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California Pizza Kitchen Inc.(NASDAQ:CPKI)

Q3 2007 Earnings Call

November 8, 2007 5:00 pm ET

Executives

Rick Rosenfield - Co-Chairman,Co-President and Co-CEO

Larry Flax - Co-Chairman,Co-President and Co-CEO

Sue Collyns - SVP of Finance andCFO

Analysts

Jeff Farmer

Destin Tompkins

Mike Smith

David Tarantino

Nicole Miller

Steve Anderson

Larry Miller

Mark Lee

Operator

Good evening. My name is [CK],and I will be your conference operator today. At this time, I would like towelcome everyone to the California Pizza Kitchen Third Quarter Earnings ConferenceCall. All lines have been placed on mute to prevent any background noise. Afterthe speakers' remarks, there will be a question-and-answer session. (OperatorInstructions).

Thank you. Mr. Rosenfield, youmay begin your conference.

Rick Rosenfield

Thank you, operator. Goodafternoon, everyone. Thanks for joining us on our third quarter conferencecall. My name is Rick Rosenfield, Co-CEO of California Pizza Kitchen. With meon the phone today is Sue Collyns, our Chief Financial Officer.

Before we begin, I need to remindeveryone that part of our discussion this afternoon will includeforward-looking statements. They are not guarantees of future performance, andtherefore undue reliance should not be placed upon them. We refer all of you toour filings with the Securities and Exchange Commission for a more detaileddiscussion of the risks that may have a direct bearing on our operatingresults, performance, and financial condition.

With that out of the way, I wantto mention that my Co-CEO, Larry Flax, is on the line. For him, it's Fridaymorning at 7 AM. And he hasthe good fortune to be in Seoul, South Korea, participating in the grand openingof our first location in South Korea. Simultaneously, we're also openingour six restaurants in the Philippines.

Good morning, Larry.

Larry Flax

(inaudible). They tell me it'sgood morning in Korean. It's 7 o'clockin the morning here.

Rick Rosenfield

Good morning

Larry Flax

Good morning, everybody.

Rick Rosenfield

Well, yesterday I am informedthat in a news conference the CEO of our South Korean franchisee announcedtheir intent to build 30 CPKs in South Korea in the next five years.

Larry Flax

Yeah. I guess they are veryexcited over to hear about California Pizza Kitchen.

Rick Rosenfield

That's great. These openings fortifyour growing presence in the Pacific Rim, whichnow comprises 18 restaurants in seven Asian countries and represent yet moreopportunity for us to expand our high-margin franchise royalty stream.

Moving to the short-term, I'dlike to now discuss highlights for the third quarter of 2007. As we mentionedon our last call in early August, the quarter began with a disappointing startin July. However, as the quarter finished, we regained momentum against thebackdrop of continued challenges throughout the industry. And as I'll discusswith you in a moment, we were able to achieve what we believe were prettyimpressive results.

For the quarter ended September30th, we grew revenue 13.5% driven in part by a 3.5% increase in comparablesales versus previous expectations of 2% to 3%. These results came on top of a5.6% increase [technical difficulty] and equates to a total two-year stackedpercentage increase of 9.1%, and a three-year stacked percentage increase of16.2%.

In addition, this marks 17consecutive quarters of strong comparable sales since Larry and I returned as Co-CEOs.While this quarter saw minus 3 negative guest counts, it should be understoodthat over the last three years we've been able to raise pricing byapproximately 11% while increasing traffic by more than 5%. We were also ableto maintain a positive mix, so in the present economic environment we believewe've delivered.

Now I know there's been a lot ofrecent discussion as to how certain parts of the country have faired withrespect to comps, particularly in Californiawhere the press seems quite focused on the weakness in the housing market. Ican tell you that for us in Californiain Q3 we had positive comps that were just shy of 2%. And I think it'simportant that you understand that in context.

Despite the current relativesoftness, Californiaremains by far our strongest market and its quiet robust and lucrative for us.Our financial performance in California remainsoutstanding, and indeed, average weekly sales in California, during Q3, was $75,050, 13.50% abovethe remainder of our full service portfolio.

Importantly, that weekly salesaverage was also the highest-ever for our California stores. So, bear in mind, that we,internally, never let the desire for strong comps drive our real estate orfinancial strategy. We've been intentionally cannibalizing ourselves in California since 1986 when we opened our secondrestaurant 1.5 mile from our original Beverly Hills restaurant.

And we've continually in-filled,particularly in Southern California, our strongestmarket, because, quite frankly, our returns justify it. And we think we stillhave plenty more opportunities for growth in this, our home region. And whileour strategy can cause modest traffic losses in individual stores, overall trafficsales and profitability in the market increases. This strategy also increasesand leverages our brand awareness.

