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The Wendy's Company (NASDAQ:WEN)

UBS Global Consumer Conference

March 14, 2013 9:40 am ET

Executives

Stephen E. Hare - Chief Financial Officer and Senior Vice President

Analysts

David Palmer - UBS Investment Bank, Research Division

David Palmer - UBS Investment Bank, Research Division

Good morning, everybody. I'm David Palmer, UBS Restaurant and Packaged Food analyst. We're on our tab Wendy's management here with us today. Joining us with me up here on stage is Steve Hare, Chief Financial Officer for Wendy's. And with us also are David Poplar and Lindsay Radkoski of Investor Relations.

Steve Hare has been Senior VP and Chief Financial Officer at Wendy's since September 2008. He was Senior VP and Chief Financial Officer of Triarc from September 2007 to September '08. He's helped preside over a serious change at Wendy's, including the Arby's acquisition and integration of Wendy's and Arby's and its subsequent productivity programs and the spinoff of Arby's.

Over the last 1.5 years, he's been working with a new CEO, Emil Brolick. And since then, they've been making a push together behind reimaging and innovation.

Thank you again, Steve, David and Lindsay for joining us today.

Stephen E. Hare

Great to be here.

Question-and-Answer Session

David Palmer - UBS Investment Bank, Research Division

Steve, perhaps you can start out with a bit of State of the Union for Wendy's. You certainly have been in a great position to give us perspective on Wendy's, even leading up to the Emil Brolick time on with brand. What have you been working on? And what opportunities and challenges do you see today?

Stephen E. Hare

Well, David, I think it's a very interesting time to be at Wendy's and I think a very interesting time to look at the company from an investment standpoint. I think with Emil Brolick coming back in the last 1.5 years, it really brings an interesting perspective back to the company. If you know Emil, Emil was a key figure at Wendy's really during the very high-performance period in the '90s, working closely with the founder, Dave Thomas. So he brings a lot of continuity and history and connection with the Wendy's brand. And I think the franchisees have really rallied around him and the leadership that he's providing. But interestingly, I think, Emil is focused on our future. It's not -- his mission is clearly not to sort of get back to the good old days, but it's to really drive Wendy's in a much more aggressive fashion that I think the company has seen in a long period of time. So you will see us and we'll talk today, obviously, about a number of activities that we're doing to try to really transform the entire brand. And the brand positioning that we're really focused on is A Cut Above, and we'll talk some more about what that really means in a lot of different areas. But it's a slow and a long process to transform the brand, but we're pleased with the early progress that we've made.

David Palmer - UBS Investment Bank, Research Division

Yes, and one of the things that's appealing about Emil is that he's a consumer insights guy, he's marketing guy. He talks about the position of the brand being in that Cut Above. Reimaging is a big part of that. I'll leave it open to you to kick off, talking about what you're working on in reimaging, how -- and I know you've been testing different types of it. What have you been learning? And how have your --- what is your new -- how is that focus evolving with regard to reimaging?

