Ruth's Hospitality Group, Inc. Q3 2008 Earnings Call Transcript

Ruth's Hospitality Group, Inc. (RUTH)

Q3 2008 Earnings Call

November 5, 2008 5:00 pm

Executives

Robert Vincent – Chief Financial Officer

Michael O'Donnell – President, Chief Executive Officer

Analysts

Steven Rees – J.P. Morgan

Jason West – Deutsche Bank

Rob Wiler – Piper Jaffrey

Joe Fisher – Goldman Sachs

David Tarantino – Robert W. Baird

Michael Perna – AAD Capital

Jeffrey Omohundro – Wachovia

David Rainey – Akre Capital

Presentation

Operator

Welcome to today's Ruth's Hospitality Group third quarter 2008 earnings conference call. (Operator Instructions) Now I'd like to turn the call over to Mr. Vincent.

Robert Vincent

We need to remind everyone that part of our discussion today may include forward-looking statements. These statements are not guarantees of future performance and therefore undue reliance should not be placed upon them. We refer all of you to our recent filings with the SEC for a more detailed discussion of the risks that could impact future operating results and financial condition.

I would like to turn the call over to Michael O'Donnell, President and Chief Executive Officer of Ruth's Hospitality Group.

Michael O'Donnell

Thank you all for joining us today to discuss the state of our business. It's no secret that the environment is the most challenging this industry has ever seen and the fundamentals are under tremendous pressure. Although a short-lived recession would be welcome, we have no choice but to plan for a prolonged downturn, understanding that our debt levels and covenants are of primary concern to us.

For this reason, we are taking a very conservative approach essentially managing our business to maximize free cash flow and paying down debt. Since taking the job in August, I've spent considerable time evaluating the business and speaking with people at all levels of our organization.

I must say on a very positive note that we have two great brands with great people and long histories of success. In fact, we will be celebrating significant milestones for both in the near future. Ruth's Chris will celebrate its 44th year in business in 2009 and Mitchell's Fish Market will celebrate its 10th anniversary next Tuesday.

I have found our field operations staff at both brands to be highly dedicated, motivated, talented and anxious to return to the financial success they have experienced in the past. I also spent time with our Ruth's franchise partners on an individual basis and enjoyed meeting with 90% of the assistants several weeks ago in New Orleans.

This group is outstanding and committed to the same high standards of food service as our staff is. They remain committed to building a national brand with more restaurants both now and in the future. I am very pleased to have such a talented group of entrepreneurs as partners.

While we remain excited about the future growth of Ruth's we are likely to put company owned unit growth on hold in the near term. After the opening of our South Barrington, Illinois restaurant this coming weekend, we will have completed our development in 2008. 2009 will be a transition year with three to five new franchise units opening and in all likelihood either zero or a very limited company owned expansion. We will resume company owned growth of both brands in 2010 or once macro conditions stabilize or our balance sheet supports it.

In terms of Mitchell's I'm convinced that the brand can provide excellent growth prospects when run efficiently and in the right markets. We have growth plans on hold at this point, however, not because we do not have confidence in the concept; in fact, the opposite is true, but because we are very focused on deploying capital that keeps us within our debt covenant compliance.

Eventually as we grow Mitchell's we will be offering it as a franchise opportunity alongside our highly successful Ruth's franchise system. As far as immediate actions we will take, Bob will certainly comment on specifics in his section, but at a high level we need to turn the page and focus on three things immediately; reorganizing, repositioning and re-energizing.

In terms of reorganizing, we've reduced our run rate G&A by about $7 million, essentially rationalizing our corporate infrastructure to match current sales and a significantly reduced development strategy. I know Bob had spoken on previous calls about taking cost out of the business, but conditions have deteriorated since that time and we thought it was prudent to take further action.

As our announcement stated, we focused on incremental G&A to compliment previous infrastructure savings and those expected from supply chain and other restaurant level cost savings activities. In total, we should see $10 million to $12 million in 2009.

We are examining every process we undertake in our support center and in the restaurant and asking, "Do we need to do this? Can we be more effective? Can we do this less expensively?" We know in this environment the consumer will not pay for the inefficiencies of an organization. We all know that this kind of change is difficult for any organization but it is and was necessary given what we're facing.

Reorganization is about more than operating cost cuts however, and we're currently examining our entire restaurant portfolio in view of return on assets. As we sit here today there is a strong likelihood that we will be taking significant impairment charges, but it's premature to speculate exactly what the magnitude might be.