I'd like to add that we have a number of restaurants in California averagingnear at or exceeding $1,000 per square foot in sales. At our price point, this issuch a strange capacity that it adds to the difficulty in driving comps. So, allin all, what I'm saying to you is that while, of course, we'd rather not seesectors of our great state experiencing pressure, we're quite satisfied withour business here and the opportunity it continues to provide us.

We're also confident that our overallreal estate strategy and brand positioning, generally targeting higher incomedemographics and providing a quality experience at a relatively low price point,relative to our peers, provides insulation for us in tougher times.

Now specific to the overallcompany financial results in the third quarter, I am proud to announce that wereached a 20% operating margin, which we always target as the gold standard ofperformance. This is a credit mostly to our operations taskforce which proved thedepth in better managing food preparation, storage and waste, and enabling usto leverage our cost of sales even as many raw commodity costs were stillhigher year-over-year.

On the bottomline we are on $0.05,including $0.20 in early termination costs for up to four ASAP's. As of today, wehave closed one ASAP location in Queens, New York, and have scheduled asecond location closing for next month with one further ASAP closure innegotiations.

Part of the 20% write-off alsoincludes an early termination of a fourth lease for an un-built ASAP unit inour pipeline. These actions will put this chapter behind us and will result in$0.02 accretion on a go-forward basis.

So, here is where we stand today onour, company-owned, ASAP units. We have achieved mixed, but, overall,unsatisfactory results. Nevertheless, we have several highly successful andhighly profitable units. And as a result of our recent evaluation, we think weunderstand where they work and where they don't.

Additionally, we will make somechanges at the existing restaurants, continue to support them and enhancefinancial performance without capital expenditures. That said, we intend tokeep tweaking and improving the concept and we'll just see how it evolvesovertime, because we continue to believe that it has a complementary role inour portfolio.

During the third quarter, weadded six full service restaurants Roseville, Minnesota; Tempe, Arizona; Lake Grove, New York; Nashville, Tennessee; Seal Beach, California; and Houston, Texas. It's interesting to notethat our opening in Nashville achieved the highestfirst week opening volume of any restaurant in our history, only to be surpassedby the first week sales at the restaurant we opened this quarter at PartridgeCreek Mall in Detroit, Michigan.

During the quarter our domesticfranchise partner, HMSHost, opened a CPK/ASAP location in Los Angeles International Airport, that’s our thirdin at LAX. Additionally, our international franchise partner, Grupo Calpik of Mexico opened a full service restaurant in Mexico City, that’s ourfirst in that country.

We're very encouraged by theramp-up in expansion of our airport ASAP units by our partner HMSHosts. Theycurrently operate 16 ASAP's and they plan on opening four units next year.Also, the pizza of venues run by our franchise partners at Dodger and Anaheim stadiumdid very well for us during the regular baseball season, while our agreementwith Staples Center in Los Angeles to be very exclusive pizza provider, justkicked off for us in October. So, we're pleased to be adding another sportsvenue to our franchise business.

Across the entire portfolio offull service restaurants, average weekly sales were up 3%, with our pre-2002locations, delivering AWS of $75,351, our highest average weekly sales onrecord. Our “newer class” of restaurants are performing admirably and aregenerating significant volumes. Results like these are often associated withhoneymoon periods and making AWS growth challenging year-over-year. That said,we are very satisfied and proud of all post 2003 classes.

More than 33% of our base nowfeatures the upgraded decor prototype, that we started in 2004, with a morefeatured bar, while 54% of our restaurants having upgraded warmer ambianceformat. This contrast was just 23% and 47%, respectively, a year ago.

While we don’t have a specifictimeline, we do expect to refresh the balance of our restaurants overtime. Manyof these mature units are all ready among the highest volume in the portfolio.And our experience tells us that if we enhance the ambiance, we'll enhance thevolumes. We are constantly evaluating these upgrades with ROIs for ourshareholder and today it's been a good use of our capital.

Switching gears, our menudevelopment continues to be at the heart of our success. Our June menu rolloutincluded four new items, The Works Pizza, Cajun Pizza, Mediterranean Salad, andPan Sauteed Salmon, and one new dessert is: White Chocolate Peanut Butter Cheesecake.Normally, we would have awaited our November rollout to introduce new items. Wetook a more offensive pasture and introduce our Miso Salad and Crab Cakes viatable cards in September. These items are achieving excellent sales andcustomer satisfaction scores and have become a welcome addition to ourofferings.

For our November menu, which wasintroduced yesterday, in addition to the formal rollout of the Miso Salad andCrab Cake appetizer, we also introduce an Italian Basil and Tomato Pizza, BlueCrab Cakes as an on-tray, and a Red Velvet Cake dessert item, all of which canbe seen on the homepage of our website, if you want to get hungry and then helpus drive comps.