Stephen E. Hare

David, as you mentioned, Emil's upbringing and his passion is really around marketing of the brand and our products. So I think one of the first issues that he really dealt with when he came back to the company was getting back to Wendy's as a product innovator in the fast food category, looking at our process and our testing processes and really trying to reestablish us as the clear quality leader in food in the fast food business. But beyond that, as we started to get into that and we were seeing progress being made in terms of new products, we were also not satisfied with the sales performance that we were getting and the recognition of the quality differential that we think we have in our category. And one of the elements that we think was lacking and inconsistent with A Cut Above was the facilities that we have for the most part. It's a 40-old brand. So the average age of our buildings across the system is about 20 years old. And as we've look at it from, in terms of a contemporary experience for our customers, we felt that we had the quality menu and the innovation that Wendy's is known for. But at the same time, we were not providing the customer experience, especially when you start comparing us to a lot of the new fast casuals: the Chipotles and the Paneras and the Five Guys, who are also pulling at our premium customers. So we really came to a major decision that we had to really push and push aggressively to say, we need to deliver our food in A Cut Above facility as well, and that really was the origins of the Image Activation. So beginning nearly 2 years ago, we started testing 4 different designs and really trying to see what would resonate with our customers and what would tell people that Wendy's is different now and really get more trial and really see some of the product innovation that we're doing out there. Since that time, we have now focused on one of those designs, and we're seeing tremendous sales response. We've said publicly that the Image Activation stores, once we activate those stores, it's beyond just a construction project. It's also taking a hard look at the crew and the quality of the service we're providing, how we market the brand with digital menu boards and the entire experience. But as a result of that whole process, we're starting to see lifts on the sales side of 25%, which is remarkable in the environment that we're facing. And so it tells us we're on the right path. Now it's a long process. We've got a long way to go. The success at 25% sales lift has come at what we call Tier 1, which is a major reconstruction of the building, costing about $750,000. So a significant investment. So as we look at across the system and we look at our franchisees to come behind us and follow our lead because we really want this to be a brand-wide initiative. It will not be successful if it's just at the company-store level. Remember, we're about 22% company owned and 78% franchised. And I think to really be successful, systemwide, we've got to find a way to hopefully get the same kind of sales and customer responses, but at lower cost points, and that's why we're now heading towards a Tier 2 and Tier 3 alternative design that will be at lower cost points. Tier 2 would be at a $552,000 average cost and the Tier 3 would be closer to $375,000 as a range. Now, we're just in the process of opening our first Tier 2s and 3s this quarter. So in terms of the sales lift that we'll get as we reduce the investment, that's to be seen. But we're excited. We think we have good designs and just given the success we've seen in the Tier 1, we go into these lower-cost investments, thinking that really may be the sweet spot as our franchisees look at where do they want to sort of settle in on an Image Activation design.

David Palmer - UBS Investment Bank, Research Division

And from the outside looking in, it's tough to -- it seems like this is happening slowly, that this testing is happening now. But if these new prototypes work and you start to share the findings with the franchisees and fall meetings and the banks get on board, could this be something that surprises us and we'll get a big bang really starting in '14 with the reimaging?

Stephen E. Hare

I think that's a fair point, David. It certainly doesn't feel like a slow process internal to the company. We have a lot of people working full speed to try to get to designs that work and bringing along the franchisees, which is fundamental to the success of this program. I would say in terms of our pace, to David's point, we reimaged in the concept phase 10 restaurants in 2011. On the company side, we went to 48 of these designs in 2012. And for 2013, we will reimage 100 restaurants on the company side. Half of those will now be Tier 2 and Tier 3 design. So we're really spreading across the spectrum. So we were doubling the pace from a company standpoint. That's why I say it feels quick to us. And at the same time, we're trying to get 100 reimages done on the franchise side, and in fact, we put an incentive program in just to get people to come in and be an early adopter because we recognize it's early. You don't have all of the data that you would like to have, and the costs are a little higher than they would end up being because there will be a learning curve to this construction process. So with that incentive program though, if we could get 200 done this year across the system and then we would look to perhaps double that again next year, and I think once the economics are proven and people see this ability not just at Tier 1 that they have today, but at Tier 2 and Tier 3, I think to your point, you might see a pretty rapid acceleration of acceptance of Image Activation.

David Palmer - UBS Investment Bank, Research Division

And just building on that, one of the things that strikes me is that you have that after 3 months, those stores that have been reimaged, those restaurants that have been reimaged, the results start to get baked into the same-store sales base. And so from your company versus franchised momentum, I mean your company restaurants by the end of this year, we might be able to look at them as a microcosm of how it's going. And so perhaps investors might be able to anticipate correctly how this will work on a magnified basis.