Our goal is to make the assessment as quickly as possible and communicate the facts in as timely a manner as possible. I would remind you that these potential charges would be non-cash in nature and have no bearing on our covenants or our ability to operate the business.

Our second arc, repositioning entails making sure that the Ruth's Chris Steakhouse brand is first and foremost a steakhouse. We cannot be all things to all people and while we certainly compete in the upscale dining segment, our menu is, and should be deliberately narrow. As part of the plan, we're going to accentuate what being a true steakhouse is all about. The most popular items on our menu is our Sizzling Tender Prime Steaks and no one does sizzling steak better than Ruth's Chris.

In recent years, I believe we've allowed ourselves to aggressively take price and that pricing has put us in a place where customers challenge our value and reduce the frequency of their visits. We need to reverse this trend.

To help us get there we've hired Kevin Toomy to be the Chief Operating Officer of the Ruth's Chris brand and he's already started. Kevin brings a lot of experience and common sense to the task and he understands the perspective of owners and franchisees and has significant experience with such great brands as Houston, Outback Steakhouse, Roy's Hawaiian Fusion, a chef driven fine dining concept owned by Outback Steakhouse and Chef Royan Nagoutchi.

Kevin also owned and operated two highly successful and critically acclaimed restaurants in South Florida, the Old Gold Coast Grill. We welcome Kevin.

I have spoken a lot about playing defense in these tough times but our marketing, culinary and operations teams are working hard on developing ideas and products that will create value for our customers. Essentially, they are working on both the strategic and tactical basis to generate a value oriented offense, again repositioning but never leaving the Ruth's Chris Sizzling experience.

Between now and the end of the year we will have tested and in some cases implemented several new marketing end product initiatives. We just launched for the remaining months in 2008 a Steak and Stuffed Lobster special for $39.95 that is getting great feedback from our customers. It is a slightly smaller filet at six ounces with a five-ounce lobster tail stuffed with crabmeat.

Almost all of our company restaurants and about 90% of our franchise community are participating in this promotion, one of our highest franchise participation rates in a long time.

We are following up on this special with a very strong incentive, a $25.00 off direct mail piece. This messaging calls out, "Tough times calls for tender Steak". A similar offer ran last March before my time here. It produces as much as a nine point swing in traffic in certain markets. We think these two great offers are a great one-two punch for the holiday season.

While doing this, we are testing several other value promotions. The first is what we call Ruth's Classics, a $39.95 three-course meal featuring a choice of one of four entrees such as six-ounce filet with shrimp, a personal side and dessert. We offer a trade up for $49.95 that allows for a full size filet rib eye, lamb chops or lobster tail.

We've seen a very high preference for this during our testing with about 58/42 percent split; 58% ordering the $39.95, the 42% ordering the $49.95. Between our lower and higher offer, we're finding that a lot of our customers like the price certainty associated with a price fixed offer.

We're also working our Ruth's Trio which we have tested at a price of $44.95. It consists of three smaller portions of meat, fish and chicken along with a personal side and dessert. Although we've seen good sell through, we believe frankly it's too much food. We are re-working this offer and expect to have a similar idea with smaller portions and fewer items in the $29.95 range which is still again, the Ruth's Sizzling Experience but just more modestly priced.

We are in the middle of selecting an agency that will help us define and build our brand and get us back on track as an upscale steakhouse rather than a fine dining restaurant. As part of this effort, I believe we need to move back to our previous position as a classic steakhouse that for years was priced below our more formal steakhouse competitors.

Finally, I want to get back to our food-focused delivery on sizzling steaks with great southern hospitality. We'll protect our long-term customer base and find ways to reach new demographics.

A little more color on building new steakhouses in '09. We're taking a very hard look at the three leases that were signed back in 2007 and early 2008. The organization had planned to move ahead with these restaurants although given the severity of the economy and our strategy to manage cash and reduce debt, we continue to evaluate what is in the best interest of shareholders at this time so we're keeping all options open.

Beyond these locations, we're also taking a hard look at any major remodels that were scheduled and asking the same tough questions. Is the best time to proceed? The answer is probably not, although no final decisions have been made. In either case, we have little interest in pursuing incremental capital investments right now unless we're convinced that our appropriate returns will be there.