Our customers have come to expectnew offerings in CPK throughout the year, and we're pleased to be carrying onthat tradition as we solidify our reputation for innovative offering andconsistent quality. I am sure that under the present economic conditions, you'dall appreciate the comment on the fourth quarter, where we have about five andhalf weeks under our belts. So far comps are running in the 2% to 3% range,which includes a loss of 10 partial store days with the tragic California buyers.

So, before I turn the call overto Sue, I would like to make a number of key points.

First: we're aware that some ofour peers have recently announced that they are cutting back on developmentnext year. I can assure you we have no intention to follow a suite. Yes, it’s achallenging macro environment, but we continued to build and operate verysuccessfully.

As I mentioned before, we thinkbecause of our relatively low price point and the higher income demographic ofour customer base, we consistently demonstrate insulation to a softeningeconomy. As I often said before, I think we're resistant, but not immune to thebroad economic pressures.

At the same time, our strategywill be guided by our confidence in the long-term. And we're not going to makedecisions and to achieving short-term financial targets. Now, we're very proudof our execution in a growing power of our brand. We're pleased with our fullservice development schedule, which helps us at 17 new restaurants for 2007,that's company-owned. And as we see the development pipeline currently,approximately the same number for 2008.

Bear in mind, we consistentlysaid that we approach our development from an opportunistic perspective. Andwe'll build as many high quality sites as are available to us in the givenyear, but won't sacrifice our intensive screening process to meet a preordainedgoal.

Second: our domestic andinternational franchise is gaining real momentum. And, in speaking with ourpartners, we know they are rather happy with what we're doing to cultivate ourbrand both on a national and global level. In fact, the common theme across allof our existing and potential franchisee relationships is the excitement forCPK as a premium brand. One, it has proven itself in a variety of markets andgeographies.

For next year, in addition to thefour domestic ASAP airports units to be developed by HMSHost, we anticipate aminimum of six units to be opened internationally by our exciting franchisepartners, with additional restaurants in Mexico,Japan and Korea.

We've also recently entered intoa Letter of Intent with a potential franchise partner for our first restaurantin Dubai. So onthe franchising front, we've certainly gained a lot of traction this year, andwe're well positioned for a prolonged ramp-up of this high margin revenuestream.

And finally, and quiteimportantly, our relationship with Kraft continues to exhibit double-digitgrowth. While it's difficult to measure the obvious benefit to our brand awarenessfrom the exposure in all 50 states and over 17,000 locations, along with theapproximately $7 million marketing budget Kraft will spend this year, we knowthe impact is material. Moreover, the high margin profit contribution hasbecome a significant and valuable part of our business, and we expect futuregrowth to be meaningful.

We look forward to the additionalgrowth of this business with the introduction of new pizza products early nextyear and a rollout of non-pizza products in the frozen category later nextyear. We also continued to explore a variety of options to increase placementof our products in the grocery isle.

And with that, I'll pass it overto Sue.

Sue Collyns

Thank you and good afternoon everyone.Total revenue for the third quarter increased 13.5% to $162 million. Thisconsisted of restaurant sales growing at 13.3% to $159.7 million, royaltiesfrom Kraft increasing approximately 13.3% to $1.3 million and franchise revenuefrom both domestic and international growing approximately 44.5% to $1.1million.

Our third quarter comp salesincreased 3.5%, which did include 4.7% of price, 1.5% of negative comp and 0.3%of positive mix. We estimate that we had 15 restaurant closure dates, due toone store remodeled in Newport Beach, California, which was leastrequired and that cost us around 10 basis points for the quarter.

The monthly comps broke out asfollows. July comps at 2.9%, which was on top of 5.6% of same period last year,August was 4.7% which compared to 5.8% last year, and September comps rose by3% compared to 5.4% last year. And this, in particular the Newport Beachlocation remodel that I just spoke about costs us around 30 basis points duringthe final month of September.

Full service CPK restaurantsdelivered a weekly sales average of $68,972, which was 3% higher than a yearago period. All of our classes experienced positive weekly sales average growthwith the exception of the class of 2006, which is still coming off honeymoonperiods and ended the quarter at approximately $62,700 per week.

And this follows a typicalpattern that our history shows, and these classes are certainly build overtime nicely.The class of 2006 incidentally did deliver an EBITDA in the 17% range thisquarter, which we thought was very respectable considering that 9 of the 16restaurants were opened in the last quarter of 2006.

Importantly, the class of 2007are also posting impressive sales, and they are topping almost $69,000 per weekin the third quarter, and gaining even greater momentum so far this fourthquarter.

