta, GA

 

 

 

leased

   

 

 

131,748

*

 

Deerfield Headquarters

 

Rosemont, IL

 

 

 

leased

   

 

 

69,184

 


 

 

*

 

 

 

ARCOP, the independent Arby’s purchasing cooperative, and the Arby’s Foundation sublease approximately 2,680 and 5,000 square feet, respectively, of this space from ARG.

ARG also owns 16 and leases 151 properties that are either leased or sublet principally to franchisees. Our other subsidiaries also own or lease a few inactive facilities and undeveloped properties, none of which are material to our financial condition or results of operations.

At December 31, 2006, our company-owned Arby’s restaurants were located in the following states: 112 in Michigan, 104 in Ohio, 97 in Indiana, 95 in Georgia, 88 in Florida, 84 in Pennsylvania, 75 in Minnesota, 62 in Alabama, 58 in Texas, 53 in Tennessee, 50 in North Carolina, 33 in Utah, 33 in Kentucky, 24 in Oregon, 24 in Washington, 16 in New Jersey, 12 in South Carolina, 12 in Maryland, 9 in Connecticut, 5 in Illinois, 4 in Wisconsin, 3 in Missouri, 2 in Mississippi, 2 in Virginia, 1 in California, 1 in New York, 1 in West Virginia and 1 in Wyoming. ARG owns the land and/or the building with respect to 143 of these restaurants and leases or subleases the remainder. ARG has regional offices in Atlanta, Georgia, Indianapolis, Indiana, Flint, Michigan, Middleburg Heights, Ohio, Sinking Springs, Pennsylvania, Plano, Texas and Missasauga, Canada.

Item 3. Legal Proceedings.

In 1998, a number of class action lawsuits were filed on behalf of our stockholders in the Court of Chancery of the State of Delaware in and for New Castle County. Each of these actions named Triarc, Messrs. Peltz and May and the other then directors of Triarc as defendants. In 1999, certain plaintiffs in these actions filed a consolidated amended complaint alleging that our tender offer statement filed with the SEC in 1999,

27


pursuant to which we repurchased 3,805,015 shares of our Class A Common Stock, failed to disclose material information. The amended complaint sought, among other relief, monetary damages in an unspecified amount. In 2000, the plaintiffs agreed to stay this action pending determination of a related stockholder action that was subsequently dismissed in October 2002 and is no longer being appealed. On October 24, 2005, plaintiffs filed a motion asking the court to dismiss the action as moot, but to retain jurisdiction for the limited purpose of considering a subsequent application by plaintiffs for legal fees and expenses. The plaintiffs’ motion to dismiss the action as moot was granted on October 27, 2005. On December 13, 2005, plaintiffs filed a motion seeking $250,000 in fees and $6,225 for reimbursement of expenses. On February 24, 2006, defendants filed papers in opposition to plaintiffs’ motion. On March 29, 2006, the court entered an order awarding plaintiffs $75,000 in fees and expenses. On April 28, 2006, defendants filed a notice of appeal. On June 9, 2006, the parties entered into an agreement pursuant to which, among other things, Triarc paid the $75,000 of fees and expenses awarded by the court and the defendants withdrew their appeal.

In November 2002, Access Now, Inc. and Edward Resnick, later replaced by Christ Soter Tavantzis, on their own behalf and on the behalf of all those similarly situated, brought an action in the United States District Court for the Southern District of Florida against RTM Operating Company (“RTM”), which became a subsidiary of ours following our acquisition of the RTM Restaurant Group in July 2005. The complaint alleged that the approximately 775 Arby’s restaurants owned by RTM and its affiliates failed to comply with Title III of the ADA. The plaintiffs requested class certification and injunctive relief requiring RTM and such affiliates to comply with the ADA in all of their restaurants. The complaint did not seek monetary damages, but did seek attorneys’ fees. Without admitting liability, RTM entered into a settlement agreement with the plaintiffs on a class-wide basis, which was approved by the court on August 10, 2006. The settlement agreement calls for the restaurants owned by RTM and certain of its affiliates to be brought into ADA compliance over an eight year period at a rate of approximately 100 restaurants per year. The settlement agreement also applies to restaurants subsequently acquired by RTM and such affiliates. ARG estimates that it will spend approximately $1.0 million per year of capital expenditures over an eight year period beginning in 2007 to bring the restaurants into compliance under the settlement agreement, in addition to paying certain legal fees and expenses.

In addition to the legal matters described above and the environmental matter described under “Item 1. Business—General—Environmental Matters”, we are involved in other litigation and claims incidental to our current and prior businesses. We and our subsidiaries have reserves for all of our legal and environmental matters aggregating $1.0 million as of December 31, 2006. Although the outcome of these matters cannot be predicted with certainty and some of these matters may be disposed of unfavorably to us, based on our currently available information, including legal defenses available to us and/or our subsidiaries, and given the aforementioned reserves, we do not believe that the outcome of these legal and environmental matters will have a material adverse effect on our consolidated financial position or results of operations.

Item 4. Submission of Matters to a Vote of Security Holders.

On June 7, 2006, Triarc held its Annual Meeting of Stockholders. The matters acted upon by the stockholders at that meeting were reported in our Quarterly Report on Form 10-Q for the quarter ended July 2, 2006.

28


PART II

Item 5. Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.

The principal market for our Class A Common Stock and Class B Common Stock is the New York Stock Exchange (symbols: TRY and TRY.B, respectively). Our Class B Common Stock began trading “regular way” on the NYSE on September 5, 2003 in connection with its distribution to our stockholders as described below. The high and low market prices for our Class A Common Stock and Class B Common Stock, as reported in the consolidated transaction reporting system, are set forth below:

 

 

 

 

 

 

 

 

 

Fiscal Quarters

 

Market Price

 

Class A

 

Class B

 

High

 

Low

 

High

 

Low

2005

 

 

 

 

 

 

 

 

First Quarter ended April 3

 

 

$

 

16.56

   

 

$

 

12.50

   

 

$

 

15.40

   

 

$

 

11.60

 

Second Quarter ended July 3

 

 

 

16.66

   

 

 

13.71

   

 

 

15.34

   

 

 

12.36

 

Third Quarter ended October 2

 

 

 

17.40

   

 

 

15.65

   

 

 

16.00

   

 

 

14.36

 

Fourth Quarter ended January 1, 2006

 

 

 

17.50

   

 

 

15.81

   

 

 

15.80

   

 

 

14.15

 

2006

 

 

 

 

 

 

 

 

First Quarter ended April 2

 

 

 

18.50

   

 

 

16.44

   

 

 

17.48

   

 

 

14.80

 

Second Quarter ended July 2

 

 

 

18.70

   

 

 

15.60

   

 

 

17.84

   

 

 

14.55

 

Third Quarter ended October 1

 

 

 

17.70

   

 

 

14.35

   

 

 

16.50

   

 

 

12.86

 

Fourth Quarter ended December 31

 

 

 

22.42

   

 

 

16.28

   

 

 

20.56

   

 

 

14.50

 

On September 4, 2003 we made a stock distribution of two shares of our Class B Common Stock for each share of our Class A Common Stock issued as of August 21, 2003. Our Class B Common Stock is entitled to one-tenth of a vote per share and our Class A Common Stock is entitled to one vote per share. Our Class B Common Stock is also entitled to vote as a separate class with respect to any merger or consolidation in which Triarc is a party unless each holder of a share of Class B Common Stock receives the same consideration as a holder of Class A Common Stock, other than consideration paid in shares of common stock that differ as to voting rights, liquidation preference and dividend preference to the same extent that our Class A and Class B Common Stock differ. The Certificate of Designation for our Class B Common Stock provides that our Class B Common Stock was entitled, through September 4, 2006, to receive regular quarterly cash dividends that are at least 110% of any regular quarterly cash dividends that were paid on our Class A Common Stock. However, our board of directors has determined that until June 30, 2007 we will continue to pay regular quarterly cash dividends at that higher rate on our Class B Common Stock if any regular quarterly cash dividends are paid on our Class A Common Stock. Thereafter, each share of our Class B Common Stock is entitled to at least 100% of the regular quarterly cash dividend paid on each share of our Class A Common Stock. In addition, our Class B Common Stock has a $.01 per share preference in the event of any liquidation, dissolution or winding up of Triarc and, after each share of our Class A Common Stock also receives $.01 per share in any such liquidation, dissolution or winding up, our Class B Common Stock would thereafter participate equally on a per share basis with our Class A Common Stock in any remaining assets of Triarc.

On each of March 15, 2005 and June 15, 2005, we paid regular quarterly cash dividends of $0.065 and $0.075 per share on our Class A Common Stock and Class B Common Stock, respectively, to holders of record on March 3, 2005 and June 3, 2005, respectively. On each of September 15, 2005, December 15, 2005, March 15, 2006, June 15, 2006, September 15, 2006 and December 15, 2006, we paid regular quarterly cash dividends of $0.08 and $0.09 per share on our Class A Common Stock and Class B Common Stock, respectively, to holders of record on September 1, 2005, December 2, 2005, March 2, 2006, June 1, 2006, September 1, 2006 and December 1, 2006, respectively. The March 15, 2005, June 15, 2005, September 15, 2005, December 15, 2005, March 15, 2006, June 15, 2006, September 15, 2006, and December 15, 2006 regular quarterly dividends aggregated approximately $4.7 million, $4.8 million, $6.6 million, $6.6 million, $7.6 million, $7.6 million, $7.6 million and $7.7 million, respectively. On February 1, 2007, our board of directors declared regular quarterly cash dividends of $0.08 and $0.09 per share on our Class A Common Stock and Class B Common Stock, respectively, payable on March 15, 2007 to holders of record on March 1, 2007 in the aggregate amount of approximately $8.0 million.

29


In connection with our previously announced proposed corporate restructuring, during 2006 we paid special cash dividends aggregating $0.45 per share on each of our Class A Common Stock and Class B Common Stock. The special cash dividends, which aggregated approximately $70.0 million, were paid in three installments of $0.15 per share on each of March 1, July 14 and December 20, 2006 to holders of record on February 17, 2006, June 30, 2006 and December 5, 2006, respectively. See “Item 1. Business—Business Strategy; Potential Corporate Restructuring” for a more detailed discussion of the potential corporate restructuring and associated special cash dividends.

Although we currently intend to continue to declare and pay regular quarterly cash dividends, there can be no assurance that any additional regular quarterly cash dividends will be declared or paid or the amount or timing of such dividends, if any. Any future dividends will be made at the discretion of our board of directors and will be based on such factors as our earnings, financial condition, cash requirements and other factors. We have no class of equity securities currently issued and outstanding except for our Class A Common Stock and Class B Common Stock, Series 1. However, we are currently authorized to issue up to 100 million shares of preferred stock.

Because we are a holding company, our ability to meet our cash requirements, including required interest and principal payments on our indebtedness, is primarily dependent upon our cash, cash equivalents and short-term investments on hand, cash flows from our subsidiaries, including loans, cash dividends and reimbursement by subsidiaries to us in connection with providing certain management services, and payments by subsidiaries under certain tax sharing agreements. Under the terms of ARG’s credit agreement (see “Item 1A. Risk Factors—Our restaurant subsidiaries are subject to various restrictions, and substantially all of their assets are pledged, under a credit agreement”), there are restrictions on the ability of ARG and its subsidiaries to pay any dividends or make any loans or advances to us. The ability of any of our subsidiaries to pay cash dividends or make any loans or advances to us is also dependent upon the respective abilities of such entities to achieve sufficient cash flows after satisfying their respective cash requirements, including debt service, to enable the payment of such dividends or the making of such loans or advances. You should read the information in “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources” and Note 11 to our Consolidated Financial Statements.

As of February 15, 2007, there were approximately 2,580 holders of record of our Class A Common Stock and 2,763 holders of record of our Class B Common Stock.

The following table provides information with respect to repurchases of shares of our common stock by us and our “affiliated purchasers” (as defined in Rule 10b-18(a)(3) under the Securities Exchange Act of 1934, as amended) during the fourth fiscal quarter of 2006:

Issuer Repurchases of Equity Securities (1)

 

Period

 

Total Number of
Shares Purchased

   

Average Price
Paid Per
Share

   

Total Number of
Shares Purchased
As Part of
Publicly Announced
Plan(1)

   

Approximate Dollar
Value of Shares
That May Yet Be
Purchased Under
the Plan (1)

 

October 2, 2006
through
October 29, 2006

 

 

 

   

 

   

   

   

 

$

 

50,000,000

 
 

October 30, 2006
through
November 26, 2006

 

 

 

   

 

   

   

   

 

$

 

50,000,000

 
 

November 27, 2006
through
December 31, 2006

 

 

 

2,467,917
8,462,504

   

Class A (2)
Class B (2)

   

$21.17 (2)
$19.48 (2)

   

 

   

 

$  
50,000,000
   
 

Total

 

 

 

2,467,917
8,462,504

   

Class A
Class B

   

   

   

 

$

 

50,000,000

 

30


 

(1)

 

 

 

On May 11, 2006, we announced that our existing stock repurchase program, which was originally approved by our board of directors on January 18, 2001, had been extended until June 30, 2007 and that the amount available under the program had been replenished to permit the purchase of up to $50.0 million of our Class A Common Stock and Class B Common Stock. No transactions were effected under our stock repurchase program during the fourth fiscal quarter of 2006.

 

(2)

 

 

 

Reflects an aggregate of 2,467,917 and 8,462,504 shares of our Class A Common Stock and Class B Common Stock, respectively, tendered as payment of (i) the exercise price of employee stock options and (ii) tax withholding obligations in respect of such exercises. The shares were valued at the respective closing prices of our Class A Common Stock and Class B Common Stock on the various dates of exercise of the employee stock options.

31


Item 6. Selected Financial Data.

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended(1)

 

 

December 29,
2002

 

December 28,
2003

 

January 2,
2005

 

January 1,
2006(2)

 

December 31,
2006(2)

 

 

(In Thousands Except Per Share Amounts)

Revenues

 

 

$

 

97,782

   

 

$

 

293,620

   

 

$

 

328,579

   

 

$

 

727,334

   

 

 

1,243,278

 

Operating profit (loss)

 

 

 

15,339

   

 

 

(1,201

)(6)

 

 

 

 

2,734

   

 

 

(32,074

)(8)

 

 

 

 

44,007

 

Income (loss) from continuing operations

 

 

 

(9,757

)

 

 

 

 

(13,083

)(6)

 

 

 

 

1,477

(7)

 

 

 

 

(58,912

)(8)

 

 

 

 

(11,200

)(9)

 

Income (loss) from discontinued operations

 

 

 

11,100

   

 

 

2,245

   

 

 

12,464

   

 

 

3,285

   

 

 

(129

)

 

Net income (loss)

 

 

 

1,343

   (5)

 

 

 

 

(10,838

)(6)

 

 

 

 

13,941

(7)

 

 

 

 

(55,627

)(8)

 

 

 

 

(11,329

)(9)

 

Basic income (loss) per share (3):

 

 

 

 

 

 

 

 

 

 

Class A common stock:

 

 

 

 

 

 

 

 

 

 

Continuing operations

 

 

 

(.16

)

 

 

 

 

(.22

)

 

 

 

 

.02

   

 

 

(.84

)

 

 

 

 

(.13

)

 

Discontinued operations

 

 

 

.18

   

 

 

.04

   

 

 

.18

   

 

 

.05

   

Net income (loss)

 

 

 

.02

   

 

 

(.18

)

 

 

 

 

.20

   

 

 

(.79

)

 

 

 

 

(.13

)

 

Class B common stock:

 

 

 

 

 

 

 

 

 

 

Continuing operations

 

 

 

(.16

)

 

 

 

 

(.22

)

 

 

 

 

.02

   

 

 

(.84

)

 

 

 

 

(.13

)

 

Discontinued operations

 

 

 

.18

   

 

 

.04

   

 

 

.21

   

 

 

.05

   

Net income (loss)

 

 

 

.02

   

 

 

(.18

)

 

 

 

 

.23

   

 

 

(.79

)

 

 

 

 

(.13

)

 

Diluted income (loss) per share (3):

 

 

 

 

 

 

 

 

 

 

Class A common stock:

 

 

 

 

 

 

 

 

 

 

Continuing operations

 

 

 

(.16

)

 

 

 

 

(.22

)

 

 

 

 

.02

   

 

 

(.84

)

 

 

 

 

(.13

)

 

Discontinued operations

 

 

 

.18

   

 

 

.04

   

 

 

.17

   

 

 

.05

   

Net income (loss)

 

 

 

.02

   

 

 

(.18

)

 

 

 

 

.19

   

 

 

(.79

)

 

 

 

 

(.13

)

 

Class B common stock:

 

 

 

 

 

 

 

 

 

 

Continuing operations

 

 

 

(.16

)

 

 

 

 

(.22

)

 

 

 

 

.02

   

 

 

(.84

)

 

 

 

 

(.13

)

 

Discontinued operations

 

 

 

.18

   

 

 

.04

   

 

 

.20

   

 

 

.05

   

Net income (loss)

 

 

 

.02

   

 

 

(.18

)

 

 

 

 

.22

   

 

 

(.79

)

 

 

 

 

(.13

)

 

Cash dividends per share:

 

 

 

 

 

 

 

 

 

 

Class A common stock

 

 

 

 

.13

   

 

 

.26

   

 

 

.29

   

 

 

.77

 

Class B common stock

 

 

 

 

.15

   

 

 

.30

   

 

 

.33

   

 

 

.81

 

Working capital

 

 

 

509,541

   

 

 

610,720

   

 

 

463,922

   

 

 

296,427

   

 

 

161,194

 

Total assets

 

 

 

967,383

   

 

 

1,042,965

   

 

 

1,066,973

   

 

 

2,809,489

   

 

 

1,560,449

 

Long-term debt

 

 

 

352,700

   

 

 

483,280

   

 

 

446,479

   

 

 

894,527

   

 

 

701,916

 

Stockholders’ equity

 

 

 

332,742

   

 

 

287,606

   

 

 

303,139

   

 

 

395,570

   

 

 

474,642

 

Weighted average shares outstanding (4):

 

 

 

 

 

 

 

 

 

 

Class A common stock

 

 

 

20,446

   

 

 

20,003

   

 

 

22,233

   

 

 

23,766

   

 

 

27,301

 

Class B common stock

 

 

 

40,892

   

 

 

40,010

   

 

 

40,840

   

 

 

46,245

   

 

 

59,343

 


 

 

(1)

 

 

 

Triarc Companies, Inc. and its subsidiaries (the “Company”) reports on a fiscal year consisting of 52 or 53 weeks ending on the Sunday closest to December 31. However, Deerfield & Company LLC, in which the Company acquired a 63.6% capital interest on July 22, 2004, Deerfield Opportunities Fund, LLC (the “Opportunities Fund,”) which commenced on October 4, 2004 and was effectively redeemed on September 29, 2006 and DM Fund LLC, which commenced on March 1, 2005, report or reported on a calendar year ending on December 31. In accordance with this method, each of the Company’s fiscal years presented above contained 52 weeks except for the 2004 fiscal year which contained 53 weeks. All references to years relate to fiscal years rather than calendar years.

 

(2)

 

 

 

Selected financial data for the year ended January 1, 2006 reflects the operations of RTM Restaurant Group (“RTM”) commencing with its acquisition by the Company on July 25, 2005.

 

(3)

 

 

 

Income (loss) per share amounts reflect the effect of a stock distribution (the “Stock Distribution”) on September 4, 2003 of two shares of the Company’s class B common stock, series 1, for each share of the Company’s class A common stock issued as of August 21, 2003, as if the Stock Distribution had occurred at the beginning of the year ended December 29, 2002. For the purposes of calculating income per share,

32


 

net income subsequent to the date of the Stock Distribution was allocated between the class A common shares and class B common shares based on the actual dividend payment ratio. Net income for the years prior to the Stock Distribution was allocated equally among each class A common share and class B common share since there were no dividends declared or contractually payable during those years. For the purposes of calculating loss per share, the net loss for any year was also allocated equally.