In terms of Mitchell's Fish Markets, it will be the same story. We will not be rolling out lots of new restaurants, but will likely build a single unit near our Orlando headquarters over the next 12 to 24 months for three reasons. First, we need to show that we can build and operate Mitchell's restaurants successfully, not just buy one. Two, the restaurant will serve as a showcase for a potential franchise model that we would pursue in the future.

While we have not previously discussed our vision for Mitchell's outside of the company operated model, we believe that we can build a healthy franchise operation similar to the Ruth's Chris steakhouse. Three, two existing restaurants in Jacksonville and Tampa perform above the Mitchell system average and longer term, we think Florida will be a very vibrant market for Mitchell's.

I am also pleased to say that we have re-established a relationship with Cameron Mitchell, the founder of Mitchell's Fish Market, and he has kindly agreed to be available to us on a limited basis. I very much appreciate having access to Mitchell's founder.

On the marketing front we will again be promoting more bundled offers that are high value but less than the pure dollar off promotions. Our more modest per ticket average as a chef driven concept with fresh seafood puts us in a good place with our customers. We have vibrant bars, energetic staff and a classic 1940's supper club look.

With both brands, despite what I would call a development freeze, we will continue to evaluate real estate opportunities because of the significant lead-time in identifying choice locations. But to be clear again, our goal is to live within our means and maintain a disciplined approach.

And lastly, we will re-energize by prudently investing in our two brands and our people. Our intent is to allocate some of the dollars that were previously committed to a growth infrastructure and target them at least in part in stabilizing traffic and sales with focus on increased training, education and operational excellence. And finally regardless of concept, we're going to energize our people, our biggest asset.

Admittedly, we've had to make some very tough decisions recently but we need to move ahead, look to the future, work on our culture and foster a great sense of ownership. To that point we have instituted what I hope will finally become a partnership program by 2010 where our restaurant managers share in the profit of the businesses they run.

I strongly believe this is the direction we need to move in, essentially aligning compensation with overall shareholder goals. In short, those are my preliminary thoughts. I will now turn the call over to Bob.

Robert Vincent

Our third quarter is historically our weakest period in terms of average unit sales volumes as well as operating earnings as we absorb the same fixed cost base on lower sales volumes. This quarter's sales volumes reflected the challenges and anxieties of our core customer, and as Mike mentioned we are doing everything in our power to manage cost input that are within our control.

Given the high fixed cost nature of our concepts however, the fall off in sales volumes negatively impacts both margins and profitability. Overall, sales and traffic for the quarter remained negative although we did see some improvement in trends from the first half of the year.

Performance was dictated in large part by our two largest markets, California and Florida which represent approximately 45% of our comp base along with hurricanes Ike and Gustaf which eliminated 37 restaurant operating days that impacted our comp sales by approximately 50 basis points during this quarter.

As for California, our comp sales were down 6.7% versus down 10.4% in Q 2 while Florida was down 10.6% versus down 7.8% in Q2. While traffic trends were still weak, they eased somewhat during the quarter as our summer celebration promotion insulated us from a further reduction in traffic.

As described in our earnings release today, for the third quarter ended September 28, 2008 we generated total revenues $99.3 million which was 41.4% higher than last year's $70.2 million. Company owned restaurant sales grew 43% to $95.8 million from $67 million in the third quarter of 2007 largely due to a 57.7% growth in restaurant operating weeks which totaled 1,121 for the quarter.

This included an additional 124 weeks at company owned Ruth's Chris Steakhouse restaurants in operations year over year and 286 additional operating weeks relating to the Mitchell's acquisition. Average weekly sales for all company owned Ruth's Chris Steakhouse restaurants were $88.6 thousand in the quarter compared to $94.3 thousand in the same period last year.

Comparable restaurant sales of Ruth's Chris Steakhouse decreased 6.9%. The average check fell 1.5% driven by menu mix shift and year over year pricing of approximately 2%. We also experienced a 5.2% reduction in entrees. Our comparable restaurant sales at Ruth's Chris Steakhouse during last year's quarter were down 4%.

With regards to our Mitchell's acquisition, we generated $22.1 million in restaurant sales from our fish market and steakhouse brand for the third quarter of 2008. We are combining the fish market and steakhouse brands for the purposes of both average weekly sales and operating weeks, although once again, the latter reflects less than 15% of both metrics.