Stephen E. Hare

Yes. On the financial side of Image Activation, it is a little complicated in terms of seeing the impacts of Image Activation in our current results because on a profitability basis, while we're seeing tremendous sales lift and flow-through on that sales lift, the construction is extensive, especially at Tier 1. So we actually shut the restaurant down for 8 weeks. So you're actually losing sales completely for an 8-week period. And then you have at the grand opening period, and as a result, at the end of the grand opening period, then we put these restaurants back into our same-store sales base, when we think that's a fair measurement of how they're doing. Only then do you begin to see the impact that Image Activation is having on our comps sales. And I think that will be helpful going forward. But there will be a delayed impact on the profitability of the business as you get through these startup costs.

David Palmer - UBS Investment Bank, Research Division

What I think of when you mentioned that is, I think about the fact that you're winding down breakfast in a certain number of stores. And there might be there's an -- I know there must be a modeling exercise, I worry if I can get it right, but from a quarterly standpoint this year more than an annual standpoint. But that is an offset from a profitability standpoint this year, is it not? Could you maybe talk about that?

Stephen E. Hare

Let's talk about the breakfast. That's been a daypart that Wendy's has not been an active participant in. It's really one of the -- really the only burger companies that has not been a player at some level in breakfast. Over the last couple of years, we have tried to put a differentiated menu together and to see if we can't build a platform. We think A Cut Above gives us a positioning in the daypart. As all of you know, it's a huge part of the traffic in QSR. About 25% of the customers come in during that morning daypart. So the desire to be a player in that daypart is intense at Wendy's. But as we've seen the results over the last 2 years in a number of different markets, it's been a very mixed bag of performance. And even with what we think is a differentiated menu, we really don't have, for example the heavy coffee sales that are really important if you want to be successful in this category. And as we looked at it, in fact, a lot of the new entrants, whether it's a Taco Bell or a SUBWAY, the new entrants are facing very entrenched participants here, where I think creature habit is even more intense in the morning daypart so that people, if they're going to a McDonalds, it's very hard to pull them away, or a Starbucks in the morning period, to get them to try even if you have a differentiated menu. So what we made was from a business standpoint, we were not seeing traction in some of our markets. We were seeing our franchisees and some of the company stores lose money in the morning daypart without any real signs that it was around the corner, where we could say we're going to be profitable here. So we made a tough decision at the end of the year to allow some of our franchisees in these unprofitable markets to pull out. The company stores also were shut down. And to your point, what's the impact on the company? So in 2013, the fact that we'll have less company stores participating in breakfast, our same-store sales will come down as a result of that. From a profitability standpoint, that goes the other way. As you look out our restaurant margin for 2013, we were supporting all of the breakfast advertising as an inducement to test breakfast and to begin there, knowing it was going to be a struggle. So all the advertising expense in these local markets was borne by the company. So we'll eliminate all that advertising and we'll eliminate the operating losses for the company restaurants that were in breakfast. And so by pulling both of those out, it's actually a helpful plus to our restaurant margins. It will be a declining factor on our same-store sales. But to your point around the model, just to help you a little bit, when we talk about our goal for this year of 2% to 3% same-store sales growth, think of it as that's our core same-store sales growth that we will deliver. On top of that, you'll have a benefit from Image Activation as these stores come into comps sales base, offset by the decline on breakfast. So really I think those 2 factors in '13 will about offset each other. So what we're comfortable with is the core business itself should be able to sustain 2% to 3%. That breakfast impact will be a 1-year impact. The Image Activation benefit I think will then kick in, in 2014.

David Palmer - UBS Investment Bank, Research Division

Let's talk about value. I mean it seems that value menus, just any that the attempts to show value to the consumer by fast food restaurants today have been very -- you've seen dollar drinks, you've seen dollar menus. Of course, there's always been the combo meals. And then I know Wendy's has tinkered with its coupon mix last year. And now it has a new value menu. What is your latest thinking about how Wendy's will be and perhaps do you feel like you found it showing value to the consumer.