 

(4)

 

 

 

The weighted average shares outstanding reflect the effect of the Stock Distribution. The number of shares used in the calculation of diluted income (loss) per share are the same as basic income (loss) per share for the years 2002, 2003, 2005 and 2006 since all potentially dilutive securities would have had an antidilutive effect based on the loss from continuing operations for each of those years. The number of shares used in the calculation of diluted income per share of class A and class B common stock for 2004 are 23,415,000 and 43,206,000, respectively. These shares used for the calculation of diluted income per share in 2004 consist of the weighted average common shares outstanding for each class of common stock and potential common shares reflecting the effect of dilutive stock options of 1,182,000 for class A common stock and 2,366,000 for class B common stock.

 

(5)

 

 

 

Reflects a significant credit recorded during 2002 as follows: $11,100,000 credited to net income representing adjustments to the previously recognized gain on disposal of the Company’s beverage businesses due to the release of reserves for income taxes associated with the discontinued beverage operations in connection with the receipt of related income tax refunds.

 

(6)

 

 

 

Reflects certain significant charges and credits recorded during 2003 as follows: $22,000,000 charged to operating loss representing an impairment of goodwill; $11,799,000 charged to loss from continuing operations representing the aforementioned $22,000,000 charged to operating loss partially offset by (1) a $5,834,000 gain on sale of business arising principally from the sale by the Company of a portion of its investment in an equity method investee and a non-cash gain to the Company from the public offering by the investee of its common stock and (2) $4,367,000 of income tax benefit relating to the above net charges; and $9,554,000 charged to net loss representing the aforementioned $11,799,000 charged to loss from continuing operations partially offset by a $2,245,000 credit to income from discontinued operations principally resulting from the release of reserves, net of income taxes, in connection with the settlement of a post-closing sales price adjustment related to the sale of the Company’s beverage businesses.

 

(7)

 

 

 

Reflects certain significant credits recorded during 2004 as follows: $17,333,000 credited to income from continuing operations representing (1) $14,592,000 of income tax benefit due to the release of income tax reserves which were no longer required upon the finalization of the examination of the Company’s Federal income tax returns for the years ended December 31, 2000 and December 30, 2001, the finalization of a state income tax examination and the expiration of the statute of limitations for the examination of certain of the Company’s state income tax returns and (2) a $2,741,000 credit, net of a $1,601,000 income tax provision, representing the release of related interest accruals no longer required; and $29,797,000 credited to net income representing the aforementioned $17,333,000 credited to income from continuing operations and $12,464,000 of additional gain on disposal of the Company’s beverage businesses sold in 2000 resulting from the release of income tax reserves related to discontinued operations which were no longer required upon finalization of an Internal Revenue Service examination of the Federal income tax returns for the years ended December 31, 2000 and December 30, 2001 and the expiration of the statute of limitations for examinations of certain of the Company’s state income tax returns.

 

(8)

 

 

 

Reflects certain significant charges and credits recorded during 2005 as follows: $58,939,000 charged to operating loss representing (1) share-based compensation charges of $28,261,000 representing the intrinsic value of stock options which were exercised by the Chairman and Chief Executive Officer and the President and Chief Operating Officer and subsequently replaced on the date of exercise, the grant of contingently issuable performance-based restricted shares of the Company’s class A and class B common stock and the grant of equity interests in two of the Company’s subsidiaries, (2) a $17,170,000 loss on settlements of unfavorable franchise rights representing the cost of settling franchise agreements acquired as a component of the acquisition of RTM with royalty rates below the current 4% royalty rate that the Company receives on new franchise agreements and (3) facilities relocation and corporate restructuring charges of $13,508,000; $67,526,000 charged to loss from continuing operations representing the aforementioned $58,939,000 charged to operating loss and a $35,809,000 loss on early extinguishments of debt upon a debt refinancing in connection with the acquisition of RTM, both partially offset by $27,222,000 of

33


 

income tax benefit relating to the above charges; and $64,241,000 charged to net loss representing the aforementioned $67,526,000 charged to loss from continuing operations partially offset by income from discontinued operations of $3,285,000 principally resulting from the release of reserves for state income taxes no longer required.

 

(9)

 

 

 

Reflects a significant charge recorded during 2006 as follows: $9,005,000 charged to loss from continuing operations and net loss representing a $14,082,000 loss on early extinguishments of debt related to conversions or effective conversions of the Company’s 5% convertible notes due 2023 and prepayments of term loans under the Company’s senior secured term loan facility, partially offset by an income tax benefit of $5,077,000 related to the above charge.

34


Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

This “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of Triarc Companies, Inc., which we refer to as Triarc, and its subsidiaries should be read in conjunction with our consolidated financial statements included elsewhere herein. Certain statements we make under this Item 7 constitute “forward-looking statements” under the Private Securities Litigation Reform Act of 1995. See “Special Note Regarding Forward-Looking Statements and Projections” in “Part I” preceding “Item 1.”

Introduction and Executive Overview

We currently operate in two business segments. We operate in the restaurant business through our franchised and Company-owned Arby’s restaurants and, effective with the July 2004 acquisition of Deerfield & Company LLC, which we refer to as Deerfield, in the asset management business.

On July 22, 2004 we completed the acquisition of a 63.6% capital interest in Deerfield, in a transaction we refer to as the Deerfield Acquisition. Deerfield, through its wholly-owned subsidiary Deerfield Capital Management LLC, is an asset manager offering a diverse range of fixed income and credit-related strategies to institutional investors. Deerfield provides asset management services for investors through (1) collateralized debt obligation vehicles, which we refer to as CDOs, and (2) investment funds and private investment accounts, which we refer to as Funds, including Deerfield Triarc Capital Corp., a real estate investment trust formed in December 2004, which we refer to as the REIT. Deerfield’s results of operations, less applicable minority interests, and cash flows are included in our 2004 consolidated results subsequent to the July 22, 2004 date of the Deerfield Acquisition and our 2005 and 2006 consolidated results for the full years. See below under “Presentation of Financial Information.”

On July 25, 2005 we completed the acquisition of substantially all of the equity interests or the assets of the entities comprising the RTM Restaurant Group, Arby’s largest franchisee with 775 Arby’s restaurants in 22 states as of that date, in a transaction we refer to as the RTM Acquisition. Accordingly, RTM’s results of operations and cash flows are included in our 2005 consolidated results subsequent to the July 25, 2005 date of the RTM Acquisition and are included in our 2006 consolidated results for the full year. Commencing on July 26, 2005, royalties and franchise and related fees from RTM are eliminated in consolidation.

In our restaurant business, we derive revenues in the form of royalties and franchise and related fees and from sales by our Company-owned restaurants. While 70% of our existing Arby’s royalty agreements and all of our new domestic royalty agreements provide for royalties of 4% of franchise revenues, our average royalty rate was 3.6% for the year ended December 31, 2006. In our asset management business, we derive revenues in the form of asset management and related fees from our management of CDOs, Funds and the REIT, and we may expand the types of investments that we offer and manage.

We derive investment income principally from the investment of our excess cash. In that regard, we invested in several funds managed by Deerfield, including Deerfield Opportunities Fund, LLC, which we refer to as the Opportunities Fund, and DM Fund LLC, which we refer to as the DM Fund. We invested $100.0 million in the Opportunities Fund in October 2004. We invested $4.8 million in the DM Fund in March 2005 through a partial transfer from our investment in the Opportunities Fund. We redeemed our investments in the Opportunities Fund and the DM Fund effective September 29, 2006 and December 31, 2006, respectively. The Opportunities Fund through September 29, 2006, and the DM Fund through December 31, 2006, were accounted for as consolidated subsidiaries of ours, with minority interests to the extent of participation by investors other than us. The Opportunities Fund was a multi-strategy hedge fund that principally invested in various fixed income securities and their derivatives and employed substantial leverage in its trading activities which significantly impacted our consolidated financial position, results of operations and cash flows. We also have an investment in the REIT which is managed by Deerfield. When we refer to Deerfield, we mean only Deerfield & Company, LLC and not the Opportunities Fund, the DM Fund or the REIT.

Our goal is to enhance the value of our Company by increasing the revenues of the Arby’s restaurant business and Deerfield’s asset management business. We are continuing to focus on growing the number of restaurants in the Arby’s system, adding new menu offerings and implementing operational initiatives targeted at improving service levels and convenience. We continue to grow Deerfield’s assets under management by

35


utilizing the value of its historically profitable investment advisory brand and increasing the types of assets under management, thereby increasing Deerfield’s asset management fee revenues.

We are continuing to explore a possible corporate restructuring involving our asset management business and other non-restaurant net assets. See “Liquidity and Capital Resources—Potential Corporate Restructuring” for a detailed discussion of the potential corporate restructuring and certain potential impacts thereof on our results of operations and our liquidity and capital resources.

In recent years our restaurant business has experienced the following trends:

 

 

 

 

Growing U.S. adult population, our principal customer demographic;

 

 

 

 

Addition of selected higher-priced quality items to menus, which appeal more to adult tastes;

 

 

 

 

Increased consumer preference for premium sandwiches with perceived higher levels of freshness, quality and customization along with increased competition in the premium sandwich category which has constrained the pricing of these products;

 

 

 

 

Increased price competition, as evidenced by (1) value menu concepts, which offer comparatively lower prices on some menu items, (2) combination meal concepts, which offer a complete meal at an aggregate price lower than the price of the individual food and beverage items, (3) the use of coupons and other price discounting and (4) many recent product promotions focused on the lower prices of certain menu items;

 

 

 

 

Increased competition among quick service restaurant competitors and other businesses for available development sites, higher development costs associated with those sites and higher borrowing costs in the lending markets typically used to finance new unit development;

 

 

 

 

Increased availability to consumers of new product choices, including additional healthy products focused on freshness driven by a greater consumer awareness of nutritional issues as well as new products that tend to include larger portion sizes and more ingredients, and a wider variety of snack products and non-carbonated beverages;

 

 

 

 

Competitive pressures from operators outside the quick service restaurant industry, such as the deli sections and in-store cafes of several major grocery store chains, convenience stores and casual dining outlets offering prepared food purchases;

 

 

 

 

Higher fuel prices, although moderating in recent months, which cause a decrease in many consumers’ discretionary income, increase our utility costs and are likely to increase the cost of commodities we purchase following the expiration in 2007 of our current distribution contracts which contain limits on distribution cost increases;

 

 

 

 

Extended hours of operation by many quick service restaurants including both breakfast and late night hours;

 

 

 

 

Federal, state and local legislative activity, such as minimum wage increases, mandated health and welfare benefits and restrictions on the use in prepared foods of certain unhealthy fatty acids, commonly referred to as trans fats, which could continue to result in increased wages and related fringe benefits, including health care and other insurance costs, higher packaging costs and higher food costs;

 

 

 

 

Competitive pressures from an increasing number of franchise opportunities seeking to attract qualified franchisees; and

 

 

 

 

Economically weak conditions in the Michigan and Ohio regions where a disproportionate number of our Company-owned restaurants are located.

We experience the effects of these trends directly to the extent they affect the operations of our Company-owned restaurants and indirectly to the extent they affect sales by our franchisees and, accordingly, the royalties and franchise fees we receive from them.

In recent years, our asset management business has experienced the following trends:

 

 

 

 

Growth in the hedge fund market as investors appear to have increased their investment allocations to hedge funds, with particular interest recently in hedge strategies that focus on specific areas of growth in domestic and foreign economies such as oil, commodities, interest rates,

36


 

equities and other specific areas, although such growth has moderated somewhat recently reflecting the recent performance of certain funds and the competitive market;

 

 

 

 

Increased demand for securities, partly due to an increase in the number of hedge funds, resulting in higher purchase prices of certain securities and, during periods of asset liquidation by those hedge funds, potentially lower sales prices, which can negatively impact our returns;

 

 

 

 

Short-term interest rates continue to increase more significantly than long-term interest rates, representing a flatter yield curve, resulting in higher funding costs for our securities purchases, which can negatively impact our margins within our managed funds, potentially lowering our asset management fees and assets under management; and

 

 

 

 

Increased merger and acquisition activity, resulting in additional risks and opportunities in the credit markets.

Presentation of Financial Information

We report on a fiscal year consisting of 52 or 53 weeks ending on the Sunday closest to December 31. However, Deerfield, the Opportunities Fund and DM Fund report or reported on a calendar year ending on December 31. Our 2004 fiscal year contained 53 weeks and each of our 2005 and 2006 fiscal years contained 52 weeks. In this discussion, we refer to the additional week in 2004 as the 53rd week in 2004. Our 2004 fiscal year commenced on December 29, 2003 and ended on January 2, 2005 except that for this period, Deerfield and the Opportunities Fund are included commencing July 23, 2004 and October 4, 2004, respectively, through their calendar year-end of December 31, 2004. Our 2005 fiscal year commenced on January 3, 2005 and ended on January 1, 2006 except that (a) RTM is included commencing July 26, 2005 and (b) Deerfield, the Opportunities Fund and, commencing March 1, 2005, the DM fund are included on a calendar year basis. Our 2006 fiscal year commenced on January 2, 2006 and ended on December 31, 2006 except that (a) Deerfield and the DM Fund are included on a calendar year basis and (b) the Opportunities Fund is included from January 1, 2006 through its September 29, 2006 redemption date. All references to years relate to fiscal years rather than calendar years, except for Deerfield, the Opportunities Fund and the DM Fund.

37


Results of Operations

Presented below is a table that summarizes our results of operations and compares the amount of the change between (1) 2004 and 2005, which we refer to as the 2005 Change, and (2) 2005 and 2006, which we refer to as the 2006 Change.

 

 

 

 

 

 

 

 

 

 

 

 

 

2004

 

2005

 

2006

 

2005
Change

 

2006
Change

 

 

(In Millions)

Revenues:

 

 

 

 

 

 

 

 

 

 

Net sales

 

 

$

 

205.6

   

 

$

 

570.8

   

 

$

 

1,073.3

   

 

$

 

365.2

   

 

$

 

502.5

 

Royalties and franchise and related fees

 

 

 

100.9

   

 

 

91.2

   

 

 

82.0

   

 

 

(9.7

)

 

 

 

 

(9.2

)

 

Asset management and related fees

 

 

 

22.1

   

 

 

65.3

   

 

 

88.0

   

 

 

43.2

   

 

 

22.7

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

328.6

   

 

 

727.3

   

 

 

1,243.3

   

 

 

398.7

   

 

 

516.0

 

 

 

 

 

 

 

 

 

 

 

 

Costs and expenses:

 

 

 

 

 

 

 

 

 

 

Cost of sales, excluding depreciation and amortization

 

 

 

162.6

   

 

 

418.0

   

 

 

778.6

   

 

 

255.4

   

 

 

360.6

 

Cost of services, excluding depreciation and amortization

 

 

 

7.8

   

 

 

24.8

   

 

 

35.3

   

 

 

17.0

   

 

 

10.5

 

Advertising and promotions

 

 

 

16.6

   

 

 

43.5

   

 

 

78.6

   

 

 

26.9

   

 

 

35.1

 

General and administrative, excluding depreciation and amortization

 

 

 

118.8

   

 

 

205.8

   

 

 

236.4

   

 

 

87.0

   

 

 

30.6

 

Depreciation and amortization, excluding amortization of deferred financing costs

 

 

 

20.1

   

 

 

36.6

   

 

 

66.2

   

 

 

16.5

   

 

 

29.6

 

Facilities relocation and corporate restructuring

 

 

 

 

13.5

   

 

 

3.3

   

 

 

13.5

   

 

 

(10.2

)

 

Loss on settlements of unfavorable franchise rights

 

 

 

 

17.2

   

 

 

0.9

   

 

 

17.2

   

 

 

(16.3

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

325.9

   

 

 

759.4

   

 

 

1,199.3

   

 

 

433.5

   

 

 

439.9

 

 

 

 

 

 

 

 

 

 

 

 

Operating profit (loss)

 

 

 

2.7

   

 

 

(32.1

)

 

 

 

 

44.0

   

 

 

(34.8

)

 

 

 

 

76.1

 

Interest expense

 

 

 

(34.2

)

 

 

 

 

(68.8

)

 

 

 

 

(114.1

)

 

 

 

 

(34.6

)

 

 

 

 

(45.3

)

 

Insurance expense related to long-term debt

 

 

 

(3.9

)

 

 

 

 

(2.3

)

 

 

 

 

 

1.6

   

 

 

2.3

 

Loss on early extinguishments of debt

 

 

 

 

(35.8

)

 

 

 

 

(14.1

)

 

 

 

 

(35.8

)

 

 

 

 

21.7

 

Investment income, net

 

 

 

21.7

   

 

 

55.3

   

 

 

80.2

   

 

 

33.6

   

 

 

24.9

 

Gain on sale of unconsolidated businesses

 

 

 

0.2

   

 

 

13.1

   

 

 

4.0

   

 

 

12.9

   

 

 

(9.1

)

 

Other income, net

 

 

 

0.4

   

 

 

3.9

   

 

 

4.7

   

 

 

3.5

   

 

 

0.8

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) from continuing operations before income taxes and minority interests

 

 

 

(13.1

)

 

 

 

 

(66.7

)

 

 

 

 

4.7

   

 

 

(53.6

)

 

 

 

 

71.4

 

(Provision for) benefit from income taxes

 

 

 

17.5

   

 

 

16.5

   

 

 

(4.4

)

 

 

 

 

(1.0

)

 

 

 

 

(20.9

)

 

Minority interests in income of consolidated subsidiaries

 

 

 

(2.9

)

 

 

 

 

(8.7

)

 

 

 

 

(11.5

)

 

 

 

 

(5.8

)

 

 

 

 

(2.8

)

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) from continuing operations

 

 

 

1.5

   

 

 

(58.9

)

 

 

 

 

(11.2

)

 

 

 

 

(60.4

)

 

 

 

 

47.7

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) from discontinued operations, net of income taxes:

 

 

 

 

 

 

 

 

 

 

Loss from operations

 

 

 

 

 

(0.4

)

 

 

 

 

 

(0.4

)

 

Gain on disposal

 

 

 

12.4

   

 

 

3.3

   

 

 

0.3

   

 

 

(9.1

)

 

 

 

 

(3.0

)

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) from discontinued operations

 

 

 

12.4

   

 

 

3.3

   

 

 

(0.1

)

 

 

 

 

(9.1

)

 

 

 

 

(3.4

)

 

 

 

 

 

 

 

 

 

 

 

 

Net income (loss)

 

 

$

 

13.9

   

 

$

 

(55.6

)

 

 

 

$

 

(11.3

)

 

 

 

$

 

(69.5

)

 

 

 

$

 

44.3

 

 

 

 

 

 

 

 

 

 

 

 

2006 Compared with 2005

Net Sales

Our net sales, which were generated entirely from our Company-owned restaurants, increased $502.5 million to $1,073.3 million for 2006 from $570.8 million for 2005, primarily due to the effect of including RTM in our results for all of 2006 but only for the portion of 2005 following the July 25, 2005 acquisition date. In addition, net sales were favorably affected by 22 net Company-owned restaurants added during 2006.

38


Same-store sales of our Company-owned restaurants increased one percent in 2006. When we refer to same-store sales, we mean only sales of those restaurants which were open during the same months in both of the comparable periods. Same-store sales of our Company-owned restaurants were positively impacted by (1) our 2006 marketing initiatives, including value oriented menu offerings, an enhanced menu board design and new promotions, (2) the launch in March 2006 of Arby’s Chicken Naturals®, a line of menu offerings made with 100 percent all natural chicken breast and (3) selective price increases implemented in November 2006. Partially offsetting these positive factors was the effect of higher fuel prices on consumers’ discretionary income which we believe had a negative impact on our sales beginning in the second half of 2005, although the effect moderated in the second half of 2006. Same-store sales growth of our Company-owned restaurants was less than the 5% same-store sales growth of our franchised restaurants discussed below primarily due to (1) the introduction and use throughout 2006 of local marketing initiatives by our franchisees similar to those initiatives which we were already using for Company-owned restaurants in 2005, including more effective local television advertising and increased couponing, and (2) the disproportionate number of Company-owned restaurants in the economically-weaker Michigan and Ohio regions which continue to underperform the system.