We will not consider Mitchells' to be comparable until the end of the second quarter of 2009 at which point we have operated these locations for more than a full year. We therefore will only provide Mitchell's average weekly sales in fiscal 2008 which for the third quarter were $77.1 thousand compared to $83.8 thousand in the third quarter of 2007.

Franchise income grew 15.8% to $3.4 million versus $2.9 million in the third quarter of 2007 due primarily to the net addition of eight franchise owned locations year over year. Domestic comparable franchise owned restaurant sales decreased 6.6% while international franchise owned restaurant sales decreased 9.1% which combined for a blended comparable franchise owned restaurant sales decrease of 7.1%.

Other revenue was $86,000 down from $236,000 last year as a result of lower gift card breakage. Please note that we calculate breakage on an 18 month basis so therefore, breakage recognized in Q3 of '08 reflect unredeemed gift cards purchased in Q1 of 2007.

In terms of our cost structure as a percentage of restaurant sales, food and beverage costs decreased 20 basis points to 31.8% from 32% in the prior period. Favorable beef and lobster costs offset higher beverage, seafood, grocery, produce and dairy costs through the period. Once again, beef prices have been very favorable as we continue to purchase on the spot market.

We are constantly monitoring the market as it relates to our purchasing requirements and at this time we continue to be satisfied with our position. Restaurant operating expenses as a percentage of restaurant sales increased 340 basis points to 53.5% from 50.1% in the prior year. The majority of this deleveraging was due to weak comparable sales as many of these expenses are fixed.

That being said, we are actively focused on containing costs in our restaurants without compromising anything that touches the guests.

Marketing and advertising costs were $3.6 million in the third quarter compared to $1.7 million in the prior year or 3.6% of total revenue versus 2.5%. As we have said previously, annual marketing expenditures are projected to be approximately 100 basis points higher than in 2007 in an effort to create more brand awareness and promote a value-oriented message.

G&A costs as a percentage of total revenue decreased by 120 basis points largely due to lower incentive compensation which offset FAS 123 in increase professional fees. Operating income was $1.4 million compared to $3.9 million last year. Net interest expense was $2.5 million in the third quarter this year compared to $1.5 million for the same period last year due to a higher debt level as a result of the Mitchell's acquisition.

The net loss for the quarter was approximately $500,000 or $0.02 per diluted share compared to net income of $1.8 million or $0.08 per diluted share for the prior year.

I would now like to make a few comments regarding our balance sheet. Long-term debt at quarter end was approximately $167 million, and this includes a reduction of approximately $17 million from the proceeds of our recent sale lease back transaction. Our leverage ratio at the end of the third quarter which is essentially total debt divided by adjusted LTM, EBITDA as defined in our credit agreement was 3.23 times versus a maximum covenant level of 3.5 times.

Also we've mentioned, in calculating LTM, EBITDA for covenant purposes, we get to add back certain non-cash charges and we also get to treat the EBITDA from the Mitchell's acquisition as if we had owned the business for a full trailing 12-month period at the time of the calculation.

We continue to focus on our liquidity. As I mentioned, we completed a sale lease back transaction involving five restaurants raising over $17 million. As we announced last week, we are pursuing another transaction involving our corporate headquarters. There is a due diligence period through November 24, and then a 30 day closing requirement thereafter.

We therefore hope to close this transaction by year-end. As Mike stated, we are focused on maximizing free cash, maintaining maximum operating flexibility and reducing our covenant compliant risk.

CapEx during the quarter totaled $6.9 million including $5.5 million for new restaurants, $600,000 for remodeling and $800,000 for maintenance capital.

As we look to the remainder of 2008, of the five company owned Ruth's Chris restaurants slated to open this year, the only one remaining is in South Barrington, Illinois which is scheduled to open November 10. During this quarter the performance of our class 2008 restaurants have outperformed our system average by approximately 35%.

Our franchise partners have opened six locations in 2008 and one additional unit is scheduled to open by year-end.

In terms of offering and outlook for the fourth quarter, that has become increasingly difficult due to the volatility of our comparable restaurants sales in this unprecedented environment. Given these trends, we will deviate from our traditional practice for guidance and tell you that October's comps at Ruth's Chris company owned restaurants were down approximately 15%.

Furthermore, assuming this metric doesn't significantly improve in November and December, we will clearly be below the 2008 earnings range we had communicated on our last call. At this point we're not sure if October is a reflection of a new base level of sales or if results are a short-term reaction to the daily headlines surrounding the global financial crisis, unemployment fears and recession.