Stephen E. Hare

Well it's interesting, when you look at value and you think of the history of Wendy's. Wendy's really was an innovator around a Super Value Menu in the very, very beginning. So from a customer standpoint, I think there's always been an association that Wendy's offers this choice in terms of value. But I will say to be fair, and if you look in 2012 in our performance, we clearly want to have sort of a high-low marketing strategy, high being our premium products and very limited time offerings and products that really are consistent with A Cut Above and higher quality. At the same time, we want to have this choice to appeal to our customer base that we know is going to be very value-conscious and want to see, because we've trained them over the years, that you can get quality at a price that is around $1. So our challenge when we looked at results in 2012, we were very successful on the premium side, but we're losing traffic on the discount side. And as we looked at that, we spend a lot of time trying to analyze what we were doing and not doing that clearly we were underperforming on the value side of the business. And part of it I think really came to the inconsistency of our approach across the system. And it really gets back to our company stores and our franchisees and a little different approach to the business that we have. So we had focused -- our most recent value effort was a My $0.99 menu, where we have a number of items on the menu all priced at $0.99. So it was a simple approach, compelling, we thought, to our customers. But from a franchise standpoint, especially as beef costs continue to rise, commodity costs continue to rise, the margins on those products really start to squeeze our franchisees, who are very focused on the bottom line as they should be. So what we tried to do was, say, as a result, when we're looking across the country, value at Wendy's was different. You could go a mile down the street and one Wendy's would have a product at $0.99 that might be $1.49 a mile away. That was confusing. And what you don't want to do is confuse your customers if you want to play in value. So what we started testing was what we called Right Price, Right Size. And that was introduced in January. Hopefully you've seen some of the advertising that we did nationally behind that. And the concept there is we want to extend the pricing beginning at $1 but going up to as much as $2 depending on the quality of the item and the type of item. And the rationale behind that is we think that, with that mix and with the consistent array of $0.99 items and items that are above that price that we think we're providing great price value and a compelling offer to our customers, but we're doing it in a way that we think the franchisees and the system at large can support. So from a profitability standpoint, it's one that makes business sense to them so our consistency of execution we think is going to improve. We certainly saw that in January. Most of our franchisees supported the program. And given the success in the early -- again, it's early, we can't declare victory on the program. But we like what we've seen. It certainly fits the environment we're in, where the consumer for the most part is struggling in terms of discretionary income levels. So having a viable and a fresh approach to value, I think we think our timing was just right. We like the early results, and we intend to support it for the rest of the year.

David Palmer - UBS Investment Bank, Research Division

I mean, for me, when I first -- when you first see the Right Price, Right Size menu, the concern was you didn't have necessarily a hero item at $0.99, a double cheeseburger, where your franchisees are clearly taking a margin hit to just make this thing happen. It seems like it's sustainable from a margin standpoint, so it's very heartening to see that it is seemingly working to stabilize the sales, as you said it was, in the early going.

Stephen E. Hare

And we really do think consistency is the key here. And as we look at 2012, we were not consistent, and so we think this is an approach -- again, we'll need to continue to support it. We'll need to continue to add new items to the menu from time to time to keep it fresh for our customers. But we're really pleased with the early results.

David Palmer - UBS Investment Bank, Research Division

There are several things that seem to be going on in the restaurant industry. Reimaging is one of them, and we talked about that already. Another one seems to be refranchising or going to a higher franchise mix. How does Wendy's think about its franchise mix and why closer to 80% rather than 99% number going towards is the right mix for Wendy's?