We currently anticipate positive same-store sales growth for 2007 of both Company-owned and franchised restaurants, although not necessarily in the first quarter and despite the weak economy in Michigan and Ohio, driven by the anticipated performance of various initiatives such as (1) a value program which offers a flexible combination of selected menu items for a discounted price, (2) planned additions of new limited time menu items, (3) the full year effect of the selective price increases that were implemented in November 2006 and (4) new product introductions. In addition to the anticipated positive effect of same store sales growth, net sales should also be positively impacted by an increase in Company-owned restaurants. We presently plan to open approximately 50 new Company-owned restaurants in 2007. We continually review the performance of any underperforming Company-owned restaurants and evaluate whether to close those restaurants, particularly in connection with the decision to renew or extend their leases. Specifically, we have 54 restaurant leases that are scheduled for renewal or expiration during 2007. We currently anticipate the renewal or extension of all but approximately 20 of those leases.

Royalties and Franchise and Related Fees

Our royalties and franchise and related fees, which were generated entirely from the franchised restaurants, decreased $9.2 million to $82.0 million for 2006 from $91.2 million for 2005, reflecting $16.3 million of royalties and franchise and related fees from RTM recognized in 2005 for the period prior to the RTM Acquisition whereas royalties and franchise and related fees from RTM are eliminated in consolidation for the full year of 2006. Aside from the effect of the RTM Acquisition, royalties and franchise and related fees increased $7.1 million in 2006, reflecting (1) a $3.2 million improvement in royalties due to a 5% increase in same- store sales of the franchised restaurants in 2006 as compared with 2005, (2) a $2.9 million net increase in royalties from the 94 franchised restaurants opened in 2006, with generally higher than average sales volumes, and the 16 restaurants sold to franchisees in 2006 replacing the royalties from the 40 generally underperforming restaurants closed and the elimination of royalties from 13 restaurants we acquired from franchisees in 2006 and (3) a $1.0 million increase in franchise and related fees. The increase in same-store sales of the franchised restaurants reflects the factors affecting same-store sales of our Company-owned restaurants as well as the additional factors affecting the franchised restaurants compared with our Company-owned restaurants discussed above under “Net Sales.”

We expect that our royalties and franchise and related fees will increase during 2007 as compared with 2006, although not necessarily in the first quarter, due to anticipated positive same-store sales growth of franchised restaurants from the expected performance of the various initiatives described above under “Net Sales” and the positive effect of net new restaurant openings by our franchisees.

Asset Management and Related Fees

Our asset management and related fees, which were generated entirely from the management of CDOs and Funds by Deerfield, increased $22.7 million, or 35%, to $88.0 million for 2006 from $65.3 million for 2005. This increase reflects (1) a $5.7 million increase in incentive fees from Funds other than the REIT, principally related to one of the Funds which experienced improved performance, including the impact of

39


higher assets under management, (2) $4.6 million in management and related fees from new CDOs and Funds, (3) a $4.4 million increase in management and incentive fees from the REIT principally reflecting the full year effect in 2006 of a $363.5 million increase in assets under management for the REIT resulting from an initial public stock offering in June 2005, (4) a $4.1 million increase in incentive fees from CDOs principally due to the recognition of contingent fees upon the early termination of a particular CDO and (5) a $3.9 million increase in management fees principally reflecting higher assets under management of previously existing CDOs and Funds other than the REIT. Assets under management for the REIT were $764.7 million as of September 30, 2006, upon which we receive a 1.75% per annum management fee and a quarterly incentive fee if a specified rate of return is met. Incentive fees are based upon the performance of the Funds and CDOs and, in accordance with our revenue recognition policy, are recognized when the amounts become fixed and determinable upon the close of a performance period for the Funds and the achievement of performance targets for the CDOs.

We expect that our asset management and related fees will increase during 2007 as compared with 2006 due to anticipated growth in assets under management from our existing Funds and the addition of new CDOs and Funds planned for 2007.

Cost of Sales, Excluding Depreciation and Amortization

Our cost of sales, excluding depreciation and amortization resulted entirely from the Company-owned restaurants. Cost of sales increased $360.6 million to $778.6 million for 2006 from $418.0 million for 2005, resulting in a gross margin of 27% for each year. We define gross margin as the difference between net sales and cost of sales divided by net sales. The increase in cost of sales is primarily attributable to the full year effect in 2006 of the restaurants acquired in the RTM Acquisition and the effect of the 22 net restaurants added in 2006. Our overall gross margin was positively affected by (1) the inclusion of restaurants acquired in the RTM Acquisition with their higher gross margins for the full year 2006 compared with only the portion of 2005 following the July 25, 2005 acquisition date, (2) our continuing implementation of the more effective operational procedures of the RTM restaurants at the restaurants we owned prior to the RTM Acquisition, (3) increased beverage rebates resulting from the agreement for Pepsi beverage products effective January 1, 2006 and (4) decreases in our cost of beef. These positive effects were substantially offset by the effect of increased price discounting principally in the second half of 2006 associated with our value oriented menu offerings. The gross margin for the restaurants acquired in the RTM Acquisition was significantly higher than that of the restaurants we owned prior to the RTM Acquisition principally due to RTM’s more effective operational procedures as well as higher average unit sales volumes which result in more favorable cost leverage.

We anticipate that our gross margin in 2007 will be relatively consistent with 2006 as a result of the positive effects of (1) our continuing implementation of the more efficient operational procedures of RTM throughout our other Company-owned restaurants, (2) cost savings from certain new commodity supply contracts negotiated by our purchasing cooperative and (3) the full year effect on our net sales of the selective price increases that were implemented in November 2006, all of which will be substantially offset by the effects of (1) our continued use of value oriented menu offerings, (2) anticipated cost increases as new distribution contracts are entered into in early 2007 reflecting the effects of higher fuel costs and (3) our efforts to eliminate non-naturally occurring trans fats from our products.

Cost of Services, Excluding Depreciation and Amortization

Our cost of services, excluding depreciation and amortization, which resulted entirely from the management of CDOs and Funds by Deerfield, increased $10.5 million, or 42%, to $35.3 million for 2006 from $24.8 million for 2005 principally due to the hiring of additional personnel to support our current and anticipated growth in assets under management and increased incentive compensation levels.

We expect that our cost of services will increase in 2007 as compared with 2006 in proportion with the anticipated growth in asset management and related fees discussed above. The increased cost of services will reflect additional headcount planned for 2007 in addition to the full year impact of the personnel hired during 2006 as well as related incentive compensation.

Our royalties and franchise and related fees have no associated cost of services.

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Advertising and Promotions

Our advertising and promotions expenses consist of third party costs for local and national television, radio, direct mail and outdoor advertising as well as point of purchase materials and local restaurant marketing. These expenses increased $35.1 million principally due to the full year effect on advertising and promotions in 2006 of the restaurants acquired in the RTM Acquisition. However, advertising and promotions expenses as a percentage of net sales decreased slightly from 7.6% in 2005 to 7.3% in 2006.

General and Administrative, Excluding Depreciation and Amortization

Our general and administrative expenses, excluding depreciation and amortization increased $30.6 million, reflecting a $54.9 million increase in general and administrative expenses of our restaurant segment principally relating to the full year effect of the RTM Acquisition on 2006. Such increase in our restaurant segment reflects (1) a $26.8 million increase in salaries and incentive compensation as a result of increased headcount due to the RTM Acquisition and the strengthening of the infrastructure of our restaurant segment, (2) a $10.3 million increase in fringe benefits, recruiting, travel, training and other employee-related costs resulting from the increased headcount, (3) a $7.6 million increase in costs related to outside consultants that we utilized to assist with the integration of RTM, including compliance with the Sarbanes-Oxley Act of 2002 and the integration of computer systems, (4) a $5.6 million increase in severance and related charges of which $4.0 million was in connection with the replacement of three senior restaurant executives during our 2006 second quarter and (5) a $4.7 million increase in employee share-based compensation resulting from the adoption of Statement of Financial Accounting Standards No. 123 (revised 2004) “Share-Based Payment,” which we refer to as SFAS 123(R), which we adopted effective January 2, 2006 (see discussion in following paragraphs). Aside from the increase attributable to our restaurant segment, general and administrative expenses decreased $24.3 million primarily due to (1) an $18.4 million decrease in share-based compensation (see the discussion in the following paragraphs), (2) a $3.6 million increase in the reimbursement of our expenses by a management company, which we refer to as the Management Company, formed by our Chairman and Chief Executive Officer and President and Chief Operating Officer, whom we refer to as the Executives, and our Vice Chairman, all of whom we refer to as the Principals, for the allocable cost of services provided by us to the management company and (3) a $0.5 million decrease in deferred compensation expense, from $2.2 million in 2005 to $1.7 million in 2006. The deferred compensation expense represents the net increase in the fair value of investments in two deferred compensation trusts, which we refer to as the Deferred Compensation Trusts, for the benefit of the Executives, as explained in more detail below under “Income (Loss) from Continuing Operations Before Income Taxes and Minority Interests.” The decrease from 2005 includes the effect of a $2.1 million impairment charge related to a significant decline in value of one of the investments in the Deferred Compensation Trusts recognized in 2006 with a corresponding equal reduction of “Investment income, net.”

As indicated above, effective January 2, 2006, we adopted SFAS 123(R) which revised Statement of Financial Accounting Standards No. 123 “Accounting for Stock-Based Compensation,” which we refer to as SFAS 123. As a result, we now measure the cost of employee services received in exchange for an award of equity instruments, including grants of employee stock options and restricted stock, based on the fair value of the award at the date of grant rather than its intrinsic value, the method we previously used. We are using the modified prospective application method under SFAS 123(R) and have elected not to use retrospective application. Thus, amortization of the fair value of all nonvested grants as of January 2, 2006, as determined under the previous pro forma disclosure provisions of SFAS 123, except as adjusted for estimated forfeitures, is included in our results of operations commencing January 2, 2006, and prior periods are not restated. Employee stock compensation grants or grants modified, repurchased or cancelled on or after January 2, 2006 are valued in accordance with SFAS 123(R). Had we used the fair value alternative under SFAS 123 during 2005, our pretax compensation expense using the Black-Scholes-Merton option pricing model would have been $15.6 million higher, or $10.0 million after taxes and minority interests, determined from the pro forma disclosure in Note 1 to our accompanying consolidated financial statements. As of December 31, 2006, there was $7.9 million of total unrecognized compensation cost related to nonvested share-based compensation grants which is expected to be amortized over a weighted-average period of 1.2 years. The adoption of SFAS 123(R) may also materially affect our share-based compensation expense in future periods as a result of any share-based compensation grants subsequent to December 31, 2006.

41


The Company’s total share-based compensation included in general and administrative expenses decreased $13.7 million, reflecting a $4.7 million increase in our restaurant segment more than offset by an $18.4 million decrease excluding our restaurant segment as disclosed above. The $13.7 million net decrease principally reflects a $16.4 million provision in 2005 for the intrinsic value of stock options exercised by the Executives that were replaced by us on the date of exercise, as compared with a $1.8 million provision in 2006 for the fair value of stock options granted by us to replace stock options exercised by two senior executive officers other than the Executives, in each case for our own tax planning reasons. We also recognized $4.2 million of lower share-based compensation on equity instruments of certain subsidiaries and our contingently issuable performance-based restricted shares of our class A and class B common stock granted in 2005 due to the declining amounts of compensation expense, which is recognized ratably over their vesting periods, principally as a result of vesting during 2006. These decreases were partially offset by the additional compensation expense of $6.9 million for the fair value of stock options recognized in 2006 under SFAS 123(R).

Depreciation and Amortization, Excluding Amortization of Deferred Financing Costs

Our depreciation and amortization, excluding amortization of deferred financing costs increased $29.6 million, principally reflecting the full year effect in 2006 of the RTM Acquisition and, to a much lesser extent, a $3.6 million increase in asset impairment charges principally related to underperforming restaurants and early termination of certain asset management contracts for CDOs.

Facilities Relocation and Corporate Restructuring

The charges of $3.3 million in 2006 included $3.2 million of general corporate expense principally representing a fee related to our decision in 2006 to terminate the lease of an office facility in Rye Brook, New York rather than continue our efforts to sublease the facility. The charges of $13.5 million in 2005 principally related to combining our then existing restaurant operations with those of RTM following the RTM Acquisition, as discussed in more detail in the comparison of 2005 with 2004.

Loss on Settlements of Unfavorable Franchise Rights

The loss of $0.9 million in 2006 related to certain of the 13 franchised restaurants we acquired during the year and the loss of $17.2 million in 2005 consisted principally of $17.0 million in connection with the RTM Acquisition. Under accounting principles generally accepted in the United States of America, which we refer to as GAAP, we are required to record as an expense and exclude from the purchase price of acquired restaurants the value of any franchise agreements that is attributable to royalty rates below the current 4% royalty rate that we receive on new franchise agreements. The amounts of the settlement losses represent the present value of the estimated amount of future royalties by which the royalty rate is unfavorable over the remaining life of the franchise agreements.

Interest Expense

Interest expense increased $45.3 million reflecting (1) a $33.6 million increase in interest expense on debt securities sold with an obligation to purchase or under agreements to repurchase in connection with the significant increase in the use of leverage in the Opportunities Fund prior to our effectively redeeming our investment as of September 29, 2006, which we refer to as the Redemption (see the paragraph below), (2) an $11.2 million net increase in interest expense reflecting the higher average debt of our restaurant segment following the July 25, 2005 term loan borrowing, which we refer to as the Term Loan, to provide financing for the RTM Acquisition and to refinance then existing higher interest rate debt of our restaurant segment, which we refer to as the Refinancing, and (3) $8.8 million of interest expense principally relating to the full year effect in 2006 of an increase in sale-leaseback and capitalized lease obligations due to the obligations assumed in the RTM Acquisition and obligations entered into subsequently both for new restaurants opened and the renewal of expiring leases. These increases were partially offset by an $8.4 million decrease in interest expense related to our 5% convertible notes due 2023, which we refer to as the Convertible Notes, due to the conversion or effective conversion of an aggregate $172.9 million principal amount of the Convertible Notes into shares of our class A and class B common stock mostly in February 2006, which we refer to as the

42


Convertible Notes Conversions, as discussed in more detail below under “Liquidity and Capital Resources—Convertible Notes.”

As a result of the Redemption we no longer consolidate the Opportunities Fund subsequent to September 29, 2006. Thus, interest expense and related net investment income, are no longer affected by the significant leverage associated with the Opportunities Fund after September 29, 2006, substantially reducing interest expense thereafter. Interest expense and net investment income associated with the Opportunities Fund were $54.2 million and $61.6 million, respectively, for 2006.

On June 30, 2006 and September 29, 2006, we made Term Loan principal prepayments from excess cash of $45.0 million and $6.0 million, respectively, which we refer to as the Term Loan Prepayments, which effective as of the respective repayment dates have reduced our interest expense for the Term Loan thereafter.

Insurance Expense Related to Long-Term Debt

Insurance expense related to long-term debt of $2.3 million in 2005 did not recur in 2006 due to the repayment of the related debt as part of the Refinancing.

Loss on Early Extinguishments of Debt

The loss on early extinguishments of debt of $35.8 million in 2005 resulted from the Refinancing and consisted of $27.4 million of prepayment penalties, $4.8 million of write-offs of previously unamortized deferred financing costs and original issue discount, $3.5 million of accelerated insurance payments related to the extinguished debt and $0.1 million of fees. The loss on early extinguishments of debt of $14.1 million in 2006 consisted of (1) $13.1 million which resulted from the Convertible Notes Conversions and consisted of $9.0 million of negotiated inducement premiums that we paid in cash and shares of our class B common stock, the write-off of $4.0 million of related previously unamortized deferred financing costs and $0.1 million of fees related to the conversions and (2) a $1.0 million write-off of previously unamortized deferred financing costs in connection with the Term Loan Prepayments.

Investment Income, Net

The following table summarizes and compares the major components of investment income, net:

 

 

 

 

 

 

 

 

 

2005

 

2006

 

Change

 

 

(In Millions)

Interest income

 

 

$

 

42.7

   

 

$

 

72.5

   

 

$

 

29.8

 

Other than temporary unrealized losses

 

 

 

(1.5

)

 

 

 

 

(4.1

)

 

 

 

 

(2.6

)

 

Recognized net gains

 

 

 

12.7

   

 

 

10.6

   

 

 

(2.1

)

 

Distributions, including dividends

 

 

 

1.9

   

 

 

1.5

   

 

 

(0.4

)

 

Other

 

 

 

(0.5

)

 

 

 

 

(0.3

)

 

 

 

 

0.2

 

 

 

 

 

 

 

 

 

 

 

$

 

55.3

   

 

$

 

80.2

   

 

$

 

24.9

 

 

 

 

 

 

 

 

Interest income increased $29.8 million principally due to higher average outstanding balances of our interest-bearing investments reflecting the use of significant leverage in the Opportunities Fund prior to the Redemption (see the paragraph below). Average rates on our investments increased from 4.0% in 2005 to 4.5% in 2006. In addition, the increase in the average rates was principally due to our investing through the use of leverage in the Opportunities Fund in some higher yielding, but more risk-inherent, debt securities with the objective of improving the overall return on our interest-bearing investments and the general increase in the money market and short-term interest rate environment. Despite the higher outstanding balances of our interest-bearing investments, these balances, net of related leveraging liabilities, decreased principally due to the liquidation of some of those investments to provide cash principally for the RTM Acquisition in July 2005. Our other than temporary unrealized losses increased $2.6 million, reflecting the recognition of a $2.1 million impairment charge related to the significant decline in the market value of one of the investments in the Deferred Compensation Trusts in 2006. The $2.1 million impairment charge related to the Deferred Compensation Trusts had a corresponding equal reduction of “General and administrative, excluding depreciation and amortization.” Any other than temporary unrealized losses are dependant upon the underlying economics and/or volatility in the value of our investments in available-for-sale securities and cost method

43


investments and may or may not recur in future periods. Our recognized net gains include (1) realized gains and losses on sales of our available-for-sale securities and our investments accounted for under the cost method of accounting and (2) realized and unrealized gains and losses on changes in the fair values of our trading securities, including derivatives, and our securities sold short with an obligation to purchase, which were principally recognized by the Opportunities Fund and the DM Fund. The $2.1 million decrease in our recognized net gains is principally due to lesser gains realized on the sales of two investment limited partnerships in 2006 compared with the gains realized on the sales of two investment limited partnerships in 2005, partially offset by a gain realized on the sale of another cost method investment in 2006 which did not occur in 2005. All of these recognized gains and losses may vary significantly in future periods depending upon the timing of the sales of our investments, or the changes in the value of our investments, as applicable.

As a result of the Redemption, our net investment income and interest expense are no longer affected by the significant leverage associated with the Opportunities Fund after September 29, 2006. Investment income, net and interest expense associated with the Opportunities Fund were $61.6 million and $54.2 million, respectively, for 2006.

As of December 31, 2006, we had unrealized holding gains and (losses) on available-for-sale marketable securities before income taxes and minority interests of $24.2 million and $(2.1) million, respectively, included in “Accumulated other comprehensive income.” We evaluated the unrealized losses to determine whether these losses were other than temporary and concluded that they were not. Should either (1) we decide to sell any of these investments with unrealized losses or (2) any of the unrealized losses continue such that we believe they have become other than temporary, we would recognize the losses on the related investments at that time.