If we assume company operated comparable restaurant sales at the Ruth's Chris Steakhouse decrease 15% for the entire 13-week period, we would expect earning per share between $0.00 and $0.02 for the fourth quarter and between $0.33 and $0.35 for all of 2008.

These ranges exclude any severance related to the departure of former company officers as well as the October 30 cost reduction program. These ranges also exclude any impairment charges the company might take in the fourth quarter.

In terms of 2009, with the exception of the $10 million to $12 million in cost savings that we previously announced, we'll provide additional information on 2009 during our fourth quarter call in February.

I will not turn the call to Mike for some concluding comments.

Michael O'Donnell

We have a lot of work to do, but from my standpoint, pulling back on development, maximizing cash flow, focusing on our great brands and reducing debt is achievable even under today's extreme circumstances. But success in these areas will take time.

In effort to define that time frame, I would realistically say that the remainder of 2008 and 2009 will be a time for continued evaluation and implementation as well as operating with the mindset that maximizes cash and managing our debt and related covenants as our highest priority.

I wish I could predict a specific time when I could see a significant turn in the business. I can't. But I am fond of saying I can't change the way the wind blows, but I can trim the sails. And we intend to be aggressive in trimming our sales, finding the things the customers want, even in these difficult times while reducing our expenses.

We have great people in our support center, the field and in our franchise group, all dedicated to making Ruth's Chris and Mitchell's achieve the financial success our shareholders deserve.

With that, let's open the line for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Steven Rees – J.P. Morgan.

Steven Rees – J.P. Morgan

Can you talk about your debt covenants with a little bit more color specifically debt down 15% trend in October into '09. How much room would you have under that scenario what additional real estate would you have beyond the headquarters you could monetize or additional cost cuts you've already announced to prevent breaking your covenants.

Robert Vincent

I think we would project that the sale of the headquarters would probably provide approximately 20 basis points in the calculation, which obviously would give us some cushion on the down side. If that transaction doesn't close and comps are down at the level that we suggested in the guidance, certainly it will be tight.

However, having said that, I think one of the things that benefits us in Q4 that some people probably haven't recognized from a cash flow perspective, we really get the benefit of gift card sales. And if we hit the target that we sold last year which we think is pretty reasonable given the fact that we have more stores in our system and the additions of Mitchell's we think that helps us get cleared.

Steven Rees – J.P. Morgan

On the CapEx in 2009 assuming that those stores don't get built and the remodels don't happen, what could be the best-case scenario for CapEx in '09?

Robert Vincent

I think at this point it's premature to conclude or speculate what the CapEx might be. Clearly if we had no new unit growth we would have obviously some remodel stuff which we may or may not do, and we would have maintenance capital. I think overall it would be pretty modest.

Steven Rees – J.P. Morgan

What's the run rate of maintenance capital you would expect on an annual basis?

Robert Vincent

In my remarks I indicated that we spent $800,000 in maintenance capital in Q3, so I don't know if that's the right proxy but it gives you some sense.

Steven Rees – J.P. Morgan

Maybe in that $3 million to $4 million range on an annual basis?

Robert Vincent

I'll give you more color when we have really gone through and prepared an outlook for '09.

Operator

Your next question comes from Jason West – Deutsche Bank.

Jason West – Deutsche Bank

Can you talk a little bit more about the trend in October? Was the mix the same as you saw in the third quarter and the traffic was the difference or was there some other complexion in the comps that changed in terms of pricing or mix and has November seen any kind of rebound or are you still in that same kind of range?

Robert Vincent

We've had no changes in price and no changes in preference in terms of menu mix. I'd say two things. One is, though we don't provide monthly guidance, last year's fourth quarter, the October period was the strongest of all three months. Having said that, all three were negative, but yet October really was the best of the three months.

I would also say that we have purchased a service, Malcolm Napp and he has launched a steakhouse index in January of this year. We benchmark our performance against that. What I would tell you the fact that our performance is consistent with our competitive set; i.e., we have not lost any market share to any of our major competitors vis a vie the tracking that we're following.

I think it's the entire category that is feeling the pressure and I don't think Ruth's is being rejected in any way and frankly, the last couple of weeks in spite of these pretty significant declines, we've actually outperformed the index.