ASAP results, as Rick mentioned,were disappointing, although we have taken the final set of charges during thethird quarter and are moving ahead. Specifically, we incurred an $8.5 millioncharge which equated to $0.20 EPS that did relate to four ASAP sites which Rickdiscussed. And by improving our ASAP portfolio now, we do look for around $0.02accretion on a go-forward basis.

Moving on to the P&L, food,beverage and paper supplies for the quarter were 24.4% of sales, which was 40basis points better than last year. We did experience pressure across a numberof commodities, not the least of which was dairy, which we did anticipate, andthat was up an incremental $562,000 in the third quarter. But I'm happy to saythrough several best practice taskforce initiatives which we got onstraightaway, we were able to improve our year-on-year results.

Specifically, our project priceswere also favorable which helped us, but most of the credit has to go tooperations, their focus on inventory management, things like reducing spoilageand waste, and simply enforcing operational best practices across the groupmanaged to get us to the 24.4% number that we're very happy with.

Our diversified menu and low contractsfor the year has made our cost of goods line item a source of relative strengthfor us in favorable environment. Right now, however, we're working very high tomaintain our best practice taskforce initiatives in the fourth quarter toeffect these increases in protein and dairy costs, and I am optimistic thatwe'll have a flat cost of goods in the fourth quarter compared to Q4 of 2006.

Labor expense, direct operatingand occupancy costs were flat for third quarter compared to the prior year, andthat resulted in GAAP store level margins of 20%, a number that we consider thegold standard of operational excellence.

G&A expense improved 60 basispoints to 7.3% of total revenue, and this includes 6.5% of what we call coreG&A and 80 basis points of stock-option expense. Depreciation costs were5.8% of sales and that was 60 basis points higher than last year's thirdquarter. And our pre-opening costs totaled $2.4 million in the third quartercompared to $1.1 million last year. And that was in line with six full servicerestaurants that we opened in the third quarter, as well as approximately$518,000 in phantom restaurant rent.

Our net interest expense was$42,000 and that compared to interest income of $154,000 last year, as we tookout some debt against our line of credit this quarter, and ended our debtbalance of $17 million.

Our income tax expense totaled$700,000 in the quarter and it represented an effective tax rate of around32.2%, compared to 33% last year, and the rates being driven by the lowestearnings before tax number.

We executed $16.8 million buybackauthorization during the quarter at an average price of $19.13, which concludedour previous authorization of $30 million. And as you may recall, we alsoannounced a new $50 million buyback authorization on our August 9 conferencecall.

Taken together this resulted inGAAP diluted earnings per share of $0.05 versus $0.23 in the same period of2006, or around $0.25 EPS on a pro forma basis, excluding the terminationcharges we incurred that related to ASAP.

Additionally, our diluted sharecount was reduced to 29.2 million shares in the third quarter of 2007 from 29.5million shares in the third quarter of last year. And that decline was a directresult of the share repurchase.

With regard to our balance sheet,we ended the third quarter with $10.6 million of cash and $17 million of debt.And as previously stated, we do have a $75 million line of credit withattractive rates and that's reduced only by our debt and our $6.1 million of Lettersof Credit.

Finally, in terms of CapEx: CapExin the third quarter was approximately $25 million and that included about $20million for new restaurants with a remainder related to maintenance in ourexisting location. That brings us to $57 million in CapEx for the first ninemonths of the year and we do expect to spend approximately $30 million in thefourth quarter for eight stores in progress at various levels for the full yearnumber of $85 million in 2007.

Now, I would like to discussguidance for the fourth quarter as well as 2008. Because of the uncertainenvironment, we do believe it's prudent to maintain the previously announcedcomps of 2% to 3% for the fourth quarter and this includes 4.7% of price and itis on top of the 6.9% comp comparison from last year.

We will be opening up seven fullservice restaurants this quarter, of which three have already opened, and interms of international franchise stores, we have two planed for the fourthquarter, as Rick discussed, for the full year total of five locations. We didsay six on the last call, you might recall, but a new store in Mexicodid get push to the first quarter of 2008. In addition, HMSHost driven up oneairport location in the third quarter at LAX terminal 8, for total of two thisyear.

So to recap, in the beginning ofthe year in terms of international and franchise locations, we said fourfranchise locations, three would be international and one will be domestic. Butthe final number now will be seven, that's five international and two domestic.That's on top of 17 full-service stores this year and the net one ASAP fortotal of 25 new units in 2007, which for us is a record.

In terms of EPS, we estimate ourfourth quarter will be between $0.22 and $0.23 and, again, that's in line withthe 2% to 3% comp rate. And moving on to 2008, we're also maintaining compsbetween 2% to 3%, which given the current environment seems to be the prudentrange and consistent with our Q4 expectations.