Gain on Sale of Unconsolidated Businesses

The gain on sale of unconsolidated businesses decreased $9.1 million to $4.0 million for 2006 from $13.1 million for 2005. This decrease principally reflects (1) a $9.5 million decrease in gains on sales of portions of our investment in Encore Capital Group, Inc., an equity investee of ours which we refer to as Encore and (2) a $1.3 million decrease in non-cash gains from (a) our equity in the net proceeds to both the REIT in 2005 and Encore in 2005 and 2006 from their sales of stock, including shares issued for an Encore business acquisition in 2005 and exercises of stock options, over the portion of our respective carrying values allocable to our decrease in ownership percentages and (b) the final amortization in 2005 of deferred gain on a restricted Encore stock award to a former officer of ours. In accordance with our accounting policy, we recognize a non-cash gain or loss upon sale by an equity investee of any previously unissued stock to third parties to the extent of the decrease in our ownership of the investee to the extent realization of the gain is reasonably assured. These decreases were partially offset by a $1.7 million gain on sale of a portion of our cost basis investment in Jurlique International Pty Ltd., an Australian skin and beauty products company not publicly traded, which we refer to as Jurlique.

Other Income, Net

Other income, net increased $0.8 million, principally due to (1) $2.0 million of the full year effect in 2006 of rental income on restaurants leased primarily to franchisees, (2) $1.5 million of costs recognized in 2005 related to our decision not to pursue a certain financing alternative in connection with the RTM Acquisition and (3) $1.4 million of costs incurred in 2005 related to a business acquisition proposal we submitted but was not accepted. The positive effect of these factors on other income in 2006 were partially offset by (1) $2.1 million of costs recognized in 2006 related to a strategic business alternative that was not pursued, (2) a $0.9 million decrease from the foreign currency transaction and derivatives related to Jurlique from gains of $0.5 million in 2005 to losses of $0.4 million in 2006, (3) a $0.7 million gain recognized in 2005 on lease termination of an underperforming Company-owned restaurant and (4) a $0.3 million recovery in 2005 upon collection of a fully-reserved non-trade note receivable held by a subsidiary which predated our acquisition of that subsidiary.

Income (Loss) From Continuing Operations Before Income Taxes and Minority Interests

Our income (loss) from continuing operations before income taxes and minority interests improved $71.4 million to income of $4.7 million in 2006 from a loss of $66.7 million in 2005. This improvement is

44


attributed principally to the decrease in certain significant charges in 2006 as compared with 2005, including (1) a $21.7 million decrease in the loss on early extinguishments of debt, reflecting higher charges associated with the Refinancing in 2005 as compared with the charges associated with our Convertible Notes Conversions and Term Loan Prepayments in 2006, (2) a $16.3 million decrease in the loss on settlements of unfavorable franchise rights principally reflecting a $17.0 million loss in 2005 in connection with the RTM Acquisition, (3) a $14.3 million decrease in total share-based compensation, of which $13.7 million was reflected in general and administrative expenses, including $16.4 million of compensation expense in 2005 for the intrinsic value of stock options exercised by the Executives and replaced by us and (4) a $10.2 million decrease in facilities relocation and corporate restructuring charges principally in connection with combining our existing restaurant operations with those of RTM following the RTM Acquisition. The effects of the other variances are discussed in the captions above.

As discussed above, we recognized deferred compensation expense of $2.2 million in 2005 and $1.7 million in 2006, within general and administrative expenses, for net increases in the fair value of investments in the Deferred Compensation Trusts. Under GAAP, we recognize investment income for any interest or dividend income on investments in the Deferred Compensation Trusts, realized gains on sales of investments in the Deferred Compensation Trusts and investment losses for any losses deemed to be other than temporary, but are unable to recognize any investment income for unrealized increases in the fair value of those investments in the Deferred Compensation Trusts that are accounted for under the cost method of accounting. Accordingly, we recognized net investment income from investments in the Deferred Compensation Trusts of $1.8 million in 2005 and net investment losses of $1.0 million in 2006. The net investment income in 2005 consisted of realized gains from the sale of certain cost method investments in the Deferred Compensation Trusts of $2.0 million, which included increases in value prior to 2005 of $1.6 million, interest income of $0.1 million, less management fees of $0.3 million. The net investment loss during 2006 consists of an impairment charge of $2.1 million related to an investment fund within the Deferred Compensation Trusts which experienced a significant decline in market value which we deemed to be other than temporary and management fess of less than $0.1 million, less realized gains from the sale of certain cost method investments of $0.6 million, which included increases in value prior to 2006 of $0.4 million, equity in earnings of an equity method investment purchased and sold during 2006 of $0.4 million and interest income of $0.2 million. The cumulative disparity between (1) deferred compensation expense and net recognized investment income and (2) the obligation to the Executives and the carrying value of the assets in the Deferred Compensation Trusts will reverse in future periods as either (1) additional investments in the Deferred Compensation Trusts are sold and previously unrealized gains are recognized without any offsetting increase in compensation expense or (2) the fair values of the investments in the Deferred Compensation Trusts decrease, other than with respect to losses deemed to be other than temporary, resulting in the recognition of a reversal of compensation expense without any offsetting losses recognized in investment income.

(Provision For) Benefit From Income Taxes

The benefit from income taxes represented an effective rate of 25% in 2005 and the provision for income taxes represented an effective rate of 93% in 2006 on the respective income (loss) from continuing operations before income taxes and minority interests. The effective benefit rate in 2005 was lower than, and the effective provision rate in 2006 is higher than, the United States Federal statutory rate of 35% principally due to (1) the effect of non-deductible compensation and other non-deductible expenses, (2) state income taxes, net of Federal income tax benefit, due to the differing mix of pretax income or loss among the consolidated subsidiaries which file state tax returns on an individual company basis and (3) in 2005 the non-deductible loss on settlements of unfavorable franchise rights discussed above. These effects were partially offset by the effect of minority interests in income of consolidated subsidiaries which were not taxable to us but which are not deducted from the pretax income (loss) used to calculate the effective tax rates. The effects of each of these items on the effective tax and benefit rates were significantly different in 2005 and 2006 due to the relative levels of income (loss) from continuing operations before income taxes and minority interests in each of those years.

45


Minority Interests in Income of Consolidated Subsidiaries

The minority interests in income of consolidated subsidiaries increased $2.8 million, principally reflecting (1) an increase of $2.6 million due to increased income of Deerfield exclusive of costs discussed below in which we did not participate and (2) an increase of $1.3 million due to the increased participation of investors other than us in increased income of the Opportunities Fund prior to the Redemption on September 29, 2006. These increases were partially offset by $1.2 million of costs related to a strategic business alternative that was not pursued that were incurred on behalf of and allocated entirely to the minority shareholders of Deerfield and, accordingly, are reflected as a reduction of minority interests in income of consolidated subsidiaries in 2006.

Income (Loss) From Discontinued Operations

The income (loss) from discontinued operations declined $3.4 million from income of $3.3 million for 2005 to a loss of $0.1 million for 2006. The loss in 2006 consists of a $1.3 million loss from operations related to our closing two underperforming restaurants, substantially offset by gains on disposal consisting of (1) the release of $0.7 million of reserves for state income taxes no longer required upon the expiration of a state income tax statute of limitations and (2) the release of $0.5 million of certain other accruals as a result of revised estimates to liquidate the remaining liabilities. During 2005 we recorded an additional gain on disposal of $3.3 million resulting from (1) the release of $2.8 million of reserves for state income taxes no longer required upon the expiration of the statute of limitations for examinations of certain of our state income tax returns and (2) a $0.5 million gain from a sale of a former refrigeration property that had been held for sale and a reversal of a related reserve for potential environmental liabilities associated with the property that were assumed by the purchaser.

Net Loss

Our net loss decreased $44.3 million to $11.3 million in 2006 from $55.6 million in 2005. This improvement is attributed principally to decreases in the after tax and applicable minority interest effects of certain significant charges in 2006 as compared with 2005, including (1) $16.6 million from the loss on settlements of unfavorable franchise rights, (2) $12.9 million from the loss on early extinguishments of debt, (3) $10.2 million from share-based compensation and (4) $6.2 million from the facilities relocation and corporate restructuring charges, as well as the after tax and minority interest effects of other variances, as discussed in the captions above, all partially offset by the $3.4 million decrease in income from discontinued operations.

2005 Compared with 2004

Net Sales

Our net sales, which were generated entirely from the Company-owned restaurants, increased $365.2 million to $570.8 million for 2005 from $205.6 million for 2004, reflecting $357.5 million of net sales attributable to the restaurants acquired in the RTM Acquisition and 31 net restaurants added during 2005 after the RTM Acquisition. Aside from the effect of (1) the RTM Acquisition and the 31 net restaurants added thereafter during 2005 and (2) a $3.6 million effect of the inclusion of a 53rd week in 2004, net sales increased $11.3 million principally due to an approximate 5% growth in same-store sales of the 233 restaurants we already owned prior to the RTM Acquisition. The increase in same-store sales reflected (1) introductions of new Market Fresh® sandwiches and wraps and other menu items in 2005, (2) improved marketing including (a) an increase in print media advertising, primarily couponing, (b) the implementation of then new menu boards focused on combination meals and (c) more focused value menu programs and (3) operational initiatives targeting continued improvement in customer service levels and convenience. The positive effects of these factors were partially offset by (1) less favorable performance in Company-owned restaurants in the economically- weaker Michigan region, an area where approximately one-third of the restaurants we already owned prior to the RTM Acquisition are located and (2) the effect of higher fuel prices on consumers’ discretionary income which we believe had a negative impact on our sales during the second half of 2005. The restaurants we acquired in the RTM Acquisition had lower same-store sales performance for the 2005 period subsequent to the RTM Acquisition principally reflecting new product performance in the 2005 third quarter

46


that was less successful than that of 2004, which had particularly strong same-store sales performance with respect to those restaurants.

Royalties and Franchise and Related Fees

Our royalties and franchise and related fees, which were generated entirely from the franchised restaurants, decreased $9.7 million to $91.2 million for 2005 from $100.9 million for 2004, reflecting a $13.0 million decrease in royalties and franchise and related fees from RTM from $29.3 million in 2004 to $16.3 million in 2005. This decrease was principally due to the elimination in consolidation of royalties and franchise and related fees from RTM for the portion of 2005 subsequent to the RTM Acquisition. Excluding the royalties and franchise and related fees from RTM and an estimated $1.3 million effect of the inclusion of the 53rd week in 2004 which did not recur in 2005, royalties and franchise and related fees increased $4.6 million, reflecting (1) a $2.3 million net increase in royalties from the 76 franchised restaurants opened in 2005, with generally higher than average sales volumes, replacing the royalties from the 46 generally underperforming restaurants closed in 2005, (2) a $1.4 million improvement in royalties due to a 2% increase in same-store sales of the franchised restaurants, excluding the stores acquired in the RTM Acquisition, in 2005 as compared with 2004 and (3) a $0.9 million improvement in royalties as a result of slightly higher average royalty rates. The increase in same-store sales of the franchised restaurants reflects (1) the impact of new Market Fresh sandwiches and wraps and other menu items introduced in 2005, (2) improved marketing reflecting (a) the implementation of new menu boards, primarily by our larger franchisees, focused on combination meals, and (b) more targeted and value oriented local marketing programs and (3) operational initiatives targeting continued improvement in customer service levels and convenience. Partially offsetting these positive factors was the effect of higher fuel prices on consumers’ discretionary income which we believe had a negative impact on our franchisees’ sales in the second half of 2005. Franchise and related fees, excluding those from RTM, were relatively unchanged between the years.

Asset Management and Related Fees

Our asset management and related fees, which were generated entirely from the management of CDOs and Funds following the Deerfield Acquisition, increased $43.2 million to $65.3 million for 2005 from $22.1 million for 2004. Approximately $27.6 million of this increase was due to the effect of including Deerfield in our results for all of 2005 but only the portion of 2004 following the July 22, 2004 acquisition date. Aside from this effect, asset management and related fees increased approximately $15.6 million, of which $8.5 million was attributable to the REIT which commenced in December 2004. The remaining increase of $7.1 million in asset management and related fees was principally due to an increase in assets under management and the recording of $4.3 million of incentive fees in the 2004 period as an asset in connection with our accounting for the purchase of Deerfield and thus excluding them from our 2004 revenues.

Cost of Sales, Excluding Depreciation and Amortization

Our cost of sales, excluding depreciation and amortization resulted entirely from the Company-owned restaurants. Cost of sales increased $255.4 million to $418.0 million for 2005, resulting in a gross margin of 27%, from $162.6 million for 2004, resulting in a gross margin of 21%. Of this increase, $254.8 million is attributable to the restaurants acquired in the RTM Acquisition and the 31 net restaurants added during 2005 after the RTM Acquisition, which had a gross margin of 29%. Aside from the effect of (1) the RTM Acquisition and the 31 net restaurants added thereafter and (2) a $2.4 million effect of the inclusion of the 53rd week in 2004 which did not recur in 2005, cost of sales increased $3.0 million, or 2%, resulting in a gross margin of 24% in 2005 compared with 21% in 2004. The increase in cost of sales of the restaurants we already owned prior to the RTM Acquisition was due to their increased net sales discussed above. The improvement of 3% in gross margin of those restaurants is primarily attributable to (1) improved product mix reflecting higher sales of combination meals, which result in more sales of higher margin components and are emphasized in our then new menu board marketing, (2) improved oversight and training of store management, (3) improved operational reporting made available by the back office and point-of-sale restaurant systems implemented in the latter part of 2004, which facilitated reduced food waste and increased labor efficiencies and (4) the impact of price increases implemented primarily in the second half of 2004 for some of our menu items. Partially offsetting these improvements were higher costs related to incentive compensation as a result of

47


improved performance of those restaurants. The gross margin for the restaurants acquired in the RTM Acquisition was significantly higher than that of the restaurants we already owned prior to the RTM Acquisition due to RTM’s relatively more effective operational efficiencies resulting from management and procedural advantages as well as higher average unit sales volumes of the RTM restaurants which result in more favorable cost leverage.

Cost of Services, Excluding Depreciation and Amortization

Our cost of services, excluding depreciation and amortization, which resulted entirely from the management of CDOs and Funds following the Deerfield Acquisition, increased $17.0 million to $24.8 million for 2005 from $7.8 million for 2004. Approximately $9.9 million of this increase was due to the effect of including Deerfield for only the portion of 2004 following the July 22, 2004 acquisition date. Aside from this effect, cost of services increased approximately $7.1 million principally due to higher incentive compensation costs related to the increase in asset management and related fees described above and, to a much lesser extent, the hiring of additional personnel to support our growth in assets under management.

Our royalties and franchise and related fees have no associated cost of services.

Advertising and Promotions

Our advertising and promotions expenses consist of third party costs for local and national television, radio, direct mail and outdoor advertising as well as point of purchase materials and local restaurant marketing. These expenses increased $26.9 million, reflecting $25.7 million of advertising and promotions attributable to the restaurants acquired in the RTM Acquisition. Aside from the effect of the RTM Acquisition, advertising and promotions expenses increased $1.2 million principally due to increased spending of the restaurants we already owned prior to the RTM Acquisition for print media campaigns, primarily couponing.

General and Administrative, Excluding Depreciation and Amortization

Our general and administrative expenses, excluding depreciation and amortization increased $87.0 million partially reflecting general and administrative expenses of $31.1 million of RTM and $11.8 million attributable to the full year effect in 2005 of the Deerfield Acquisition. Aside from the effects of the RTM Acquisition and the Deerfield Acquisition, general and administrative expenses increased $44.1 million principally due to (1) a $28.3 million increase in share-based compensation (see the discussion in the following paragraph), (2) a $12.1 million increase in other employee compensation reflecting higher incentive compensation costs, increased headcount and higher employer payroll taxes principally on the share-based compensation, (3) a $2.3 million increase in rent expense due principally to rent expense for duplicative office space in 2005 and (4) other increases of $5.0 million. Partially offsetting these increases were (1) a $2.4 million aggregate decrease in employee severance, relocation and recruiting costs, excluding those costs reported in “Facilities relocation and corporate restructuring” in 2005, (2) a $0.8 million decrease in insurance expense due principally to a non-recurring $1.5 million expense in 2004 for an environmental liability insurance policy and (3) a $0.4 million decrease in deferred compensation expense, from $2.6 million in 2004 to $2.2 million in 2005. Deferred compensation expense represents the net increase in the fair value of investments in two deferred compensation trusts for the benefit of the Executives, as explained in more detail below under “Loss From Continuing Operations Before Income Taxes and Minority Interests.”

The $28.3 million increase in share-based compensation reflects (a) a $16.4 million provision for the intrinsic value of stock options exercised in December 2005 by the Executives that were replaced by us on the date of exercise for our own tax planning reasons, (b) recognition of $6.1 million related to the grant in March 2005 of shares of our contingently issuable performance-based restricted class A and class B common stock, respectively, and (c) amortization of $5.8 million related to the grant in November 2005 of equity interests in two of our subsidiaries that hold our interests in Deerfield and Jurlique granted to certain members of our management.

 

48


 

Depreciation and Amortization, Excluding Amortization of Deferred Financing Costs

Our depreciation and amortization, excluding amortization of deferred financing costs increased $16.5 million, principally reflecting $13.4 million of depreciation and amortization of RTM and $2.8 million attributable to the effect of the Deerfield Acquisition occurring on July 22, 2004.

Facilities Relocation and Corporate Restructuring

The charges of $13.5 million in 2005 consisted of $12.0 million related to our restaurant segment and $1.5 million of general corporate charges. The $12.0 million of charges in our restaurant segment principally related to combining our existing restaurant operations with those of RTM following the RTM Acquisition and relocating the corporate office of the restaurant group from Fort Lauderdale, Florida to new offices in Atlanta, Georgia. RTM and AFA Service Corporation, an independently controlled advertising cooperative, concurrently relocated from their former facilities in Atlanta to the new offices in Atlanta. The charges consisted of severance and employee retention incentives, employee relocation costs, lease termination costs and office relocation expenses. The general corporate charges of $1.5 million related to our decision in December 2005 not to move our corporate offices from New York City to a newly leased office facility in Rye Brook, New York. This charge represented our estimate as of the end of 2005 of all future costs, net of estimated sublease rental income, related to the Rye Brook lease subsequent to the decision not to move the corporate offices.

Loss on Settlements of Unfavorable Franchise Rights

Our loss on settlements of unfavorable franchise rights of $17.2 million in 2005 principally consisted of $17.0 million in connection with the RTM Acquisition. This loss was recognized in accordance with GAAP as discussed in more detail in the comparison of 2006 with 2005.

Interest Expense

Interest expense increased $34.6 million reflecting (1) a $19.7 million increase in interest expense on debt securities sold with an obligation to purchase or under agreements to repurchase in connection with the use of significant leverage in the Opportunities Fund, which did not commence until October 2004, (2) a $7.1 million net increase in interest expense in connection with the RTM Acquisition, (3) the release in 2004 of $4.3 million of interest accruals no longer required upon the finalization by the Internal Revenue Service of its examination of our Federal income tax returns for the years ended December 31, 2000 and December 30, 2001, which we refer to as the IRS Examination, and (4) $3.6 million of interest expense relating to sale-leaseback and capitalized lease obligations of RTM which we acquired but which were not refinanced and, to a much lesser extent, additional obligations for new restaurants opened subsequent to the RTM Acquisition. The net increase in interest expense in connection with the RTM Acquisition reflects a $351.6 million net increase in our level of new debt following the Refinancing compared with our previous debt that was refinanced due to (1) the refinancing of $212.0 million of acquired debt of RTM and (2) $139.6 million of new debt proceeds used to fund a portion of the purchase price in the RTM Acquisition and to pay related fees and expenses, including $31.0 million related to the early extinguishment of debt discussed below under “Loss on Early Extinguishments of Debt.” This effect on interest expense of the $351.6 million increased level of debt is partially offset by the effect of the lower interest rate on the new debt.