Jason West – Deutsche Bank

A question around the G&A, you talked about some pretty big reductions in the next year, but it's a little tough to know exactly on a dollar basis what we should be thinking about because you did have the acquisition this year and there's always some things on the plus side, so any dollar number your could give us for '09 G&A? It looks like we're on a run rate of about $30 million this year. Would next year be something like $20 million based on the cuts you've made?

Robert Vincent

I don't have a hard number for you, but I guess I would say that in the release, we indicated that in '09 the G&S savings would be $7 million. So as a starting point, if you took the run rate and subtracted the $7 million it gets you to a base line. Overall, we're not prepared to talk in terms of hard numbers.

As Mike said, we continue to challenge everything we do, question why we do it and do we need to do it, so it would be my expectation as we continue to go through that process I would hope that we would be able to find other opportunities.

Operator

Your next question comes from Rob Wiler – Piper Jaffrey.

Rob Wiler – Piper Jaffrey

I wanted to verify on the commodity side that you're still buying, you have nothing locked on the commodity side for '09 or for the remainder of the quarter, is that correct?

Robert Vincent

That is correct other than meat. We have some meat locked.

Rob Wiler – Piper Jaffrey

Any other commodities?

Robert Vincent

Some small products but in the scheme of things beef is our number one product.

Rob Wiler – Piper Jaffrey

Do you still own or lease a building in New Orleans, the previous headquarters?

Robert Vincent

Yes we do.

Rob Wiler – Piper Jaffrey

Is that owned or leased?

Robert Vincent

We own it.

Rob Wiler – Piper Jaffrey

Is that what you're talking about, the 20 basis points for the sale of the headquarters or is that a different building?

Robert Vincent

We're talking about our headquarters here in Heathrow outside of Orlando in Florida.

Rob Wiler – Piper Jaffrey

And that would be in addition to the benefit of selling the service center correct? The sales/lease back.

Robert Vincent

The support center here in Orlando, Heathrow is what we've announced as having a purchase and sale agreement on. We have the building in New Orleans up for sale or lease as well.

Rob Wiler – Piper Jaffrey

Shares repurchase, is that $50 million authorization gone or are you not even looking at that anymore?

Robert Vincent

I don't believe there is an official authorization. I think in the credit agreement there is a caveat for additional funding for additional repurchase but the Board has not endorsed or approved any share repurchase program.

Operator

Your next question comes from Joe Fisher – Goldman Sachs.

Joe Fisher – Goldman Sachs

Can you update us or remind us on the composition of your franchisee base and what kind of shape they're in these days and if they're looking for capital if they have access to it if they need it?

Robert Vincent

There are 12 franchisees, 65 restaurants and for the most part barring some significant geography issues, they are behaving about the same as we are in terms of sales. In fact I met with a franchise group this morning that had reported October's number to me were exactly the same as ours.

In terms of their financial health, to the best of my knowledge they're all in good shape. The good news is that most of our franchisees have been franchisees for a long period of time. They're very committed to the long-term success of the business and we're working closely as a group now to solve the system wide problems.

Joe Fisher – Goldman Sachs

Can you share with us what you would expect the add back to be in the fourth quarter related to Mitchell's on the EBITDA line and what kind of gift card sales you're expecting compared to last year?

Robert Vincent

We have not disclosed the specific add back from Mitchell's. In terms of your second question, all I can tell you is that last year, we had approximately $12 million to $12 million of gift card sales, so we've added more stores to the system, we've added Mitchell's piece and so we think that if we can generate at least last year's total, which obviously given the added stores fundamentally on a per store basis would be a reduction in line with where comp store sales are, we still think we would end up with $12 million to $14 million.

Joe Fisher – Goldman Sachs

And how much of that total was in the fourth quarter?

Robert Vincent

That is the fourth quarter.

Joe Fisher – Goldman Sachs

Have you been having discussions with you bank group and does it sound like if worst came to worst there would be interest in negotiating as opposed to putting any kind of default action on?

Robert Vincent

We have good relations with our bank group and we are scheduled to have a bank meeting some time before the end of November to apprise them of where we are and what we're thinking. I think at this point it's premature to speculate whether a, there would be a default and b, what the actions would be if in fact that took place.

I would emphasize we have good strong relationships with them. They believe in the brand. Obviously Madison Dearborn who is our largest shareholder has strong relationships with the bank as well and we think all of that if necessary would provide a reasonable outcome to anything that we would have to do if it came to that.

Operator

Your next question comes from David Tarantino – Robert W. Baird.