We intend to open 17 full servicerestaurants, one LA Food Show and our international franchise partners havecommitted to opening up a minimum of six full services and HMSHost intends toopen four airport locations. In addition, we believe new product introductionsacross will secure a minimum 25% increase in our royalty stream from them. So that'sa total of 28 stores in 2008, which compares to 25 stores in 2007.

So, [precious] of note for usinclude commodities, which we forecast will cost us approximately $3 million inprice increases over 2007, minimum wage increases in 26 days, which we estimatewill cost us $1.8 million, remodel, which will cost us approximately $1.2million in loss EBITDA and approximately 33-week, and finally, an accelerateddepreciation on those remodels, which we anticipate will cost us approximately$670,000.

That all totals approximately$0.15 in extra costs over 2007 run rate. So, in total, 2% to 3% in costs, 28new units and layering in the effects of the aforementioned commodity wage and remodeldecision leads us to expect approximately $0.85 to $0.92  EPS in 2008.

And with that, I'd like to turnthe call back to Rick for closing comments.

Rick Rosenfield

Thanks, Sue. As I think we haveexpressed throughout this call, we feel good about our business today. We'reoptimistic as we look forward to 2008.

Before we end our formal remarks,I want to highlight some key marketing and technology based initiatives in playright now. With regard to marketing, you might recall that we spend less than1% of our revenues, and Kraft itself outspends us by two times as they are obligatedto spend 5% of revenue towards marketing our brand. This year that will totalapproximately $7 million.

In addition to Kraft's spend wehave launched direct mailer campaigns to promote our new menu. These mailerswill be sent to over 4 million guests through traditional newspaper inserts aswell as electronically through our email database. These additional andexpensive steps are expected to provide increased awareness as we finish outthe year.

In addition our gift card programis already in full swing, and year-to-date sales are tracking up 20% over theprior year. Then in September we launched a relationship with Blackhawk, whichplaces our gift cards in retailers and that's primarily supermarkets. We expectit will rollout to approximately 11,000 locations by the end of the year. Soall in all, we expect to have a banner year in our gift card sales.

We also developed a rewardsprogram in conjunction with American Express, with a special limited time bonusprogram between November 15th and December 31st. For every $100 in gift cardspurchased, we are offering a $320 gift card to the purchaser, which shouldfacilitate new traffic and also act as a reward to our most loyal guest at thesame time.

In terms of technologyinitiatives, which will be initiated in the first half of '08, we're currentlytesting a new wireless curb site cash sharing technology designed to speed upor takeout business, and also implementing a centralized takeout call center.These initiatives should make for a greater customer experience.

Finally, we'll be throwing out aweb-based ordering system, which not only will make ordering easier and moreefficient, but have the added benefit of exposing our customers to our website.As you can see, we're certainly not resting on our laurels. We have a number ofnew and exciting marketing and technology initiatives, and we're committed tomaking CPK experience the best it can be.

And with that said, we'll open itup to questions, operator.

Question-and-Answer Session

Operator

(Operator Instructions).

Your first question comes fromthe line of Jeff Farmer.

Jeff Farmer

Your $0.85 to $0.92 '08 guidanceplus pretty meaningful EBIT margin compression, can you just give us a littlebit more color on what you're expecting at the restaurant level, maybe G&A,D&A, especially considering that you're getting probably $0.02 benefit fromthe ASAP closures?

Sue Collyns

Sure. It really relates to thecommodity cost that we anticipate, Jeff, the $3 million I mentioned. We gotspecific pressure like most of our peers have, obviously in dairy, paper,beverages, chicken and groceries. I think they are the top five. And then inaddition to that, you've also got the 26 states implementing minimum wageincreases and that's anticipated to cost as approximately $1.8 million.

Those two line items that end up-- I mean the cost of goods increases, that's about 20 basis points rightthere. And the minimum wage, I think, labor in general would have been flat atabout 36.7% where we think we'll come in on this year without those minimumwage pressure.

Jeff Farmer

Okay. And then in terms of yourpricing assumptions in 2008, what's going on there?

Sue Collyns

We've generally got approximately4%.

Jeff Farmer

Okay. And then, final question:just sequentially your G&A fell versus the 2Q. Is that just a function oflower bonus accruals or is something else going on there?

Sue Collyns

Well, in terms of a percent itobviously fell. The absolute number, I think, was 10.5, excluding the FAS 123Rcompared to 10.7 in Q2 of last year. There were just some timing difference,then consulting fees, those sorts of things, as well as managers in training. Alot of them had gone through that sequence in the second quarter, which is whythat number was disproportionately high, and then we got a bit of a pickup inQ3.

Jeff Farmer

Okay. Thank you.