Insurance Expense Related to Long-Term Debt

Insurance expense related to long-term debt decreased $1.6 million principally due to the repayment of the related debt as part of the Refinancing. All insurance costs relating to periods subsequent to the debt repayment were paid in connection with the Refinancing and reported in “Loss on early extinguishments of debt.”

Loss on Early Extinguishments of Debt

The loss on early extinguishments of debt of $35.8 million in 2005 resulted from the Refinancing and consisted of $27.4 million of prepayment penalties, $4.8 million of write-offs of previously unamortized

49


deferred financing costs and original issue discount, $3.5 million of accelerated insurance payments related to the extinguished debt and $0.1 million of fees.

Investment Income, Net

The following table summarizes and compares the major components of investment income, net:

 

 

 

 

 

 

 

 

 

2004

 

2005

 

Change

 

 

(In Millions)

Interest income

 

 

$

 

16.3

   

 

$

 

42.7

   

 

$

 

26.4

 

Other than temporary unrealized losses

 

 

 

(6.9

)

 

 

 

 

(1.5

)

 

 

 

 

5.4

 

Recognized net gains

 

 

 

10.6

   

 

 

12.7

   

 

 

2.1

 

Distributions, including dividends

 

 

 

2.5

   

 

 

1.9

   

 

 

(0.6

)

 

Other

 

 

 

(0.8

)

 

 

 

 

(0.5

)

 

 

 

 

0.3

 

 

 

 

 

 

 

 

 

 

 

$

 

21.7

   

 

$

 

55.3

   

 

$

 

33.6

 

 

 

 

 

 

 

 

Interest income increased $26.4 million principally due to higher average outstanding balances of our interest-bearing investments due to the use of leverage in the Opportunities Fund. In addition, average rates on our investments increased from 2.5% in 2004 to 4.0% in 2005. The increase in the average rates was principally due to our investing through the use of leverage in the Opportunities Fund in some higher yielding, but more risk-inherent, debt securities with the objective of improving the overall return on our interest-bearing investments, and the general increase in the money market and short-term interest rate environment. Despite the higher outstanding balances of our interest-bearing investments, these balances, net of related leveraging liabilities, decreased principally due to the liquidation of some of those investments to provide cash for the Deerfield Acquisition in July 2004 and the RTM Acquisition in July 2005. Our other than temporary unrealized losses, as discussed in more detail in the comparison of 2006 with 2005, decreased $5.4 million reflecting the recognition of $6.9 million of impairment charges in 2004 based on significant declines in market values of some of our higher yielding, but more risk-inherent, debt investments, as well as declines in three of our available-for-sale investments in publicly-traded companies, compared with $1.5 million of other than temporary unrealized losses in 2005 related to various securities, including a large publicly-traded company which represented $0.7 million of these losses. Our recognized net gains, as discussed in more detail in the comparison of 2006 with 2005, increased $2.1 million principally due to an increase in realized gains on sales of available-for-sale securities and an unrealized gain on put and call option combinations on an equity security in 2005, both partially offset by lower gains realized on the sales of several investment limited partnerships and other cost-method investments in 2005 compared with 2004. During 2004 and 2005, our recognized net gains included $2.4 million and $2.0 million, respectively, of realized gains from the sale of certain cost- method investments in the Deferred Compensation Trusts, as explained in more detail below under “Loss from Continuing Operations Before Income Taxes and Minority Interests.”

Gain on Sale of Unconsolidated Businesses

The gain on sale of unconsolidated businesses increased $12.9 million to $13.1 million for 2005 from $0.2 million for 2004. The gain in 2005 consists of (1) $11.7 million of gains on sales of a portion of our investment in Encore and (2) $1.4 million of non-cash gains from (a) our equity in the net proceeds to both the REIT and Encore from their sales of stock, including exercises of stock options and shares issued for an Encore business acquisition, over the portion of our respective carrying values allocable to our decrease in ownership percentages and (b) the final amortization in 2005 of deferred gain on a restricted Encore stock award to a former officer of ours.

Other Income, Net

Other income, net increased $3.5 million, principally due to (1) a $2.0 million improvement in foreign currency transaction and derivatives related to Jurlique from losses of $1.5 million in 2004 to gains of $0.5 million in 2005, (2) $1.2 million of rental income of RTM in 2005 subsequent to the RTM Acquisition on restaurants leased primarily to franchisees, (3) a $0.8 million increase in equity in net earnings of investees entirely due to equity in earnings of the REIT, in which we made an investment in December 2004, (4) a $0.7

50


million gain on lease termination in 2005 of an underperforming Company-owned restaurant and (5) a $0.3 million recovery in 2005 upon collection of a fully-reserved non-trade note receivable held by a subsidiary which predated our acquisition of that subsidiary. These increases were partially offset by $1.5 million of costs recognized in 2005 related to our decision not to pursue a certain financing alternative in connection with the RTM Acquisition and a $0.6 million decrease in costs related to proposed business acquisitions not consummated to $1.4 million in 2005 from $2.0 million in 2004.

Loss From Continuing Operations Before Income Taxes and Minority Interests

Our loss from continuing operations before income taxes and minority interests increased $53.6 million to $66.7 million in 2005 from $13.1 million in 2004 attributed to (1) the increase in share-based compensation of $28.3 million, including $16.4 million of compensation expense in 2005 for the intrinsic value of the stock options exercised by the Executives and replaced by us, (2) the loss on settlements of unfavorable franchise rights of $17.2 million, (3) the facilities relocation and corporate restructuring charges of $13.5 million and (4) the loss on early extinguishments of debt of $35.8 million, the latter three items principally in connection with the RTM Acquisition, as well as the effect of the other variances discussed in the captions above.

As discussed above, we recognized deferred compensation expense of $2.6 million in 2004 and $2.2 million in 2005, within general and administrative expenses, for net increases in the fair value of investments in the Deferred Compensation Trusts. Under GAAP, we recognize investment income for any interest or dividend income on investments in the Deferred Compensation Trusts, realized gains on sales of investments in the Deferred Compensation Trusts and investment losses for any losses deemed to be other than temporary, but are unable to recognize any investment income for unrealized increases in the fair value of those investments in the Deferred Compensation Trusts that are accounted for under the cost method of accounting. Accordingly, we recognized net investment income from investments in the Deferred Compensation Trusts of $2.1 million and $1.8 million in 2004 and 2005, respectively, consisting of realized gains from the sale of certain cost method investments in the Deferred Compensation Trusts of $2.4 million and $2.0 million, respectively, which included increases in value prior to 2004 and 2005 of $1.8 million and $1.6 million, respectively, interest and dividend income of less than $0.1 million in 2004 and $0.1 million in 2005, less investment management fees of $0.3 million in each year.

Benefit From Income Taxes

The benefit from income taxes represented effective rates of 25% in 2005 and 134% in 2004 on the respective losses from continuing operations before income taxes and minority interests. The effective benefit rate in 2005 is lower due to the release of $14.6 million of income tax reserves related to our continuing operations in 2004 which were no longer required upon the finalization of the IRS Examination and a state income tax examination and the expiration of the statute of limitations for examinations of certain state income tax returns. We did not release any income tax reserves relating to continuing operations in 2005.

Minority Interests in Income of Consolidated Subsidiaries

The minority interests in income of consolidated subsidiaries increased $5.8 million, reflecting $3.3 million due to the effect of the Deerfield Acquisition in July 2004, $2.3 million due to increased income of Deerfield and $0.2 million due to the participation of investors other than us in the Opportunities Fund.

Income From Discontinued Operations

The income from discontinued operations declined $9.1 million to $3.3 million for 2005 from $12.4 million for 2004. During 2004 we recorded an additional gain on disposal of $12.4 million relating to our former beverage businesses resulting from the release of income tax reserves which were no longer required upon finalization of the IRS Examination and the expiration of the statute of limitations for examinations of certain of our state income tax returns. During 2005 we recorded an additional gain on disposal of $3.3 million resulting from (1) the release of $2.8 million of reserves for state income taxes no longer required upon the expiration of the statute of limitations for examinations of certain of our state income tax returns and (2) a $0.5 million gain from a sale of a former refrigeration property that had been held for sale and reversal of a related reserve for potential environmental liabilities associated with the property that were assumed by the purchaser.

 

51


Net Income (Loss)

Our net income (loss) declined $69.5 million to a net loss of $55.6 million in 2005 from net income of $13.9 million in 2004 attributed to the after tax and applicable minority interest effects of (1) $20.2 million from the increase in share-based compensation, including $10.5 million for the intrinsic value of the stock options exercised by the Executives and replaced by us, (2) $17.2 million from the loss on settlements of unfavorable franchise rights, (3) $8.3 million from the facilities relocation and corporate restructuring charges, (4) $21.9 million from the loss on early extinguishments of debt, the latter three items principally in connection with the RTM Acquisition, (5) $14.6 million from the release of income tax reserves relating to continuing operations in 2004, which did not recur in 2005, and (6) $9.1 million from the decline in income from discontinued operations principally from the release of less income tax reserves relating to discontinued operations in 2005 compared with 2004, as well as the after tax and minority interest effects of the other variances discussed in the caption above.

Liquidity and Capital Resources

Cash Flows From Continuing Operating Activities

Our consolidated operating activities from continuing operations provided cash and cash equivalents, which we refer to in this discussion as cash, of $602.1 million during 2006 principally reflecting operating investment adjustments of $574.4 million.

The net operating investment adjustments principally reflect $579.3 million of net proceeds from sales of trading securities and settlements of trading derivatives which were used for the net payments to cover securities sold short and to make net payments under repurchase agreements. Under GAAP, the net sales of trading securities and the net settlements of trading derivatives must be reported in continuing operating activities in the accompanying consolidated statements of cash flows. However, net amounts to cover securities sold short and net payments under repurchase agreements are reported in continuing investing activities in the accompanying consolidated statements of cash flows. The cash used by changes in current assets and liabilities associated with operating activities of $7.2 million principally reflects an $8.4 million decrease in accounts payable and accrued expenses and other current liabilities principally due to accelerated payments to vendors in 2006 and unusually high balances at year-end 2005 due to strategic purchases of fountain beverage products in late 2005. Other adjustments to reconcile the $11.3 million net loss to the cash provided by continuing operating activities were principally comprised of non-cash adjustments for depreciation and amortization of $68.3 million, a share-based compensation provision of $15.9 million and minority interests in income of consolidated subsidiaries of $11.5 million, all partially offset by payments of $56.6 million of withholding taxes relating to stock compensation for which the Company withheld as payment, at the option of the respective employees, shares of its common stock that would otherwise have been issuable upon the exercises of stock options and vesting of restricted stock.

Excluding the effect of the net sales of trading securities and net settlements of trading derivatives, which represent the liquidation of discretionary investments of excess cash, our continuing operating activities provided cash of $22.8 million in 2006. We expect positive cash flows from continuing operating activities again during 2007, excluding the effect, if any, of (1) net sales or purchases of trading securities and (2) possible severance and contractual settlement payments in connection with a potential corporate restructuring as discussed below under “Potential Corporate Restructuring.”

Working Capital and Capitalization

Working capital, which equals current assets less current liabilities, was $161.2 million at December 31, 2006, reflecting a current ratio, which equals current assets divided by current liabilities, of 1.7:1. Working capital at December 31, 2006 decreased $135.2 million from $296.4 million at January 1, 2006, primarily resulting from (1) dividend payments of $70.0 million and (2) the Term Loan Prepayments of $51.0 million.

Our total capitalization at December 31, 2006 was $1,199.2 million, consisting of stockholders’ equity of $474.6 million, long-term debt of $720.0 million, including current portion, and notes payable of $4.6 million. Our total capitalization at December 31, 2006 decreased $118.0 million from $1,317.2 million at January 1, 2006 principally reflecting (1) dividends paid of $70.0 million, (2) common stock of $56.6 million withheld as payment for withholding taxes related to stock options exercised and restricted stock vested,

52


(3) $19.2 million from the net decrease of long-term debt and notes payable less the effect of the shares issued in the Convertible Notes Conversions and (4) our net loss of $11.3 million, all partially offset by (1) a $15.9 million increase in “Additional paid-in capital” resulting from the recognition of share-based compensation, (2) other comprehensive income of $9.4 million principally reflecting net unrealized gains on available-for-sale securities and (3) proceeds from stock option exercises of $8.6 million.

Credit Agreement

In connection with the RTM Acquisition, we entered into a credit agreement, which we refer to as the Credit Agreement, for our restaurant segment. The Credit Agreement includes the Term Loan with a remaining principal balance of $559.7 million as of December 31, 2006 and a senior secured revolving credit facility of $100.0 million, under which there were no borrowings as of December 31, 2006. However, the availability under the facility as of December 31, 2006 was $93.5 million, which is net of a reduction of $6.5 million for outstanding letters of credit. The Term Loan is due $6.2 million in each year through 2010, $294.5 million in 2011 and $240.4 million in 2012. However, the Term Loan requires prepayments of principal amounts resulting from certain events and, beginning in 2007, from excess cash flow of the restaurant segment as determined under the Credit Agreement.

Sale-Leaseback Obligations

We have outstanding $86.7 million of sale-leaseback obligations as of December 31, 2006, which relate to our restaurant segment and are due through 2027, of which $1.9 million is due in 2007.

Capitalized Lease Obligations

We have outstanding $60.9 million of capitalized lease obligations as of December 31, 2006, which relate to our restaurant segment and extend through 2036, of which $2.7 million is due in 2007.

Convertible Notes

We have outstanding at December 31, 2006, $2.1 million of Convertible Notes which do not have any scheduled principal repayments prior to 2023 and are convertible into 52,000 shares of our class A common stock and 105,000 shares of our class B common stock. The Convertible Notes are redeemable at our option commencing May 20, 2010 and at the option of the holders on May 15, 2010, 2015 and 2020 or upon the occurrence of a fundamental change, as defined, relating to us, in each case at a price of 100% of the principal amount of the Convertible Notes plus accrued interest.

In 2006, an aggregate of $172.9 million principal amount of the Convertible Notes were converted or effectively converted into an aggregate of 4,323,000 shares of our class A common stock and 8,645,000 shares of our class B common stock. In order to induce the effective conversions, we paid negotiated premiums aggregating $9.0 million to some converting noteholders consisting of cash of $5.0 million and 244,000 shares of our class B common stock with an aggregate fair value of $4.0 million based on the closing market price of our class B common stock on the dates of the effective conversions in lieu of cash to certain of those noteholders.

Other Long-Term Debt

We have outstanding a secured bank term loan payable through 2008 in the amount of $5.4 million as of December 31, 2006, of which $3.2 million is due in 2007. We also have outstanding $4.0 million under a revolving note which is due in 2009 but which we expect to repay during 2007. Additionally, we have outstanding $1.2 million of leasehold notes as of December 31, 2006, which are due through 2018, of which $0.1 million is due in 2007.

Notes Payable

We have outstanding $4.6 million of notes payable as of December 31, 2006 which relate to our asset management segment and are secured by some of our short-term investments in preferred shares of CDOs as of December 31, 2006. These notes are non-recourse except in limited circumstances and have no stated

53


maturities but must be repaid from either a portion or all of the distributions we receive on, or sales proceeds from, the respective preferred shares of CDOs, as well as a portion of the asset management fees to be paid to us from the respective CDOs.

Revolving Credit Facilities

We have $93.5 million available for borrowing under our restaurant segment’s $100.0 million revolving credit facility as of December 31, 2006, which is net of the reduction of $6.5 million for outstanding letters of credit noted above. In February 2006, our asset management segment entered into a $10.0 million revolving note, of which $4.0 million was outstanding, which we expect to repay during 2007, and $6.0 million was available as of December 31, 2006. In addition, effective January 1, 2007 we have a $30.0 million conditional funding commitment from a real estate finance company for sale-leaseback financing for development and operation of Arby’s restaurants. This conditional funding commitment, which replaced a similar one which ended on December 31, 2006, ends on June 30, 2007 with the option to extend it for an additional six months.

Debt Repayments and Covenants

Our total scheduled long-term debt and notes payable repayments during 2007 are $21.0 million consisting of $6.2 million under our Term Loans, $4.0 million expected to be paid under our revolving note, $3.2 million under our secured bank term loan, $2.9 million expected to be paid under our notes payable, $2.7 million relating to capitalized leases, $1.9 million relating to sale-leaseback obligations and $0.1 million under our leasehold notes.

Our Credit Agreement contains various covenants relating to our restaurant segment, the most restrictive of which (1) require periodic financial reporting, (2) require meeting certain leverage and interest coverage ratio tests and (3) restrict, among other matters, (a) the incurrence of indebtedness, (b) certain asset dispositions, (c) certain affiliate transactions, (d) certain investments, (e) certain capital expenditures and (f) the payment of dividends indirectly to Triarc. We were in compliance with all of these covenants as of December 31, 2006. During 2006 we made the Term Loan Prepayments aggregating $51.0 million from excess cash. We may make additional prepayments of the Term Loan during 2007 under certain circumstances, including if those payments would be necessary for continued compliance with the Credit Agreement. As of December 31, 2006 there was $26.9 million available for the payment of dividends indirectly to Triarc under the covenants of the Credit Agreement.

A significant number of the underlying leases for our sale-leaseback obligations and our capitalized lease obligations, as well as our operating leases, require or required periodic financial reporting of certain subsidiary entities within our restaurant segment or of individual restaurants, which in many cases has not been prepared or reported. We have negotiated waivers and alternative covenants with our most significant lessors which substitute consolidated financial reporting of our restaurant segment for that of individual subsidiary entities and which modify restaurant level reporting requirements for more than half of the affected leases. Nevertheless, as of December 31, 2006, we were not in compliance, and remain not in compliance, with the reporting requirements under those leases for which waivers and alternative financial reporting covenants have not been negotiated. However, none of the lessors has asserted that we are in default of any of those lease agreements. We do not believe that this non-compliance will have a material adverse effect on our consolidated financial position or results of operations.

54


Contractual Obligations

The following table summarizes the expected payments under our outstanding contractual obligations at December 31, 2006:

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Years

 

Total

 

2007

 

2008-2009

 

2010-2011

 

After 2011

 

 

(In Millions)

Long-term debt (a)

 

 

$

 

13.5

   

 

$

 

14.7

   

 

$

 

301.0

   

 

$

 

243.2

   

 

$

 

572.4

 

Sale-leaseback obligations (b)

 

 

 

1.9

   

 

 

4.7

   

 

 

6.1

   

 

 

74.0

   

 

 

86.7

 

Capitalized lease obligations (b)

 

 

 

2.7

   

 

 

5.8

   

 

 

6.3

   

 

 

46.1

   

 

 

60.9

 

Operating leases (c)

 

 

 

76.5

   

 

 

143.8

   

 

 

122.8

   

 

 

454.1

   

 

 

797.2

 

Deferred compensation payable to related parties (d)

 

 

 

 

35.7

   

 

 

 

 

35.7

 

Purchase obligations (e)

 

 

 

20.7

   

 

 

18.3

   

 

 

18.4

   

 

 

47.9

   

 

 

105.3

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

$

 

115.3

   

 

$

 

223.0

   

 

$

 

454.6

   

 

$

 

865.3

   

 

$

 

1,658.2

 

 

 

 

 

 

 

 

 

 

 

 


 

 

(a)

 

 

 

Excludes sale-leaseback and capitalized lease obligations, which are shown separately in the table, and interest.

 

(b)

 

 

 

Excludes interest.

 

(c)

 

 

 

Represents the future minimum rental obligations, including $42.2 million of unfavorable lease amounts included in “Other liabilities” in our consolidated balance sheet as of December 31, 2006 which will reduce our rent expense in future periods. Also, these amounts have not been decreased by $61.0 million of related sublease rental obligations due to us.

 

(d)

 

 

 

Represents amounts due to the Executives in 2008, which can be settled either by the payment of cash or transfer of the investments held in the Deferred Compensation Trusts.