Stephen E. Hare

Right. I think the answer -- the business models -- I mean, there's great success stories that are 100% franchised, and then there's I think other business models where company ownership really make sense. If you look at for Wendy's, especially since we don't have a huge international business, you look at where are we going to drive growth? We're going to drive growth because we're North America focused. For the near-term, we need to drive our operating cash flow performance based on our U.S. company ownership, which today is actually up to about 22%. And we think that's a comfortable place for us to be. Now, having said that, we are looking at our footprint, of where our company restaurants are across the country and we do think that we are fragmented. So we don't think we're as efficient as we could be. But you certainly gain efficiency when you have a certain number of restaurants concentrated in a geographic area or a DMA market. And what we're trying to do right now is take a look. If you saw us in the 2012, you'd notice we bought 2 markets. We actually brought in Albuquerque and Austin, Texas, which are self-contained markets. We have total control of those markets. It helps us with some of our marketing testing and gives us the ability I think to move very quickly and also to attack Image Activation in those markets. So it does some good things for us. Our goal is not to own more of the system, however. I think now in the fourth quarter, you actually saw us divest about 30 restaurants across several markets. And the key there and it really links back to Image Activation because what we're trying to do as we look at an efficient footprint for our restaurants not just for the company side but also for franchisees, we have a number of very strong franchisees in our system. We're very concentrated at the top. 20% of our franchisees own about 80% of our restaurants. So we want to continue to feed some of these restaurants into our franchisees, who are the strong operators and are well capitalized because they are being asked to make a major reinvestment into the restaurants to improve the quality of our facilities. In addition, I think we have an interesting opportunity now in that we're being approached by a number of people outside the Wendy's system who are looking at what Emil Brolick is doing in particular, his track record of success and this Image Activation opportunity and are approaching us to say they want to come in and come in, in a fairly large way to the Wendy's system. So in addition to I think expanding some of our existing franchisees, there is an opportunity for us to take maybe some of our company restaurants and put those in the hands of new, fresh blood into the system, which I think will be energizing overall, help us accelerate the pace of Image Activation and I think lead to a more efficient Wendy's system from a G&A and a marketing standpoint.

David Palmer - UBS Investment Bank, Research Division

I know Wendy's has a very good food innovation team. The culinary folks there are top notch. That said, the innovation a little over a year ago, there were some fits and starts with the W and the Dave's Hot 'N Juicy, while a great product, it seems like there was some interesting -- some staging issues with those products. But it feels like you're getting your feet under you into year 2 of this new management and the pipeline, and there seems to be confidence in that premium pipeline to follow the value. Can you speak to the disciplines around the innovation process and what changes we can't see that are going on the inside that could give us confidence that innovation is going to be impact and executed well?

Stephen E. Hare

I think in terms of food innovation, I think it also ties back to your earlier question about what's been the impact of Emil Brolick coming back to the company. Again with his background, focused on marketing, I would say his #1 priority coming in was a focus on Wendy's getting back to its place as a food innovator and improving our quality consistent with A Cut Above. So to do that, I think the first element of that program was bringing in a new Chief Marketing Officer. We had a vacancy for a period of time, so brought in Craig Bahner. Craig is a seasoned professional coming out of Procter & Gamble. So very brand-oriented and really has hit the ground running as a partner with Emil. And with his P&G upbringing, he brings a lot of discipline and process to us. So along with the Gerard Lewis, who is our head of food innovation and who has been sort of the architect behind some of the successes we've had like Dave's Hot 'N Juicy, we really, I think, are in a much better position. But if Emil is here today, he'd say we're not there yet. And I'm sure he's never going to say we're there because he sets very high standards in this. But we want to have a deep pipeline of products. I will say that if you look at the calendar that we're going to roll out in 2013, I think it's much stronger than and more consistently strong than 2012. Two highlights, and I can't go into too many details, but these 2 products that are in test right now that I think are very interesting and I think just representative of what we talked about in terms of innovation and why Wendy's is different than other QSRs, is we'll be coming out with a flat bread chicken product that maybe you've had a chance to sample.

David Palmer - UBS Investment Bank, Research Division

It's a great product.

Stephen E. Hare

Very innovative. And if you look at other QSRs. I don't think you're going to find anything close to this product. So it gives you chance to be a little bit of a signature product. If you want that product and you want to get it in the convenience of the QSR, there's going to be one choice for that product. Very excited about it. It's operationally a little complex. We've taken our time, worked that through the testing so we can do that and still meet our time standards for a fast food operation. On the other side, we've been testing, and it's one of my personal favorites, a pretzel bacon burger, and it is a little decadent and it's wonderful. It's been testing very well. But again, you're using the food carrier as a way again to differentiate the product, and we're trying to -- we want some separation here. We want you to say, "If I go to Wendy's, I'm getting something different." At the same time, we recognize we're not just competing with McDonald's and Burger King and the other burger players. We've got people like Five Guys that are out there, pulling out our premium customers, and we want you to be able to go to a Five Guys and compare the experience to a Wendy's and say, "Look, we use fresh beef, they use fresh beef. I dare you to say that our product is not at parity." We're biased about that. I think it's a parity product, if not better, and some innovation there. But more importantly, it's going to be -- it costs you 40% less. And if you're time constrained, you're also going to have the convenience of a drive-thru. I think that's a compelling difference as we stake out the battle for premium burger customers. And that's a wedge we want to continue to drive.