Operator

Your next question comes from theline of Destin Tompkins.

Destin Tompkins

Thank you. I just had somequestions on the CapEx outlook for 2008. Do you have an idea of how manyremodels you'll do to layer on to the 17 new full service restaurants you'regoing to open?

Sue Collyns

Yeah. I think we had around sixremodels budgeted next year, some of them are least required but most of themare just strategic from our perspective. And the totaled CapEx number in thatfor the remodel is I think at $10 million or $12 million number right now.Total CapEx the next year right now is looking at around $66 million and that’sbefore tentative improvement allowance, which I believe is approximately $6million.

Destin Tompkins

Okay. And on the timing of thatdevelopment, should we model it similar to the way it occurred in 2007?

Rick Rosenfield

I think in...

Sue Collyns

They're backend loaded actually,I think we're losing around 33 store weeks from those remodeled that most ofthem are occurring in the backend of the year, primarily Q4, we're obviouslytrying to take advantage of the summer pop and not have our restaurants downduring the key time for us.

Rick Rosenfield

Now, that in general we try, ifwe have our brothers we try to do them, right after Labor Day.

Destin Tompkins

All right. And then the LA FoodShow, is that in early part of 2008 or--?

Sue Collyns

That’s per comp.

Destin Tompkins

Okay. And then could you justupdate, I know you went through the share repurchase activity, but I may havemissed it, on the new authorization have you used any of the new authorizationat this point?

Sue Collyns

We've not used any of the newauthorization at this point.

Destin Tompkins

Okay. Great. Thank you.

Operator

Your next question comes from theline of Mike Smith.

Mike Smith

Good afternoon.

Rick Rosenfield

Hi Mike.

Mike Smith

I am a little bit confused aboutthe ASAP charge, not that they have a problem with it, but how many ASAPs doyou have once you close -- once you're going to close?

Sue Collyns

We've 10 right now and we'vethree remaining, we had four originally…

Rick Rosenfield

And I think of the fiscalfacilities, we will close -- well, we've closed, we have arranged to close onemore and we are negotiating to close the second. That's in the actual openedrestaurants.

Sue Collyns

And there was one and there wasanother store that was not built but we are negotiating out of that particularleasing.

Mike Smith

Okay. So you have 10 actualstores that open up every morning?

Rick Rosenfield

Yes.

Sue Collyns

Right.

Mike Smith

And you've got rid of one or it's[signed sealed] delivered?

Rick Rosenfield

One has closed. Okay, starting with11, one is closed.

Mike Smith

Okay.

Rick Rosenfield

One will close by the end of theyear. That will make it nine. And then, we are negotiating and don't know whenthe one remaining one will close, sometime next year if we are able tonegotiate it out.

Mike Smith

And so you've already taken somecharges for closing the ASAP, what were the prior charges? My memory is failingme.

Sue Collyns

Well, it was 8.5 this quarter andit was approximately $770,000 last quarter in Q2.

Mike Smith

Okay. So let me see if I get thisright. So you've written down $9.2 million for total of two?

Sue Collyns

No. We've written down $9.2million for total of five.

Mike Smith

For five units?

Sue Collyns

Right.

Mike Smith

But they are not all closing?

Sue Collyns

Well, we anticipate that theywill close or we'll negotiate out of them.

Mike Smith

But that's of the $9.2 million isfour what you think you have today.

Sue Collyns

Right. We have fully reserved forwhat we anticipate to be total exposure.

Mike Smith

With those nine, are they allprofitable?

Sue Collyns

There are five that are actuallyvery profitable and those have an EBITDA over the 18% mark. So they are doingvery nicely. The remainder are kind of average, but none of them are bleedinglike this other one that we have targeted to close. I mean, basically, Mike,ASAP doesn't really help us a lot, but it also doesn't hurt us right now,stripping out the one big store that we did close in the month of August. Forthe Q3, ASAP actually drew off $300,000 in EBITDA, so to the remaining 10 thatwere left and their average WSA for the remaining 10 was $31,000 a week.

So you've got five of that groupthat actually do more than $35,000 a week and EBITDA of over 18% so theremainder, as I said don't really helped us a lot, but also doesn't really hurtus.

Mike Smith

Are the trends there that theywill help you or they, or you're just not closing them because you don't wantto take the hits?

Rick Rosenfield

No. it's not about not taking thehits. It's not economic for us to close them. And you know, we expected making-- we are tweaking, we are continue to make improvements with them. And I wouldexpect, we'll improve the economic over time for the remaining units.

Mike Smith

Thank you.

Rick Rosenfield

Without expanding, as we say alot of capital for us. We have a team on it and we are managing them and goingonward.

Mike Smith

Thank you.