 

(e)

 

 

 

Includes (1) an approximate $84.0 million remaining obligation for our Company-owned restaurants to purchase PepsiCo, Inc. beverage products under an agreement to serve PepsiCo beverage products in all of our Company-owned and franchised restaurants and (2) $18.8 million of purchase obligations for expected future capital expenditures.

Guarantees and Commitments

Our wholly-owned subsidiary, National Propane Corporation, which we refer to as National Propane, retains a less than 1% special limited partner interest in our former propane business, now known as AmeriGas Eagle Propane, L.P., which we refer to as AmeriGas Eagle. National Propane agreed that while it remains a special limited partner of AmeriGas Eagle, National Propane would indemnify the owner of AmeriGas Eagle for any payments the owner makes related to the owner’s obligations under certain of the debt of AmeriGas Eagle, aggregating approximately $138.0 million as of December 31, 2006, if AmeriGas Eagle is unable to repay or refinance such debt, but only after recourse by the owner to the assets of AmeriGas Eagle. National Propane’s principal asset is an intercompany note receivable from Triarc in the amount of $50.0 million as of December 31, 2006. We believe it is unlikely that we will be called upon to make any payments under this indemnity. Prior to 2004 AmeriGas Propane, L.P., which we refer to as AmeriGas Propane, purchased all of the interests in AmeriGas Eagle other than National Propane’s special limited partner interest. Either National Propane or AmeriGas Propane may require AmeriGas Eagle to repurchase the special limited partner interest. However, we believe it is unlikely that either party would require repurchase prior to 2009 as either AmeriGas Propane would owe us tax indemnification payments if AmeriGas Propane required the repurchase or we would accelerate payment of deferred taxes of $36.0 million as of December 31, 2006, including $34.5 million associated with the gain on sale of the propane business and the remainder associated with other tax basis differences, prior to 2004, of our propane business if National Propane required the repurchase. As of December 31, 2006, we have net operating loss tax carryforwards sufficient to offset the remaining deferred taxes.

RTM guarantees the lease obligations of 23 RTM restaurants formerly operated by affiliates of RTM as of December 31, 2006, which we refer to as the Affiliate Lease Guarantees. The RTM selling stockholders have

55


indemnified us with respect to the guarantee of the remaining lease obligations. In addition, RTM remains contingently liable for 21 leases for restaurants sold by RTM prior to the RTM Acquisition if the respective purchasers do not make the required lease payments. All of these lease obligations, which extend through 2025, including all existing extension or renewal option periods, could aggregate a maximum of approximately $39.0 million as of December 31, 2006, including approximately $33.0 million under the Affiliate Lease Guarantees, assuming all scheduled lease payments have been made by the respective tenants through December 31, 2006.

Commencing July 22, 2007, two of Deerfield’s executives will have certain rights to require us to acquire their economic interests in Deerfield, which aggregate 35.5% of the capital interests and 34.3% of the profit interests, at a price equal to the then current fair market value of those interests and are subject to acceleration under certain circumstances.

Capital Expenditures

Cash capital expenditures amounted to $80.3 million in 2006, including $7.9 million related to Deerfield which is not expected to recur in 2007. We expect that cash capital expenditures will be approximately $70.0 million and non-cash capital expenditures consisting of capitalized leases will be approximately $22.0 million in 2007 principally relating to (1) the opening of an estimated 50 new Company-owned restaurants, (2) remodeling some of our existing restaurants and (3) maintenance capital expenditures for our Company-owned restaurants. We have $18.8 million of outstanding commitments for capital expenditures as of December 31, 2006, of which $11.8 million is expected to be paid in 2007.

Dividends

During 2006 we paid regular quarterly cash dividends of $0.08 and $0.09 per share on our class A and class B common stock, respectively, aggregating $30.5 million. In addition, we paid three special cash dividends of $0.15 per share each on our class A common stock and class B common stock aggregating $39.5 million. On February 5, 2007, we declared regular quarterly cash dividends of $0.08 and $0.09 per share on our class A common stock and class B common stock, respectively, payable on March 15, 2007 to holders of record on March 1, 2007. Our board of directors has determined that until June 30, 2007 regular quarterly cash dividends paid on each share of class B common stock will be at least 110% of the regular quarterly cash dividends paid on each share of class A common stock, but has not yet made any similar determination beyond that date. Accordingly, after June 30, 2007, our class B common stock will be entitled to participate at least equally on a per share basis with our class A common stock in any cash dividends. We currently intend to continue to declare and pay regular quarterly cash dividends; however, there can be no assurance that any regular quarterly dividends will be declared or paid in the future or of the amount or timing of such dividends, if any. If we pay regular quarterly cash dividends for the remainder of 2007 at the same rate as declared in our 2007 first quarter and do not pay any special cash dividends, our total cash requirement for dividends for all of 2007 would be $32.0 million based on the number of our class A and class B common shares outstanding at February 15, 2007.

Income Taxes

During 2004, the Internal Revenue Service finalized its examination of our Federal income tax returns for the years ended December 31, 2000 and December 30, 2001 without any additional income tax liability to us. Our Federal income tax returns subsequent to December 30, 2001 are not currently under examination by the Internal Revenue Service although some of our state income tax returns are currently under examination. We have received notices of proposed tax adjustments aggregating $6.4 million in connection with certain of these state income tax returns. However, we have disputed these notices and, accordingly, cannot determine the ultimate amount of any resulting tax liability or any related interest and penalties.

Treasury Stock Purchases

Our management is currently authorized, when and if market conditions warrant and to the extent legally permissible, to repurchase through June 30, 2007 up to a total of $50.0 million of our class A and class B common stock. However, due to the previously announced potential corporate restructuring, as discussed in more detail below under “Potential Corporate Restructuring,” we expect to be precluded from repurchasing

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shares at certain times. We did not make any treasury stock purchases during 2006 and we cannot assure you that we will repurchase any shares under this program in the future.

Universal Shelf Registration Statement

In December 2003, the Securities and Exchange Commission declared effective a Triarc universal shelf registration statement in connection with the possible future offer and sale, from time to time, of up to $2.0 billion of our common stock, preferred stock, debt securities and warrants to purchase any of these types of securities. Unless otherwise described in the applicable prospectus supplement relating to any offered securities, we anticipate using the net proceeds of each offering for general corporate purposes, including financing of acquisitions and capital expenditures, additions to working capital and repayment of existing debt. We have not presently made any decision to issue any specific securities under this universal shelf registration statement.

Cash Requirements

Our consolidated cash requirements for continuing operations for 2007, exclusive of operating cash flow requirements, consist principally of (1) cash capital expenditures of approximately $70.0 million, (2) a maximum of an aggregate $50.0 million of payments for repurchases, if any, of our class A and class B common stock for treasury under our current stock repurchase program, (3) regular quarterly cash dividends aggregating approximately $32.0 million, (4) scheduled debt principal repayments aggregating $21.0 million, (5) any prepayments under our Credit Agreement and (6) any requirement to repurchase the minority interests in Deerfield held by two of its executives. We anticipate meeting all of these requirements through (1) the use of our liquid net current assets, (2) cash flows from continuing operating activities, if any, (3) borrowings under our restaurant segment’s revolving credit facility of which $93.5 million is unused as of December 31, 2006, (4) the $30.0 million conditional funding commitment for sale-leaseback financing from the real estate finance company, all of which is unused as of January 1, 2007, (5) borrowings under our asset management segment’s revolving note of which $6.0 million is currently available and (6) proceeds from sales, if any, of up to $2.0 billion of our securities under the universal shelf registration statement.

Potential Corporate Restructuring

We are continuing to explore a possible corporate restructuring that is expected to involve the disposition of our asset management operations, whether through a sale of our ownership interest in our asset management business, a spin-off of our ownership interest in our asset management business to our stockholders or such other means as our board of directors may conclude would be in the best interests of our stockholders. Any such corporate restructuring is currently expected to, and any other form of corporate restructuring could, involve the Principals and our employees who perform services for the Management Company no longer being officers and employees of the Company, in which case it is expected that the management team of Arby’s would become the management of the Company. In connection with the potential restructuring, in addition to our regular quarterly dividends, in 2006 we declared and paid special cash dividends aggregating $0.45 per share on each outstanding share of our class A common stock and class B common stock, as discussed in more detail above under “Dividends.”

Depending on the nature of the restructuring, various arrangements relating to the affected businesses could be necessary, the cost of which has not been determined. Among other things, we have employment agreements and severance arrangements with certain of our executive officers and corporate employees. If we proceed with a restructuring, we would incur significant severance or contractual settlement payments under these agreements and arrangements, which would result in the Company being relieved of its long-term obligations under the employment agreements. In the case of the Executives, the amount of such payments would be subject to negotiation and approval by a special committee comprised of independent members of our board of directors which is considering these matters. There can be no assurance that a corporate restructuring will occur or of the form, terms or timing of such restructuring if it does occur. Our board of directors has not reached any definitive conclusions concerning the scope, benefits or timing of any corporate restructuring.

Legal and Environmental Matters

In 2001, a vacant property owned by Adams Packing Association, Inc., which we refer to as Adams Packing, an inactive subsidiary of ours, was listed by the United States Environmental Protection Agency on the Comprehensive Environmental Response, Compensation and Liability Information System, which we refer

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to as CERCLIS, list of known or suspected contaminated sites. The CERCLIS listing appears to have been based on an allegation that a former tenant of Adams Packing conducted drum recycling operations at the site from some time prior to 1971 until the late 1970’s. The business operations of Adams Packing were sold in December 1992. In February 2003, Adams Packing and the Florida Department of Environmental Protection, which we refer to as the Florida DEP, agreed to a consent order that provided for development of a work plan for further investigation of the site and limited remediation of the identified contamination. In May 2003, the Florida DEP approved the work plan submitted by Adams Packing’s environmental consultant and during 2004 the work under that plan was completed. Adams Packing submitted its contamination assessment report to the Florida DEP in March 2004. In August 2004, the Florida DEP agreed to a monitoring plan consisting of two sampling events which occurred in January and June 2005 and the results were submitted to the Florida DEP for its review. In November 2005, Adams Packing received a letter from the Florida DEP identifying certain open issues with respect to the property. The letter did not specify whether any further actions are required to be taken by Adams Packing and Adams Packing has sought clarification from, and continues to expect to have additional conversations with, the Florida DEP in order to attempt to resolve this matter. Based on provisions made prior to 2006 of $1.7 million for all of these costs and after taking into consideration various legal defenses available to us, including Adams Packing, Adams Packing has provided for its estimate of its remaining liability for completion of this matter.

In addition to the environmental matter described above, we are involved in other litigation and claims incidental to our current and prior businesses. We and our subsidiaries have reserves for all of our legal and environmental matters aggregating $1.0 million as of December 31, 2006. Although the outcome of these matters cannot be predicted with certainty and some of these matters may be disposed of unfavorably to us, based on currently available information, including legal defenses available to us and/or our subsidiaries, and given the aforementioned reserves, we do not believe that the outcome of these legal and environmental matters will have a material adverse effect on our consolidated financial position or results of operations.

Application of Critical Accounting Policies

The preparation of our consolidated financial statements in conformity with GAAP requires us to make estimates and assumptions in applying our critical accounting policies that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amount of revenues and expenses during the reporting period. Our estimates and assumptions concern, among other things, contingencies for legal, environmental and tax matters, the valuations of some of our investments and impairment of long-lived assets. We evaluate those estimates and assumptions on an ongoing basis based on historical experience and on various other factors which we believe are reasonable under the circumstances.

We believe that the following represent our more critical estimates and assumptions used in the preparation of our consolidated financial statements:

 

 

 

 

Reserves for the resolution of income tax contingencies which are subject to future examinations of our Federal and state income tax returns by the Internal Revenue Service or state taxing authorities, including remaining provisions included in “Current liabilities relating to discontinued operations” in our consolidated balance sheets:

 

 

 

 

 

As previously discussed above, in 2004 the Internal Revenue Service finalized its examination of our Federal income tax returns for the years ended December 31, 2000 and December 30, 2001 without assessing any additional income tax liability to us. In 2004 and, to a much lesser extent in 2005 and 2006, our results of operations were materially impacted by the release of income tax reserves and related interest accruals that were no longer required as a result of the finalization of the examinations of our Federal income tax returns and the expiration of the statute of limitations related to certain state income tax filings. Our Federal income tax returns subsequent to December 30, 2001 are not currently under examination by the Internal Revenue Service although some of our state income tax returns are currently under examination. We believe that adequate provisions have been made principally in prior periods for any liabilities, including interest, that may result from the completion of these examinations. To the extent that any estimated amount required to liquidate the related liability as it pertains to the former beverage businesses that we sold in October 2000 is determined to be less than or in excess of the aggregate of amounts included in

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“Current liabilities relating to discontinued operations” in the accompanying consolidated balance sheets, any such difference will be recorded at that time as a component of gain or loss on disposal of discontinued operations. To the extent that any estimated amount required to liquidate the related liability as it pertains to our continuing operations is determined to be less than or in excess of the income tax contingency amounts included in “Other liabilities,” any such difference will be recorded at that time as a component of results from continuing operations.

 

 

 

 

Valuations of some of our investments:

 

 

 

 

 

Our investments in short-term available-for-sale and trading marketable securities are valued principally based on quoted market prices, broker/dealer prices or statements of account received from investment managers which are principally based on quoted market or broker/dealer prices. Accordingly, we do not anticipate any significant changes from the valuations of these investments. Our investments in other short-term investments accounted for under the cost method and the majority of our non-current investments are valued almost entirely based on statements of account received from the investment managers or the investees which are principally based on quoted market or broker/dealer prices. To the extent that some of these investments, including the underlying investments in investment limited partnerships, do not have available quoted market or broker/dealer prices, we rely on third-party appraisals or valuations performed by the investment managers or the investees in valuing those securities. These valuations are subjective and thus subject to estimates which could change significantly from period to period. Those changes in estimates in these cost investments would be recognized only to the extent of losses which are deemed to be other than temporary. The total carrying value of the cost investments not valued based on quoted market or broker/dealer prices was approximately $7.5 million as of December 31, 2006, including an investment included in the Deferred Compensation Trusts with a carrying value of $2.4 million. Any market value decline with respect to the investment in the Deferred Compensation Trusts would also result in a reduction of the corresponding deferred compensation payable and related deferred compensation expense. In addition, we have an $8.5 million cost investment in Jurlique, an Australian company not publicly traded, for which we currently believe the carrying amount is recoverable as a result of the sale during 2006 of a portion of our investment in Jurlique at a higher valuation than that reflected in the carrying value. We also have $4.1 million of non-marketable cost investments in securities for which it is not practicable to estimate fair value because the investments are non-marketable and are principally in start-up enterprises for which we currently believe the carrying amount is recoverable.

 

 

 

 

Provisions for unrealized losses on certain investments deemed to be other than temporary:

 

 

 

 

 

We review all of our investments that have unrealized losses for any that we might deem other than temporary. The losses we have recognized were deemed to be other than temporary due to declines in the market value of or liquidity problems associated with specific securities. This includes the underlying investments of any of our investment limited partnerships and similar investment entities in which we have an overall unrealized loss. This process is subjective and subject to estimation. In determining whether an investment, other than preferred shares in CDOs, has suffered an other than temporary loss, we consider such factors as the length of time the carrying value of the investment was below its market value, the severity of the decline, the investee’s financial condition and the prospect for future recovery in the market value of the investment, including our ability and intent to hold the investments for a period of time sufficient for a forecasted recovery. For preferred shares in CDOs, we consider whether there has been any adverse change in the estimated cash flows of the investments in the CDOs as well as the prospect for future recovery, including our ability and intent to hold the investments for a period of time sufficient for a forecasted recovery. The use of different judgments and estimates could affect the determination of which securities suffered an other than temporary loss and the amount of that loss. We have aggregate unrealized holding losses on our available-for-sale marketable securities of $2.1 million as of December 31, 2006 which, if not recovered, may result in the recognition of future losses. Also, should any of our investments accounted for under the cost method totaling approximately $52.6 million, including $13.4 million held in the Deferred Compensation Trusts as of December 31, 2006, experience declines in value due to conditions that we deem to be other

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than temporary, we may recognize additional other than temporary losses. However, as noted in the paragraph above, any declines with respect to investments in the Deferred Compensation Trusts would be fully offset. We have permanently reduced the cost basis component of the investments for which we have recognized other than temporary losses of $6.9 million, $1.5 million and $4.1 million during 2004, 2005 and 2006, respectively. As such, recoveries in the value of these investments, if any, will not be recognized in income until the investments are sold.

 

 

 

 

Provisions for impairment of goodwill and long-lived assets:

 

 

 

 

 

As of December 31, 2006, $467.0 million of our goodwill relates to our restaurant segment, of which $448.5 million is associated with the Company-owned restaurant operating unit, and $54.1 million relates to our asset management segment. We test the goodwill of each of our restaurant franchising and Company-owned restaurant business reporting units and our asset management segment for impairment annually. We recognize a goodwill impairment charge, if any, for any excess of the net carrying amount of the respective goodwill over the implied fair value of the goodwill. The implied fair value of the goodwill is determined in the same manner as the existing goodwill was determined substituting the fair value for the cost of the reporting unit. The fair value of the reporting unit has been estimated to be the present value of the anticipated cash flows associated with the reporting unit. We did not incur any goodwill impairment in 2004, 2005 or 2006. The recoverability of the goodwill in each of those years was based on estimates we made regarding the present value of the anticipated cash flows associated with each reporting unit. Those estimates are subject to change as a result of many factors including, among others, any changes in our business plans, changing economic conditions and the competitive environment. Should actual cash flows and our future estimates vary adversely from those estimates we used, we may be required to recognize goodwill impairment charges in future years. Further, fair value of the reporting unit can be determined under several different methods, of which discounted cash flows is one alternative. Had we utilized an alternative method, the amount of any potential goodwill impairment charge might have differed significantly from the amounts as determined.

 

 

 

 

 

We review our long-lived assets, other than goodwill, for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If that review indicates an asset may not be recoverable based upon forecasted, undiscounted cash flows, an impairment loss is recognized for the excess of the carrying amount over the fair value of the asset. The fair value is estimated to be the present value of the associated cash flows. Our critical estimates in this review process include (1) anticipated future cash flows of each of our Company-owned restaurants used in assessing the recoverability of their respective long-lived assets and (2) anticipated future cash flows of one of our product lines to which a trademark relates. We recognized related impairment losses of $3.4 million, $1.9 million and $5.5 million in 2004, 2005 and 2006, respectively, of which $1.8 million, $0.9 million and $3.6 million of the losses in 2004, 2005 and 2006, respectively, related to long-lived assets of certain restaurants which were determined to not be fully recoverable. The remaining $1.6 million impairment loss in 2004, and $0.5 million and $0.4 million of the losses in 2005 and 2006, respectively, related to the trademark referred to above. The remaining $0.5 million and $1.5 million of the losses in 2005 and 2006, respectively, related to the write-off of the value of asset management contracts. The fair values of the impaired assets were estimated to be the present value of the anticipated cash flows associated with each affected Company-owned restaurant, the trademark and the asset management contracts. Those estimates are subject to change as a result of many factors including, among others, any changes in our business plans, changing economic conditions and the competitive environment. Should actual cash flows and our future estimates vary adversely from those estimates we used, we may be required to recognize additional impairment charges in future years. Further, fair value of the long-lived assets can be determined under several different methods, of which discounted cash flows is one alternative. Had we utilized an alternative method, the amounts of the respective impairment charges might have differed significantly from the charges reported. As of December 31, 2006, the remaining net carrying value of the trademark, the Company-owned restaurant long-lived assets and asset management contracts were $0.5 million, $474.9 million and $21.7 million, respectively. These long-lived assets could require testing for impairment should future events or changes in circumstances indicate they may not be recoverable.