David Palmer - UBS Investment Bank, Research Division

As a reminder, if you have a question, please -- there should be cards around. Please do fill those out, and Chris from the back will collect those from you. In the final minutes, we'll try to work in your questions. Happy to do so. Let's talk about costs for a minute. Health care is one that people are curious about. And certainly there's other line items such as food and labor. Can you perhaps touch on those?

Stephen E. Hare

Let me start with the easier one, I think food. If you look at that, our commodity -- what we call our commodity basket of what we purchase out there, we're looking for another inflationary year. We've estimated 3% to 4% of an increase in cost of what we buy. Again, and what we buy, 20% of our basket is beef and 20% is chicken. And by far, the protein we're most concerned with is the cost of the beef. That, we see really for the next couple of years, there's such a significant imbalance of global demand versus the supply in North America, which is all we buy, and we're only buying fresh beef. That we think we're just going to face an inflationary environment. And so tying back to our discussion around Right Price, Right Size and what you can sell a cheeseburger deluxe for, we think, again, we're going to face an environment where we're going to see some ongoing inflation there. Occasionally and last year, we saw a little bit of relief, but I think that comes from extraneous factors, pink slime and other issues. So I think fundamentally, we're on a path where the timeframe to improve the supply fundamentals in this country are going to take several years. So I think we're looking at cost inflation of 3% to 4%, which equates to really think of it as a negative 1 point on our restaurant margin that we have to offset. Now we can offset that some with price, but we do not want to drive and take too much price because we're more interested in having a positive traffic flow into the restaurants. So as we look at that, the challenge there is what can we do around how we spec the product, how we buy the product. Can we buy it more effectively using our co-op to help minimize some of that cost increase on the commodity side? On the health care, obviously, a big concern both to the company and to our franchisees, most of our franchisees go over the minimum size requirements. So unfortunately, this is a significant effort that our franchisees also are looking at, one, just understanding the complexity of this bill, which is significant. But if there's good news here, I will say that as we continue to analyze it and look at the impact on our business, we actually think that the impact is going to be less than our original estimates. We have started off just looking at the broad brush of the law before a lot of the details were apparent and saying that maybe that cost could be $25,000 a restaurant. As we dig into how the program will work and based on historical receptivity to other kinds of insurance programs, we actually think the acceptance rate of the program will probably be lower. So as a result, since I think while we'll offer the program to a number of employees, we think based on probably a lower acceptance rate, the actual cost per restaurant, based again, based on some assumptions around acceptance, could be closer to $5,000 a restaurant, so significantly lower than our original estimate. But there's more work to do there. Clearly, it's not a positive. I mean, it's still going to be an additional cost that both the company and our franchisees will have to absorb. But we think it's going to be manageable.

David Palmer - UBS Investment Bank, Research Division

A couple of questions from the audience have to do with free cash flow and CapEx. One of the things that -- the way that you're going about things, improving it from a company-owned standpoint first, it does have cash flow implications. Perhaps you can talk about that and the potential ramp.