Operator

Your next question comes from theline of David Tarantino.

David Tarantino

Hi. Good afternoon.

Rick Rosenfield

Hi, David.

David Tarantino

Just a question on the compsguidance for 2008, I understand the intend to be conservative there, but justwondering: why you wouldn't expect any pick up as you start to cycle someeasier comparisons?

Sue Collyns

To be honest, David, it is justtoo early to call right now. You know what we're seeing in Q4 is in 2% to 3%range. And we at this point in time, we don't have any better numbers otherthan you numerically knowing that you're going to comp again, we're going tocomp again slightly softer comps. But there are also lot about the economicconditions and discussions whether just by rate mortgages or a high gas pricesin general oil is just unknown at this point. I think nothing would make ushappy if we're able to get on the Q4 or Q1 call of next year and increase that.

Rick Rosenfield

I guess in a nutshell: we don'thave any special knowledge.

Sue Collyns

Right.

Rick Rosenfield

We'll try to be conservative andmake our best call, but I think all of us would say: there're questions on thehorizon.

Sue Collyns

We are optimistic, and that waspart of the point of Rick's last commentary in terms of the prepared remark,talking about a number of the marketing initiatives we have in Q4 on top of thetechnology initiative that we are very hopeful will continue to drive sales andseparate us from the rest of the casual dining sector.

Rick Rosenfield

I think Sue makes the point that,at the end of the day, we feel quite good about our business. And yeah, we ratherwouldn't be a softened economy right now, but our core business is great andwe're firing on all fronts.

David Tarantino

Okay. I guess a follow-up tothat. Have you assumed any benefits from those initiatives that you justmentioned in the comps or not?

Sue Collyns

Well, I think its relative in asense. I think 2% to 3% comp in this marketplace seems to be quite aspirationalfrom a peer group perspective, even though it's obviously significantly belowwhat we've seen more ourselves. So I think, right now, we're pretty happy tomaintain within that range. We've still got a relationship with Blackhawk, andthey are actually a group that provides one-stop gift card to retailers, to theprepaid gift cards. That’s a new relationship for us and we only just signed thatin the third quarter.

So there is an opportunity therefor sales to be driven higher. But again, because we haven't seen it right nowand it’s difficult to quantify, we haven't really built it into our numbers.But between franchise opportunities domestically, our relationship with Host 17stores at full service that we'll be doing, we're doing 28 stores next year ontop of great technology and other marketing initiatives. And as Rick said,we've really never felt better about the business, despite the economic andcost pressures that are out there. But they're going to pass.

David Tarantino

Okay. And then a question onbuybacks: have you assumed any accretion from buybacks that might occur in thenext few quarters?

Sue Collyns

Yeah, in terms of the countobviously, but 2008, we'll see the benefit in that diluted share numbers. So Ithink right now in Q3, we're tracking 29.2 million roughly in sharesoutstanding and expecting that not to really increase too much for next year. Ithink it might have a number of $29.3 million to $29.4 million in it.

David Tarantino

But to be clear, Sue, does thatinclude any buybacks that you might do going forward or is that just to includewhat you've already done?

Sue Collyns

Well, the biggest driver of dilutedshares outstanding is actually your stock price. I mean obviously the buybacknumber does influence as well, so the key is really: what stock priceassumption do we have in there? And we don't really comment on that.

David Tarantino

Okay, great. Thank you.

Operator

Your next question comes from theline of Destin Tompkins.

Destin Tompkins

I just had a couple of quickfollow-ups. One, can you share with us maybe: just what would you assume in2008 for an increase in the Kraft's business?

Sue Collyns

Yeah, I mean we are lookingreally for over 20% growth year-on-year. I mean the CAGR for Kraft has beenover 60%. We're obviously not anticipating that that would continue. But thisyear we anticipate they'll do over $140 million on the retail side and lookingfor that to grow a minimum of 20% next year.

Destin Tompkins

And does that assume much benefitfrom the potential new product that you're looking into?

Sue Collyns

Well, again, it's sort of hard toestimate that, so 20% lift candidly is what we think is a realistic numberright now.

Destin Tompkins

Great. That's helpful. And then,on the tax rate can you give us an idea what we should expect for Q4 in 2008tax rate?

Sue Collyns

Okay. Q4, I am looking at around32 to same amount for this year. For the full year rate, I think we're lookingat around 33.6 for 2007, and for 2008 looking closer to the 34%.

Destin Tompkins

Thank you.

Operator

Your next question comes from theline of Jeff Farmer.

Jeff Farmer

Hi, guys. I just wanted to comeback as very quick on the '08 EPS guidance? So you touched on this little bit,but again, sort of, putting in the numbers real time it's looks like, inaddition, to the restaurant level margin pressure, are you expecting sort ofG&A pressure, as well as G&A pressures as a percent of revenue in '08?