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Reserves which total $1.0 million at December 31, 2006 for the resolution of all of our legal and environmental matters as discussed immediately above under “Legal and Environmental Matters”:

 

 

 

 

 

Should the actual cost of settling these matters, whether resulting from adverse judgments or otherwise, differ from the reserves we have accrued, that difference will be reflected in our results of operations when the matter is resolved or when our estimate of the cost changes.

Our estimates of each of these items historically have been adequate. Due to uncertainties inherent in the estimation process, it is reasonably possible that the actual resolution of any of these items could vary significantly from the estimate and, accordingly, there can be no assurance that the estimates may not materially change in the near term.

Inflation and Changing Prices

We believe that inflation did not have a significant effect on our consolidated results of operations during 2004, 2005 and 2006 since inflation rates generally remained at relatively low levels.

Seasonality

Our continuing operations are not significantly impacted by seasonality. However, our restaurant revenues are somewhat lower in our first quarter. Further, while our asset management business is not directly affected by seasonality, our asset management revenues are higher in our fourth quarter as a result of our revenue recognition accounting policy for incentive fees related to the Funds which are based upon performance and are recognized when the amounts become fixed and determinable upon the close of a performance period.

Recently Issued Accounting Pronouncements

In February 2006, the Financial Accounting Standards Board, which we refer to as the FASB, issued Statement No. 155, “Accounting for Certain Hybrid Financial Instruments,” which we refer to as SFAS 155. SFAS 155 amends FASB Statement No. 133, “Accounting for Derivative Instruments and Hedging Activities,” which we refer to as SFAS 133, and FASB Statement 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities.” SFAS 155 resolves issues addressed in SFAS 133 Implementation Issue No. D1, “Application of Statement 133 to Beneficial Interests in Securitized Financial Assets.” SFAS 155 is effective commencing with our first quarter of 2007 although early adoption is permitted. Although we hold preferred shares of several CDOs, which represent beneficial interests in securitized financial assets that we classify as available-for-sale securities, we do not believe that any of these interests represent freestanding or embedded derivatives which would be required to be accounted for as derivatives under the provisions of SFAS 155. Accordingly, we currently do not believe that the adoption of SFAS 155 will have any effect on our consolidated financial position or results of operations.

In June 2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes,” which we refer to as Interpretation 48. Interpretation 48 clarifies how uncertainties in income taxes should be reflected in financial statements in accordance with SFAS 109, “Accounting for Income Taxes.” Interpretation 48 prescribes a recognition threshold and measurement attribute for financial statement recognition and measurement of potential tax benefits associated with tax positions taken or expected to be taken in income tax returns. Interpretation 48 prescribes a two-step process of evaluating a tax position, whereby an entity first determines if it is more likely than not that a tax position will be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position. A tax position that meets the more-likely-than-not recognition threshold is then measured for purposes of financial statement recognition as the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement. Interpretation 48 has disclosure requirements which include a rollforward of tax benefits taken that do not qualify for financial statement recognition, the amount of unrecognized tax benefits that, if recognized, would impact the effective tax rate, the total amounts and financial statement classifications of interest and penalties recognized in the balance sheet and statement of operations and a description of tax years that remain subject to examination by major tax jurisdictions. For positions for which it is reasonably possible that the total amounts of unrecognized tax benefits will significantly increase or decrease within twelve months of the reporting date, an entity should disclose the nature of the uncertainty, the nature of the event that could occur in the next twelve months that would cause

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the change and an estimate of the range of the reasonably possible change or a statement that an estimate of the range cannot be made. All disclosures required by Interpretation 48 must be included in each quarter’s interim financial statements in the year of adoption. Interpretation 48 is effective commencing with our first fiscal quarter of 2007. The provisions of Interpretation 48 are complex and we have not yet finalized the effect that adopting Interpretation 48 will have on our consolidated financial position and results of operations. However, based on our preliminary analysis, management does not expect Interpretation 48 will have any material impact on our consolidated financial position or results of operations. As described above, we will be required to provide additional financial statement disclosures upon adoption of Interpretation 48.

In September 2006, the FASB issued FASB Staff Position No. AUG AIR-1, “Accounting for Planned Major Maintenance Activities” which we refer to as FSP AIR-1. FSP AIR-1 prohibits the use of the previously acceptable accrue-in-advance method of accounting for scheduled major maintenance activities, which is the method we currently use for scheduled major maintenance overhauls of corporate aircraft. Under the accrue-in- advance method, the estimated cost of such an overhaul is amortized to the date of the next overhaul with any difference between estimated and actual cost charged or credited to income upon completion of the overhaul. FSP AIR-1 requires that we use either (1) a direct expensing method, under which the costs of overhauls are charged to operations as incurred, or (2) a deferral method, under which the actual cost of each overhaul is capitalized and amortized until the next overhaul. FSP AIR-1 is effective for our first fiscal quarter of 2007. We currently expect to adopt the direct expensing method. We will be required to restate our consolidated financial statements for all prior periods presented for the difference between the accrue-in-advance method and the method adopted for scheduled major airplane maintenance overhauls with the cumulative effect of the change in accounting method reflected as of the beginning of the earliest period presented. As of December 31, 2006 we have an accrual of $4,954,000 for such costs which, upon adoption of FSP AIR-1, will be recorded as an increase to retained earnings as of the beginning of the earliest year presented. For the year ended December 31, 2006 we have expensed $0.9 million of costs related to scheduled major maintenance overhauls under the accrue-in-advance method. We currently expect to incur approximately $1.5 million of costs for certain major overhauls on the aircraft in 2007 which will be recognized as a charge to results of operations in 2007 and thereafter periodic maintenance may prompt significant repairs which would affect our results of operations during the year those costs are incurred.

In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, “Fair Value Measurements,” which we refer to as SFAS 157. SFAS 157 addresses issues relating to the definition of fair value, the methods used to measure fair value and expanded disclosures about fair value measurements. SFAS 157 does not require any new fair value measurements. The definition of fair value in SFAS 157 focuses on the price that would be received to sell an asset or paid to transfer a liability, not the price that would be paid to acquire an asset or received to assume a liability. The methods used to measure fair value should be based on the assumptions that market participants would use in pricing an asset or a liability. SFAS 157 expands disclosures about the use of fair value to measure assets and liabilities in interim and annual periods subsequent to adoption. Currently some of our investments are assigned fair values based on their bid price. SFAS 157 requires us to use the most representative fair value within the bid-asked spread if the fair value of an asset is based on bid and asked prices. To the extent that these investments are present in our portfolio at the time of adoption of SFAS 157, our consolidated financial position will be affected for any such investments classified as available-for-sale securities and both our consolidated financial position and results of operations will be affected for any such investments classified as trading securities. We will also be required to present the expanded fair value disclosures upon adoption of SFAS 157. SFAS 157 is, with some limited exceptions, to be applied prospectively and is effective commencing with our first fiscal quarter of 2008, although earlier application in our first fiscal quarter of 2007 is permitted. We currently do not plan to adopt SFAS 157 prior to our first fiscal quarter of 2008.

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Item 7A. Quantitative and Qualitative Disclosures about Market Risk.

Certain statements we make under this Item 7A constitute “forward-looking statements” under the Private Securities Litigation Reform Act of 1995. See “Special Note Regarding Forward-Looking Statements and Projections” in “Part I” preceding “Item 1.”

We are exposed to the impact of interest rate changes, changes in commodity prices, changes in the market value of our investments and, to a lesser extent, foreign currency fluctuations. In the normal course of business, we employ established policies and procedures to manage our exposure to these changes using financial instruments we deem appropriate.

Interest Rate Risk

Our objective in managing our exposure to interest rate changes is to limit their impact on our earnings and cash flows. We have historically used interest rate cap and/or interest rate swap agreements on a portion of our variable-rate debt to limit our exposure to the effects of increases in short-term interest rates on our earnings and cash flows. As of December 31, 2006 our notes payable and long-term debt, including current portion, aggregated $724.6 million and consisted of $569.1 million of variable-rate debt, $147.6 million of capitalized lease and sale-leaseback obligations, $4.6 million of variable-rate notes payable and $3.3 million of fixed-rate debt. At December 31, 2006, we have $559.7 million of term loan borrowings outstanding under a variable-rate seven-year senior secured term loan facility. The term loan currently bears interest at the London Interbank Offered Rate (LIBOR) plus 2.25%. In connection with the terms of the related credit agreement, we have three interest rate swap agreements that fix the London Interbank Offered Rate (LIBOR) component of the interest rate at 4.12%, 4.56% and 4.64% on $100.0 million, $50.0 million and $55.0 million, respectively, of the outstanding principal amount until September 30, 2008, October 30, 2008 and October 30, 2008, respectively. The interest rate swap agreements related to the term loans were designated as cash flow hedges and, accordingly, are recorded at fair value with changes in fair value recorded through the accumulated other comprehensive income component of stockholders’ equity in our accompanying consolidated balance sheet to the extent of the effectiveness of these hedges. There was no ineffectiveness from these hedges through December 31, 2006. If a hedge or portion thereof is determined to be ineffective, any changes in fair value would be recognized in our results of operations. In addition, we continue to have an interest rate swap agreement, with an embedded written call option, in connection with our variable-rate bank loan of which $5.4 million principal amount was outstanding as of December 31, 2006, which effectively establishes a fixed interest rate on this debt so long as the one-month LIBOR is below 6.5%. We did not have any interest rate cap agreements outstanding as of December 31, 2006. The fair value of our fixed-rate debt will increase if interest rates decrease. The fair market value of our investments in fixed-rate debt securities will decline if interest rates increase. See below for a discussion of how we manage this risk.

Commodity Price Risk

We purchase certain food products, such as beef, poultry, pork and cheese, that are affected by changes in commodity prices and, as a result, we are subject to variability in our food costs. Our ability to recover increased costs through higher pricing is, at times, limited by the competitive environment in which we operate. Management monitors our exposure to commodity price risk. However, we do not enter into financial instruments to hedge commodity prices or hold any significant inventories of these commodities. In order to ensure favorable pricing for beef, poultry, pork, cheese and other food products, as well as maintain an adequate supply of fresh food products, a purchasing cooperative with our franchisees negotiates contracts with approved suppliers on behalf of the Arby’s system. These contracts establish pricing arrangements, and historically have limited the variability of these commodity costs, but do not establish any firm purchase commitments by us or our franchisees.

Equity Market Risk

Our objective in managing our exposure to changes in the market value of our investments is to balance the risk of the impact of these changes on our earnings and cash flows with our expectations for long-term investment returns. Our primary exposure to equity price risk relates to our investments in equity securities, investment limited partnerships and similar investment entities and equity derivatives. Our board of directors

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has established certain policies and procedures governing the type and relative magnitude of investments we may make. We have a management investment committee which supervises the investment of certain funds not currently required for our operations but has delegated the discretionary authority to our Chairman and Chief Executive Officer and President and Chief Operating Officer, whom we refer to as the Executives, to make certain investments. In addition, our board of directors also delegated authority to these two officers to direct the investment of a portion of our funds. In December 2005 we invested $75.0 million in an account, which we refer to as the Equities Account, which is managed by a management company formed by the Executives and our Vice Chairman and from which we can withdraw quarterly upon 65 days’ prior written notice. The Equities Account was invested principally in the equity securities of a limited number of publicly-traded companies and cash equivalents and had a fair value of $91.8 million as of December 31, 2006.

Foreign Currency Risk

Our objective in managing our exposure to foreign currency fluctuations is to limit the impact of these fluctuations on earnings and cash flows. As of December 31, 2006, our primary exposure to foreign currency risk related to our $8.5 million cost-method investment in Jurlique International Pty Ltd., an Australian company which we refer to as Jurlique. In April 2006 we received a return of capital from our investment in Jurlique, and sold a portion of our investment in Jurlique representing an aggregate $21.7 million reduction in the carrying value of the investment to $8.5 million. We continue to have a put and call arrangement whereby we have limited the overall foreign currency risk of holding this investment through July 5, 2007. In connection with these April 2006 transactions, we terminated a portion of the put and call arrangement so that the remaining notional amount approximated the value of the remaining investment. To a more limited extent, we have exposure to foreign currency risk relating to our investments in certain investment limited partnerships and similar investment entities that hold foreign securities and a total return swap with respect to a foreign equity security. However, some of the investment managers hedge the foreign currency exposure, thereby substantially mitigating the risk. The fixed payment reflected in the total return swap is denominated in the same foreign currency as the underlying security thereby also mitigating the foreign currency risk. We monitor these exposures and periodically determine our need for the use of strategies intended to lessen or limit our exposure to these fluctuations. We also have a relatively limited amount of exposure to (1) investments in two foreign subsidiaries and (2) export revenues and related receivables denominated in foreign currencies, both of which are subject to foreign currency fluctuations. Our foreign subsidiary exposures relate to administrative operations in Canada and England and our export revenue exposures relate to royalties earned from Arby’s franchised restaurants in Canada. Foreign operations and foreign export revenues for each of the years ended January 1, 2006 and December 31, 2006 together represented only 3% and 4%, respectively, of our total royalties and franchise and related fees and represented less than 1% of our total revenues. Accordingly, an immediate 10% change in foreign currency exchange rates versus the United States dollar from their levels at January 1, 2006 and December 31, 2006 would not have a material effect on our consolidated financial position or results of operations.

Overall Market Risk

We balance our exposure to overall market risk by investing a portion of our portfolio in cash and cash equivalents with relatively stable and risk-minimized returns. We periodically interview and select asset managers to avail ourselves of potentially higher, but more risk-inherent, returns from the investment strategies of these managers. We also seek to identify alternative investment strategies that may earn higher returns with attendant increased risk profiles for a portion of our investment portfolio. We regularly review the returns from each of our investments and may maintain, liquidate or increase selected investments based on this review and our assessment of potential future returns. We had previously adjusted our asset allocation to increase the portion of our investments that offered the opportunity for higher, but more risk inherent, returns. In that regard, through September 29, 2006 we had an investment in a multi-strategy hedge fund, Deerfield Opportunities Fund, LLC, which we refer to as the Opportunities Fund, which was managed by a subsidiary of ours, and was consolidated by us with minority interests to the extent of participation by investors other than us. The Opportunities Fund invested principally in various fixed income securities and their derivatives, as opportunities arose and employed leverage in its trading activities. As a result of the effective redemption on September 29, 2006 of our investment in the Opportunities Fund, we no longer consolidate the accounts of this fund subsequent to that date, and therefore no longer bear the associated risks as of December 31, 2006.

64


As of December 31, 2006, the derivatives held in our short-term investment portfolios consisted of (1) stock options, (2) put and call combinations on equity securities and (3) a total return swap on an equity security. We did not designate any of these strategies as hedging instruments and, accordingly, all of these derivative instruments were recorded at fair value with changes in fair value recorded in our results of operations.

We maintain investment holdings of various issuers, types and maturities. As of January 1, 2006 and December 31, 2006, these investments were classified in our consolidated balance sheets as follows (in thousands):

 

 

 

 

 

 

 

Year-End

 

2005

 

2006

Cash equivalents included in “Cash” in our consolidated balance sheets

 

 

$

 

171,955

   

 

$

 

124,455

 

Short-term investments pledged as collateral

 

 

 

556,492

   

 

 

8,168

 

Other short-term investments

 

 

 

214,827

   

 

 

113,950

 

Investment settlements receivable

 

 

 

236,060

   

 

 

16,599

 

Current and non-current restricted cash equivalents (a)

 

 

 

346,399

   

 

 

10,998

 

Non-current investments

 

 

 

85,086

   

 

 

60,197

 

 

 

 

 

 

 

 

$

 

1,610,819

   

 

$

 

334,367

 

 

 

 

 

 

Certain liability positions related to investments:

 

 

 

 

Investment settlements payable

 

 

$

 

(124,199

)

 

 

 

$

 

(12

)

 

Securities sold under agreements to repurchase

 

 

 

(522,931

)

 

 

Securities sold with an obligation to purchase included in “Other liability positions related to short-term investments”

 

 

 

(456,262

)

 

 

Derivatives in liability positions included in “Other liability positions related to short-term investments”

 

 

 

(903

)

 

 

 

 

(160

)

 

 

 

 

 

 

 

 

$

 

(1,104,295

)

 

 

 

$

 

(172

)

 

 

 

 

 

 


 

 

(a)

 

 

 

Includes non-current restricted cash equivalents of $2,339,000 and $1,939,000 as of January 1, 2006 and December 31, 2006, respectively, included in “Deferred costs and other assets.”

Our cash equivalents are short-term, highly liquid investments with maturities of three months or less when acquired and consisted principally of cash in mutual fund money market and bank money market accounts, cash in interest-bearing brokerage and bank accounts with a stable value, commercial paper of high credit-quality entities, United States government debt securities and securities purchased under agreements to resell the following day collateralized by United States government and government agency debt securities.

65


At January 1, 2006 our investments were classified in the following general types or categories (in thousands):

 

 

 

 

 

 

 

 

 

Type

 

At Cost

 

At Fair
Value (d)

 

Carrying Value

 

Amount

 

Percent

Cash equivalents (a)

 

 

$

 

171,955

   

 

$

 

171,955

   

 

$

 

171,955

   

 

 

11

%

 

Investment settlements receivable (b)

 

 

 

236,060

   

 

 

236,060

   

 

 

236,060

   

 

 

15

%

 

Restricted cash equivalents

 

 

 

346,399

   

 

 

346,399

   

 

 

346,399

   

 

 

22

%

 

Investments accounted for as:

 

 

 

 

 

 

 

 

Available-for-sale securities (c)

 

 

 

113,317

   

 

 

122,392

   

 

 

122,392

   

 

 

8

%

 

Trading securities

 

 

 

634,150

   

 

 

629,587

   

 

 

629,587

   

 

 

39

%

 

Trading derivatives

 

 

 

176

   

 

 

877

   

 

 

877

   

 

 

     —  

%

 

Non-current investments held in deferred compensation trusts accounted for at cost

 

 

 

17,159

   

 

 

23,776

   

 

 

17,159

   

 

 

1

%

 

Other current and non-current investments in investment limited partnerships and similar investment entities accounted for at cost

 

 

 

21,089

   

 

 

29,774

   

 

 

21,089

   

 

 

1

%

 

Other current and non-current investments accounted for at:

 

 

 

 

 

 

 

 

Cost

 

 

 

37,618

   

 

 

40,911

   

 

 

37,618

   

 

 

2

%

 

Equity

 

 

 

15,992

   

 

 

36,331

   

 

 

21,575

   

 

 

1

%

 

Fair value

 

 

 

4,853

   

 

 

6,108

   

 

 

6,108

   

 

 

     —  

%

 

 

 

 

 

 

 

 

 

 

Total cash equivalents and long investment positions

 

 

$

 

1,598,768

   

 

$

 

1,644,170

   

 

$

 

1,610,819

   

 

 

100

%

 

 

 

 

 

 

 

 

 

 

Certain liability positions related to investments:

 

 

 

 

 

 

 

 

Investment settlements payable (b)

 

 

$

 

(124,199

)

 

 

 

$

 

(124,199

)

 

 

 

$

 

(124,199

)

 

 

 

 

N/A

 

Securities sold under agreements to repurchase

 

 

 

(521,356

)

 

 

 

 

(522,931

)

 

 

 

 

(522,931

)

 

 

 

 

N/A

 

Securities sold with an obligation to purchase

 

 

 

(452,543

)

 

 

 

 

(456,262

)

 

 

 

 

(456,262

)

 

 

 

 

N/A

 

Derivatives held in trading portfolios in liability positions

 

 

 

(39

)

 

 

 

 

(903

)

 

 

 

 

(903

)

 

 

 

 

N/A

 

 

 

 

 

 

 

 

 

 

 

 

 

$

 

(1,098,137

)

 

 

 

$

 

(1,104,295

)

 

 

 

$

 

(1,104,295

)

 

 

 

 

 

 

 

 

 

 

 

 


 

 

(a)

 

 

 

Includes $3,813,000 of cash equivalents held in deferred compensation trusts.