David Tarantino – Robert W. Baird

On the debt covenants, your comments suggested that at the end of the fourth quarter meeting that covenant would likely be safe, but as you look out into the first half of 2009, if comps were to remain in the negative double-digit area, what's the likelihood that you would trip that covenant?

Robert Vincent

In terms of Q4, I didn't say safe. I said tight. We think we can get over the top but I don't want to suggest that it's a lay up. I think in the first half of Q1 of '09, I don't want to speculate. You know the mall as well as anyone and if you continue it at that clip, there's only so many things we can do. I could lay out a scenario that basically says look, if we don't get the headquarters building sold in Q4 and we get enough gift card revenue and we get, that transaction probably would close, and if it doesn't close in Q4, it closes in Q1.

I'm not suggesting that we've got this great cushion here in Q1, but I do think there are levers and there are things that we'll continue to look at. Liquidity is our key focus, managing CapEx both in Q4 and Q1 next year will be top priorities for us so we really are looking at all of those things to make sure we stay compliant.

David Tarantino – Robert W. Baird

On franchising, have you looked at the possibility of a re-franchising program?

Robert Vincent

We're evaluating all of that and that is not something that is off the table. We would only look at this if in fact we were to sell restaurants that would then produce additional development on the part of the franchisee.

David Tarantino – Robert W. Baird

On October comps, did you have any marketing going on during that period or had the marketing stopped temporarily?

Robert Vincent

At the beginning of October, we had a direct mail piece with American Express that we did not realize the redemption on that we had anticipated so we did not have as much marketing effort then as we will now through the end of the year.

Operator

Your next question comes from Michael Perna – AAD Capital

[Michael Perna – AAD Capital

Could you give more color on the partnership program that you mentioned at the end of your prepared remarks? Would that take the same form that you implemented at your previous contracts and could you remind everyone what that structure was?

Michael O'Donnell

I think you're referencing the fact that I have a heritage of sorts with Outback Steakhouse and the idea is that we would create a partnership plan at the unit level whereby the partners have an opportunity to share in the profits of the business they run. Fundamentally it requires them to make an investment. It has a time frame in terms of years, somewhere in the five to seven year range and has an opportunity for those people to be bought out or to re-invest.

I believe strongly that that sort of stability represented in the restaurant in the field is a very positive thing for any restaurant company but particularly where in our restaurants in the higher volume and upscale position that we're in, having that stability there creates stability at employee ranks and it also creates long term relationships between our customers, our managers and the community.

That's really fundamentally the plan. We have not worked out the details. We're working on that now but as we've discussed it with our existing management teams, they seem to be excited about the opportunity to both realize short-term cash payments and hopefully substantial long-term wealth creating opportunities.

Michael Perna – AAD Capital

Can you discuss what that might entail for the future breakdown between local and national marketing?

Michael O'Donnell

As we become aggressive in creating a partner like behaving opportunities, we try to give those people more and more authority in the local markets, so we will continue to represent a balance of the advertising expenditures, but we will give the local restaurants to do more local things. They have that authority today, but it goes against their individual P&L and we may subsidize some of that in the future.

But this is something that if it takes place, it would take place closer to the second half of '09 as we organize this than it would earlier.

Operator

Your next question comes from Jeffrey Omohundro – Wachovia.

Jeffrey Omohundro – Wachovia

Can you give us an update on the transition in senior management at Mitchell's and in general the staffing and turnover at that concept?

Robert Vincent

In terms of the leadership at Mitchell's we had a fellow who actually had joined the company previously in a marketing position, had been asked to take over the Presidency of Mitchell's. He and I agreed that it would be in his best interests and ours that he go back and find something in the marketing business than actually operating a business.

[Tom Romain] has been the Senior Vice President of Operations at Cameron Mitchell's came with the acquisition and so on an interim basis, I am taking over the strategic direction along with shared resources from our Ruth's side for marketing and [Jill Ransier] to do the strategic side, and Tom and his team in the field will continue to operate the business on a day to day basis.

Jeffrey Omohundro – Wachovia

Can you give an update on your private dining programs and what the booking outlook is trending through the holidays?

Michael O'Donnell

We've placed more emphasis on private dining this fall. We may have been a little late in starting but we placed more ads for private dining this fall than we have in the past. We actually have a dedicated executive here at the corporate office in addition to our sales force in the field.