Stephen E. Hare

I'll start sort of philosophically. The Wendy's Restaurant business is a significant and a consistent cash flow generator. The question is, how do we allocate that cash? We also have a significant cash balance. We have $450 million at the end of last year that's available to reinvest in the business. Our priorities are clearly to put as much capital back into the restaurants as makes sense. And Image Activation is clearly the #1 initiative there. So we've looked at the pace from coming back to our question around how quickly can we go, and we've looked at it, and really set a hard goal for us on the company side, is that we think we can get 50% of the company restaurants reimaged by the end of 2015. From a capital spending standpoint, that really means about somewhere between $440 million to, say, $500 million of investment just in Image Activation. So we set that as we must do and put that on top of a, say, a base capital spending that for us doing normal maintenance to the restaurants, technology investments, everything else we do, in that range of, say, $80 million to $100 million. So you're talking about a capital budget much like we put out for 2013, where we'll spend about $245 million. So that will use up a substantial part of our cash flow generation. But in addition, as we'd look at that, over the next couple of years. We think we'll have enough cash flow, and of course, we have the cushion of the cash balance that we have that we want to get to work as well in the business. And we were very comfortable in the fourth quarter last year, taking a step of saying we also think we can increase the returns of capital to shareholders. And so we doubled the cash dividend that we pay. So now on an annual basis, we're paying about $60 million of capital back in terms of cash dividends. And I think that's been well received by the markets. It's also expanding I think the base of investors looking at us because of the yield on the stock. And then on top of that, we also announced a stock buyback program that was authorized by our board of a $100 million to give us flexibility really on an opportunistic basis based on really how the market is performing and our stock is performing. So clear priorities: put the money back into the restaurant; drive Image Activation as quickly as possible; and then on top of that, use some of our flexibility to provide what we think is a good and increased return of capital to shareholders.

David Palmer - UBS Investment Bank, Research Division

We have time for a couple more questions. One from the audience is, on the reimaging, that $750,000 version that gets the 25% return -- 25% sales lift, how much is happening beyond the dining room itself? Are there kitchen effects? And I assume they mean throughput benefits and things of that nature.

Stephen E. Hare

Yes, the focus of the Tier 1, if you took a look at one of those today, the focus of the improvements are customer-facing: what's visible to the customers. So it's not a program that redoes the kitchen. So it's not meant more efficiency. In fact, we do have a flexible system of capacity. We're able to handle this 25% increase from a staffing standpoint with our kitchens for the most part. So the biggest emphasis has been a complete exterior overhaul, so a high-glass appearance, very different curb appeal that's something that we think pulls people into the restaurant. And then in the interior, all completely different seating, a different customer flow, where we move away from the serpentine front that many QSRs have, to our customer flow, where we separate the payment from the pickup function, Wi-Fi, fireplace, lots of issues that make the dining experience much more comfortable and contemporary. So when you see the lift, when you talk of that 25% lift, the biggest part of that lift is you're seeing many more people sit in our dining rooms, while you see a little pickup on the pickup window side as well as in terms of takeout. The largest part of that lift is in the dining room. And what we like about that, David, is our check is higher in the dining room.

David Palmer - UBS Investment Bank, Research Division

Another -- one more question on the food cost side. I'll throw in another one on pricing. The new items today, are they margin dilutive? Can you talk about the impact of your innovation on your food cost? And then just speak to what your own internal pricing models are saying about your price, your opportunity to take price?

Stephen E. Hare

Well, I think, one, from a margin standpoint, our restaurant margins for 2012 were 14%, which stayed about flat with the prior year. The constraint on that is this commodity increase that we're seeing. At this point, our philosophy is that we are reluctant to try to pass all that through to our menu prices. We're cognizant in this kind of economic environment that we want to maintain high quality, but at a QSR price. And this wedge that I talked about, we want a big difference between the cost of an Era [ph] salad and a Wendy's salad, a Five Guys hamburger and a Wendy's hamburger. While we think we can be a little higher-priced in terms of our traditional QSR competitors because when we think the quality differential is there, we want to sort of limit the amount of price that we're taking with the idea we'd rather balance that with some traffic increase this year. And of course, Right Price, Right Size we think also will be attractive -- traffic additive. And that also will be margin helpful because we've move off of the $0.99 price point for some of our key products.

David Palmer - UBS Investment Bank, Research Division

Well, thank you very much, Steve, and to Wendy's for joining us today.

Stephen E. Hare

Great. Thank you, everyone.

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