 

(b)

 

 

 

Represents unsettled security trades as of January 1, 2006 principally in the Opportunities Fund.

 

(c)

 

 

 

Includes $15,349,000 of preferred shares of collateralized debt obligation vehicles, which we refer to as CDOs, which, if sold, would require us to use the proceeds to repay our related notes payable of $8,036,000.

 

(d)

 

 

 

There can be no assurance that we would be able to sell certain of these investments at these amounts.

66


At December 31, 2006 our investments were classified in the following general types or categories (in thousands):

 

 

 

 

 

 

 

 

 

Type

 

At Cost

 

At Fair
Value (c)

 

Carrying Value

 

Amount

 

Percent

Cash equivalents (a)

 

 

$

 

124,455

   

 

$

 

124,455

   

 

$

 

124,455

   

 

 

37

%

 

Investment settlements receivable

 

 

 

16,599

   

 

 

16,599

   

 

 

16,599

   

 

 

5

%

 

Restricted cash equivalents

 

 

 

10,998

   

 

 

10,998

   

 

 

10,998

   

 

 

3

%

 

Investments accounted for as:

 

 

 

 

 

 

 

 

Available-for-sale securities (b)

 

 

 

79,642

   

 

 

101,762

   

 

 

101,762

   

 

 

31

%

 

Trading securities

 

 

 

272

   

 

 

273

   

 

 

273

   

 

 

 

%

 

Non-current investments held in deferred compensation trusts accounted for at cost

 

 

 

13,409

   

 

 

22,718

   

 

 

13,409

   

 

 

4

%

 

Other current and non-current investments in investment limited partnerships and similar investment entities accounted for at cost

 

 

 

24,812

   

 

 

38,856

   

 

 

24,812

   

 

 

8

%

 

Other current and non-current investments accounted for at:

 

 

 

 

 

 

 

 

Cost

 

 

 

14,386

   

 

 

17,687

   

 

 

14,386

   

 

 

4

%

 

Equity

 

 

 

20,289

   

 

 

34,684

   

 

 

24,639

   

 

 

7

%

 

Fair value

 

 

 

2,997

   

 

 

3,034

   

 

 

3,034

   

 

 

1

%

 

 

 

 

 

 

 

 

 

 

Total cash equivalents and long investment positions

 

 

$

 

307,859

   

 

$

 

371,066

   

 

$

 

334,367

   

 

 

100

%

 

 

 

 

 

 

 

 

 

 

Certain liability positions related to investments:

 

 

 

 

 

 

 

 

Investment settlements payable

 

 

$

 

(12

)

 

 

 

$

 

(12

)

 

 

 

$

 

(12

)

 

 

 

 

N/A

 

Derivatives in liability positions

 

 

 

(2

)

 

 

 

 

(160

)

 

 

 

 

(160

)

 

 

 

 

N/A

 

 

 

 

 

 

 

 

 

 

 

 

$

 

(14

)

 

 

 

$

 

(172

)

 

 

 

$

 

(172

)

 

 

 

 

 

 

 

 

 

 

 

 


 

 

(a)

 

 

 

Includes $1,884,000 of cash equivalents held in deferred compensation trusts.

 

(b)

 

 

 

Fair value and carrying value include $8,156,000 of preferred shares of CDOs, which, if sold, would require us to use the proceeds to repay our related notes payable of $4,564,000. Those amounts also include $15,420,000 of unrealized gain with respect to an investment in one thinly-traded equity security.

 

(c)

 

 

 

There can be no assurance that we would be able to sell certain of these investments at these amounts.

Our marketable securities are reported at fair market value and are classified and accounted for either as “available-for-sale” or “trading” with the resulting net unrealized holding gains or losses, net of income taxes, reported either as a separate component of comprehensive income or loss bypassing net income or net loss, or included as a component of net income or net loss, respectively. Our investments in preferred shares of CDOs are accounted for similar to debt securities and are classified as available-for-sale. Investment limited partnerships and similar investment entities and other current and non-current investments in which we do not have significant influence over the investees are accounted for at cost. Derivative instruments are similar to trading securities which are accounted for as described above. Realized gains and losses on investment limited partnerships and similar investment entities and other current and non-current investments recorded at cost are reported as investment income or loss in the period in which the securities are sold. Investments in which we have significant influence over the investees are accounted for in accordance with the equity method of accounting under which our results of operations include our share of the income or loss of the investees. Our investments accounted for under the equity method consist of non-current investments in two public companies, one of which is a real estate investment trust managed by a subsidiary of ours. We also hold restricted stock and stock options of the real estate investment trust that we manage, which we received as share-based compensation, and which we refer to as the Restricted Investments. Other than the vested portion of the restricted stock of the real estate investment trust, which we accounted for in accordance with the equity method of accounting, the Restricted Investments are accounted for at fair value. We review all of our investments in which we have unrealized losses and recognize investment losses currently for any unrealized losses we deem to be other than temporary. The cost-basis component of investments reflected in the tables

67


above represents original cost less a permanent reduction for any unrealized losses that were deemed to be other than temporary.

Sensitivity Analysis

For purposes of this disclosure, market risk sensitive instruments are divided into two categories: instruments entered into for trading purposes and instruments entered into for purposes other than trading. Our estimate of market risk exposure is presented for each class of financial instruments held by us at January 1, 2006 and December 31, 2006 for which an immediate adverse market movement causes a potential material impact on our financial position or results of operations. We believe that the adverse market movements described below represent the hypothetical loss to future earnings and do not represent the maximum possible loss nor any expected actual loss, even under adverse conditions, because actual adverse fluctuations would likely differ. In addition, since our investment portfolio is subject to change based on our portfolio management strategy as well as market conditions, these estimates are not necessarily indicative of the actual results which may occur.

The following tables reflect the estimated market risk exposure as of January 1, 2006 and December 31, 2006 based upon assumed immediate adverse effects as noted below (in thousands):

Trading Purposes:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year-End

 

 

2005

 

2006

 

Carrying
Value

 

Interest
Rate Risk

 

Equity
Price Risk

 

Foreign
Currency Risk

 

Carrying
Value

 

Equity
Price Risk

Equity securities

 

 

$

 

7,723

   

 

$

 

(26

)

 

 

 

$

 

(772

)

 

 

 

$

 

 

   

$ 

273

   

 

 $

(27

)

 

Debt securities

 

 

 

621,864

   

 

 

(18,515

)

 

 

 

 

 

   

 

 

 

   

 

 

   

 

 

 

Trading derivatives in asset positions

 

 

 

877

   

 

 

(647

)

 

 

 

 

(157

)

 

 

 

 

(443

)

 

 

 

 

   

 

 

 

Trading derivatives in liability positions

 

 

 

(903

)

 

 

 

 

(3,876

)

 

 

 

 

 

   

 

 

(75

)

 

 

 

(2

)

 

 

 

 

(3

)

 

The sensitivity analysis of financial instruments held for trading purposes assumes (1) an instantaneous 10% adverse change in the equity markets in which we are invested, (2) an instantaneous one percentage point adverse change in market interest rates and (3) an instantaneous 10% adverse change in the foreign currency exchange rates versus the United States dollar, each from their levels at January 1, 2006 and December 31, 2006, with all other variables held constant. There were no debt securities included in the trading portfolio as of December 31, 2006, and, accordingly, there is no interest rate risk presented as of that date. The decrease in the amount of our trading securities and associated risks at December 31, 2006 from the prior year principally reflects the effective redemption on September 29, 2006 of our investment in the Opportunities Fund as discussed above under “Overall Market Risk.” The securities included in the trading portfolio as of December 31, 2006 were comprised only of equity securities and options denominated in U.S. dollars and, accordingly, there is no interest rate or foreign currency risk presented as of that date.

The interest rate risk as of January 1, 2006 with respect to our debt securities and our trading derivatives principally in the Opportunities Fund reflects the effect of the assumed adverse interest rate change on the fair value of each of those securities or derivative positions and does not reflect any offsetting of hedged positions. The adverse effects on the fair values of the respective securities and derivatives were determined based on market standard pricing models applicable to those particular instruments. Those models consider variables such as coupon rate and frequency, maturity date(s), yield and, in the case of derivatives, volatility, price of the underlying instrument, strike price, expiration, prepayment assumptions and probability of default.

68


Other Than Trading Purposes:

 

 

 

 

 

 

 

 

 

 

 

Year-End 2005

 

Carrying
Value

 

Interest
Rate Risk

 

Equity
Price Risk

 

Foreign
Currency Risk

Cash equivalents

 

 

$

 

171,955

   

 

$

 

(5

)

 

 

 

$

 

     —  

   

 

$

 

       —  

 

Investment settlements receivable

 

 

 

236,060

   

 

 

Restricted cash equivalents

 

 

 

346,399

   

 

 

(8

)

 

 

 

Available-for-sale equity securities

 

 

 

42,129

   

 

 

 

(4,213

)

 

 

Available-for-sale asset-backed securities

 

 

 

25,706

   

 

 

(2,314

)

 

 

 

Available-for-sale preferred shares of CDOs

 

 

 

20,993

   

 

 

(1,207

)

 

 

 

Available-for-sale United States government and government agency debt securities

 

 

 

13,357

   

 

 

(59

)

 

 

 

Available-for-sale commercial paper

 

 

 

11,417

   

 

 

(25

)

 

 

 

Available-for-sale debt mutual fund

 

 

 

8,790

   

 

 

(220

)

 

 

 

Investment in Jurlique

 

 

 

30,164

   

 

 

 

(3,016

)

 

 

 

 

(1,696

)

 

Other investments

 

 

 

73,385

   

 

 

(1,572

)

 

 

 

 

(6,515

)

 

 

 

 

(94

)

 

Interest rate swaps in an asset position

 

 

 

1,949

   

 

 

(5,152

)

 

 

 

Foreign currency put and call arrangement in a net liability position

 

 

 

(276

)

 

 

 

 

 

 

(1,052

)

 

Investment settlements payable

 

 

 

(124,199

)

 

 

 

 

Securities sold under agreements to repurchase

 

 

 

(522,931

)

 

 

 

 

(119

)

 

 

 

Securities sold with an obligation to purchase

 

 

 

(456,262

)

 

 

 

 

(14,608

)

 

 

 

 

(740

)

 

 

Notes payable and long-term debt, excluding capitalized lease and sale-leaseback obligations

 

 

 

(817,065

)

 

 

 

 

(31,754

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year-End 2006

 

Carrying
Value

 

Interest
Rate Risk

 

Equity
Price Risk

 

Foreign
Currency Risk

Cash equivalents

 

 

$

 

124,455

   

 

$

 

(2

)

 

 

 

$

 

     —  

   

 

$

 

       —  

 

Investment settlements receivable

 

 

 

16,599

   

 

 

Restricted cash equivalents

 

 

 

10,998

   

 

 

Available-for-sale equity securities

 

 

 

77,710

   

 

 

 

(7,771

)

 

 

Available-for-sale preferred shares of CDOs

 

 

 

14,903

   

 

 

(1,344

)

 

 

 

 

 

(73

)

 

Available-for-sale debt mutual fund

 

 

 

9,149

   

 

 

(229

)

 

 

 

Investment in Jurlique

 

 

 

8,504

   

 

 

 

(850

)

 

 

 

 

(603

)

 

Other investments

 

 

 

71,776

   

 

 

(2,199

)

 

 

 

 

(5,209

)

 

 

 

 

(149

)

 

Interest rate swaps in an asset position

 

 

 

2,570

   

 

 

(3,252

)

 

 

 

Foreign currency put and call arrangement in a net liability position

 

 

 

(449

)

 

 

 

 

 

 

(935

)

 

Investment settlements payable

 

 

 

(12

)

 

 

 

 

Put and call option combinations on equity securities

 

 

 

(158

)

 

 

 

 

 

(1,300

)

 

 

Notes payable and long-term debt, excluding capitalized lease and sale-leaseback obligations

 

 

 

(576,972

)

 

 

 

 

(24,646

)

 

 

 

The sensitivity analysis of financial instruments held at January 1, 2006 and December 31, 2006 for purposes of other than trading assumes (1) an instantaneous one percentage point adverse change in market interest rates, (2) an instantaneous 10% adverse change in the equity markets in which we are invested and (3) an instantaneous 10% adverse change in the foreign currency exchange rates versus the United States dollar, each from their levels at January 1, 2006 and December 31, 2006, respectively, and with all other variables held constant. The equity price risk reflects the impact of a 10% decrease in the carrying value of our equity securities, including those in “Other investments” in the tables above. The sensitivity analysis also assumes that the decreases in the equity markets and foreign exchange rates are other than temporary. We have not reduced the equity price risk for available-for-sale investments and cost investments to the extent of unrealized gains on

69


certain of those investments, which would limit or eliminate the effect of the indicated market risk on our results of operations and, for cost investments, our financial position.

Our investments in debt securities and preferred shares of CDOs with interest rate risk had a range of remaining maturities and, for purposes of this analysis, were assumed to have weighted average remaining maturities as follows:

 

 

 

 

 

 

 

 

 

 

 

As of January 1, 2006

 

As of December 31, 2006

 

Range

 

Weighted Average

 

Range

 

Weighted Average

Cash equivalents (a)

 

26 days–72 days

 

42 days

 

10 days

 

10 days

Restricted cash equivalents

 

23 days–36 days

 

35 days

 

 

Asset-backed securities

 

21/2 years–31 years

 

9 years

 

 

CDOs underlying preferred shares

 

12/3 years–81/3 years

 

41/2 years

 

2 years–15 years

 

5 years

United States government and government agency debt securities

 

1 month–101/2 months

 

51/3 months

 

 

Commercial paper

 

9 days–61/3 months

 

22/3 months

 

 

Debt mutual fund

 

1 day–35 years

 

21/2 years

 

1 day–33 years

 

21/2 years

Debt securities included in other investments (principally held by investment limited partnerships and similar investment entities)

 

(b)

 

10 years

 

(b)

 

10 years


 

 

(a)

 

 

 

Excludes money market funds, interest-bearing brokerage and bank accounts and as of January 1, 2006, securities purchased under agreements to resell the following day which were assumed to have no interest rate risk.

 

(b)

 

 

 

Information is not available for the underlying debt investments of these entities.

The interest rate risk for each of these investments in debt securities and the preferred shares of CDOs reflects the impact on our results of operations. Assuming we reinvest in similar securities at the time these securities mature, the effect of the interest rate risk of an increase of one percentage point above the existing levels would continue beyond the maturities assumed. The interest rate risk for our preferred shares of CDOs excludes those portions of the CDOs for which the risk has been fully hedged. Our cash equivalents and restricted cash equivalents included $167.5 million and $338.1 million, respectively, as of January 1, 2006 and $118.3 million and $11.0 million, respectively, as of December 31, 2006 of mutual fund money market and bank money market accounts and/or interest-bearing brokerage and bank accounts which are designed to maintain a stable value and, as of January 1, 2006, securities purchased under agreements to resell the following day which, as a result, were assumed to have no interest rate risk.

The interest rate risk presented with respect to our securities sold under agreements to repurchase and securities sold with an obligation to repurchase held at January 1, 2006, which were all financial instruments held almost entirely by the Opportunities Fund, represented the potential impact an adverse change in interest rates of one percentage point would have had on the fair value of those respective instruments and on our financial position and results of operations. The securities sold under agreements to repurchase, although bearing fixed rates, principally had maturities of twelve days or less which significantly limited the effect of a change in interest rates on the respective fair values of these instruments. As of January 1, 2006, the securities sold with an obligation to repurchase represented $448.9 million of fixed income securities, with a weighted- average remaining maturity of approximately 11 years, and $7.4 million of equity securities. The adverse effects on the fair value of the respective instruments were determined based on market standard pricing models applicable to those particular instruments which consider variables such as coupon rate and frequency, maturity date(s), yield and prepayment assumptions.

70


As of January 1, 2006 and December 31, 2006, a majority of our debt was variable-rate debt and therefore the interest rate risk presented with respect to our $633.5 million and $573.7 million, respectively, of variable-rate notes payable and long-term debt, excluding capitalized lease and sale-leaseback obligations, represents the potential impact an increase in interest rates of one percentage point has on our results of operations. Our variable-rate notes payable and long-term debt outstanding as of January 1, 2006 and December 31, 2006 had a weighted average remaining maturity of approximately six years and five years, respectively. However, as discussed above under “Interest Rate Risk,” we have four interest rate swap agreements, one with an embedded written call option, on a portion of our variable-rate debt. The interest rate risk of our variable-rate debt presented in the tables above exclude the $205.0 million for which we designated interest rate swap agreements as cash flow hedges for the terms of the swap agreements. As interest rates decrease, the fair market values of the interest rate swap agreements and the written call option all decrease, but not necessarily by the same amount in the case of the written call option and related interest rate swap agreement. The interest rate risks presented with respect to the interest rate swap agreements represent the potential impact the indicated change has on the net fair value of the swap agreements and embedded written call option and on our financial position and, with respect to the interest rate swap agreement with the embedded written call option which was not designated as a cash flow hedge, also our results of operations. We only have $3.3 million of fixed-rate debt as of December 31, 2006 for which a potential impact of a decrease in interest rates of one percentage point would have an immaterial impact on the fair value of such debt and, accordingly, is not reflected in the table above.

The foreign currency risk presented for our investment in Jurlique as of January 1, 2006 and December 31, 2006 excludes the portion of risk that is hedged by the foreign currency put and call arrangement and by the portion of Jurlique’s operations which are denominated in United States dollars. The foreign currency risk presented with respect to the foreign currency put and call arrangement represents the potential impact the indicated change has on the net fair value of such financial instrument and on our financial position and results of operations and has been determined by an independent broker/dealer. For investments in investment limited partnerships and similar investment entities, all of which are accounted for at cost, and other non-current investments included in “Other investments” in the tables above, the decrease in the equity markets and the change in foreign currency were assumed for this analysis to be other than temporary. To the extent such entities invest in convertible bonds which trade primarily on the conversion feature of the securities rather than on the stated interest rate, this analysis assumed equity price risk but no interest rate risk. The foreign currency risk presented excludes those investments where the investment manager has fully hedged the risk.

71


Item 8. Financial Statements and Supplementary Data.

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

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Page

Glossary of Defined Terms

 

 

 

73

 

Report of Independent Registered Public Accounting Firm

 

 

 

76

 

Consolidated Balance Sheets as of January 1, 2006 and December 31, 2006

 

 

 

77

 

Consolidated Statements of Operations for the years ended January 2, 2005, January 1, 2006 and December 31, 2006

 

 

 

78

 

Consolidated Statements of Stockholders’ Equity for the years ended January 2, 2005, January 1, 2006 and December 31, 2006

 

 

 

79

 

Consolidated Statements of Cash Flows for the years ended January 2, 2005, January 1, 2006 and December 31, 2006

 

 

 

82

 

Notes to Consolidated Financial Statements

 

 

 

86

 

(1)    Summary of Significant Accounting Policies

 

 

 

86

 

(2)    Significant Risks and Uncertainties

 

 

 

95

 

(3)    Business Acquisitions

 

 

 

97

 

(4)    Income (Loss) Per Share

 

 

 

101

 

(5)    Short-Term Investments and Certain Liability Positions

 

 

 

103

 

(6)    Balance Sheet Detail

 

 

 

106

 

(7)    Restricted Cash Equivalents

 

 

 

109

 

(8)    Investments

 

 

 

110

 

(9)    Goodwill and Other Intangible Assets

 

 

 

113

 

(10)  Notes Payable

 

 

 

115

 

(11)  Long-Term Debt

 

 

 

115

 

(12)  Loss on Early Extinguishments of Debt

 

 

 

118

 

(13)  Derivative Instruments

 

 

 

118

 

(14)  Fair Value of Financial Instruments

 

 

 

121

 

(15)  Income Taxes

 

 

 

123

 

(16)  Stockholders’ Equity

 

 

 

125

 

(17)  Share-Based Compensation