Historically we have run a lower percentage of sales in private dining that some of our competitors so we think there is upside there. We also have reached out to create a B-to-B sort of relationship where from a corporate office standpoint, we're reaching out to people to create a sort of dining, meeting opportunities on a broader corporate level.

In terms of '08 versus '07, I think we've seen a similar softness in that position as we have in the a la carte business. We are being as aggressive as we can be. Some of the promotions that we're talking about doing like the steak and lobster which is the six ounce filet, the stuffed lobster with crab meat for $39.95, we've been using that aggressively as an opportunity for folks to choose that offer and create great value in a private dining setting.

We're seeing a fair amount of success with that. I would say overall that the trend in private dining is really following somewhat the a la carte and we are reaching out to past customers that we have a history with to try to book as early as we can in terms of private dining, but we've seen a shift to a trend in some of our customers actually electing not to have Christmas parties this year, and in fact they're donating smaller amounts of money to charities.

We're putting a lot of emphasis on it because we like it and we like the exposure we get from it but it's not been as robust as we'd like it to be.

Operator

Your next question comes from David Rainey – Akre Capital

David Rainey – Akre Capital

Can you compare and contrast response rate to either of the direct mailings that you're pursued over the last three to four months versus what you would have expected a year ago or a year and a half ago? Can you give some sense of the stress for the consumer?

Robert Vincent

We would have expected to see in some cases 20% to 30% greater response than what we're seeing. We have an expectation we do a direct mail that we would, we're looking historically at getting probably a 20% to 30% greater response than we're getting over the last couple of months.

David Rainey – Akre Capital

You mentioned that the sale of the headquarters building could produce an extra 20 basis points of cushion. That's somewhere between $10 million and $15 million of net proceeds?

Robert Vincent

It's approximately $12 million.

David Rainey – Akre Capital

I can understand your comments on the gift card program fourth quarter centric cash up front, there's some decay after 18 months but in this environment and given all the questions about potential covenants and technical default, do you think you are under an obligation to put those funds for the gift cards in escrow so that the gift card holder didn't become an unsecured creditor in the event of a problem?

Robert Vincent

I don't know that I thought about that, but no.

David Rainey – Akre Capital

I was just thinking that if I was looking to purchase a gift card, I'd want to make sure it was money good for someone.

Robert Vincent

I am highly confident it's going to be money good.

David Rainey – Akre Capital

If I calculate EBITDA correctly for the quarter, was it a little over $6 million?

Robert Vincent

As we've said on previous calls, we don't talk about specific EBITDA dollars because there's a number of different ways people calculate it and we don't want to get into, there's no universal standard. I don't think it does us well to reveal that number and I'm sure that you can go through the income statement and do your proxy.

David Rainey – Akre Capital

If using your fourth quarter guidance of $0.00 to $0.02 a share, it looks like the EBITDA run rate for the second half of the year would be about $12 million to $14 million. If I were to annualize that it would be $28 million and the implied adjusted last 12-month EBITDA number based upon the calculation of 3.23 versus debt is about $51 million. So it would look like that second half EBITDA run rate is effectively half what it is on a trailing 12-month basis. Am I generally correct there?

Robert Vincent

I don't want to provide specific guidance on that metric.

David Rainey – Akre Capital

Would you expect the relationship between EBITDA and earnings in the fourth quarter to parallel that relationship from the third quarter?

Robert Vincent

I will tell you that in the fourth quarter seasonally, it is actually the strongest quarter so whereas in Q3 it is the weakest quarter. So when you look at the average unit volume between those two periods, historically it's a pretty significant difference.

David Rainey – Akre Capital

I'm just trying to normalize it given the current environment.

Robert Vincent

My point is you really can't take Q3 and use that as your basis for a run rate.

David Rainey – Akre Capital

I was trying to use the second half of the year given the particular decoupling between seasonal strength and economic weakness overall.

Operator

You have a follow up question from Steven Rees – J.P. Morgan.

Steven Rees – J.P. Morgan

Can you talk about the magnitude of the decline in the Mitchell's business in the October time frame?

Robert Vincent

We're not going to reveal those comp numbers until we get into the second quarter of 2009, but in fairness having said that, I would tell you no, the volumes are not mirroring that of the Ruth's brand in October.

Operator

You have no more questions. I will turn the conference over to our hosts for any closing or additional remarks.

Robert Vincent

Thank you very much. Appreciate everybody joining us. We look forward to updating you again soon.

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