Sue Collyns

We're anticipating, seeing someleverage in the G&A line next year.

Jeff Farmer

Okay. I'll sort of come back [afterthe call]. Thank you.

Sue Collyns

Okay.

Operator

Your next question comes from theline Nicole Miller.

Nicole Miller

Good afternoon.

Rick Rosenfield

Hi. Nicole.

Nicole Miller

Hi. I am sorry there is a lotgoing on tonight, so if I ask something that's been asked you can just tell meto read it in the transcript. It looks like you are lapping 1.5% of price inNovember. What was -- can you talk about what was added and what you arerolling on in the fourth quarter?

Sue Collyns

Yeah. You're exactly right. Andwe added 1.5%, again, so that's why the pricing between Q3 and Q4 has remainedconsistent. We're at 4.7%.

Nicole Miller

Okay. And looking into next year:what are your pricing projections?

Sue Collyns

We said it's 4%.

Nicole Miller

For the year or just it will behigher in the front half than lower in the back half?

Sue Collyns

Yeah. The average for the year is4%.

Nicole Miller

Average. Okay. And could you giveus an update on October, November or quarter-to-date fourth quarter same-storesales?

Sue Collyns

I need to say, that they aretracking within that 2% to 3% range on any given day.

Nicole Miller

Is it fair to, I mean, we had abig retail comp day and I think, what we can, what we walked away with wasOctober was not good, November is much better, is it fair to say, your businessis, did you see anything that correlates to that?

Sue Collyns

No. October for us only finishedon Sunday, this is our first, what, three days now that we've had visibilityinto November. So for us, it's actually a little bit tough to answer that,three days is not really a trend. I think for us the biggest thing in the senseis Californiaheld up, as Rick said at about 1.9% in Q3. So we've got, you know, then California is 20 -- 42%of our base.

But we've got five other states,that represents the next 25% of our sales being Illinois, Florida, Texas,Virginia and Arizona and they all did very well in Q3. They were 5.5% at Illinois, Florida did4.3, Texas did 8.3, Virginiawas 3.9% and Arizonawas 5.2%. So we've still got a lot of strength in other parts of the country. Inaddition to, as Rick mentioned, which you may not have heard but California WSAreaching the highest levels that it ever did in Q3.

Nicole Miller

Okay. And then, just to look at,I guess, what could benefit mix shift where new products, I think you had beenproactive in rolling out of couple of things that headed in November, when youchanged what was added?

Rick Rosenfield

Yeah. We rolled out ahead. Youknow the Miso Crab Salad, which is really doing great and then the Crab Cakeson appetizer. And now, we've added November Crab Cake on tray and the newTomato/Basil Pizza and made the others permanent as well.

Nicole Miller

What is the biggest driver rightnow by category, in terms of, mix shift? I mean are salads still popular or ontray is really driving it?

Rick Rosenfield

Well, I would really say Pizza isour middle name, but pizzas are third of our sales, but salads have grown to23% of our sales. So introducing new salads, as always, is the great things forus. It's a big deal as you know.

Sue Collyns

And guests do love theappetizers. You know the last week appetizer pop was really the lettuce wraps aswell as the avocado club rolls and the now the Crab Cakes are also gaininggreat traction. People love them. So that's worked out well for us.

Rick Rosenfield

Again, and then, we have had themin the appetizer and now we are putting them in the on tray the Crab Cake. Sowe're pretty enthusiastic about what we think that will drive.

Nicole Miller

Great. And one last question, Iwas just looking through here through my notes. If I understand a craftrelationship correctly, they have to spend a certain percentage of growth saleson advertising and as, you know, you suggested, if that business even continuesto grow only at 20%, it's going to start to be a very meaningful number thatdoesn’t need to allocate to marketing.

So what kind of insight can yougive us into their thought process? And I guess, the real question here is whatis the potential to see traditional mass marketing come out of that craftrelationship and benefit with CPK brand?

Rick Rosenfield

I think as I mentioned a littleearlier in the call, their spend this year will be $7 million on advertising,which is more than twice what we spend and, obviously, as that business rampsup, they are going to be creative in this spend. We expect national print nextyear. I would expect it to revolve into the national TV and particularly inconjunction with us as we grow. And so those are things we are evaluating and Ithink we can anticipate. And of course, we co-brand with them in theadvertising at the Dodger stadium and Angels in Anaheim. And it's great to have them as apartner, and with the required spend though less.

Nicole Miller

That's all I had. Thanks so much.

Sue Collyns

Just to clarify that in the call,it will be national print for the first time in 2008 compared to any regionalprint historically.

Operator

(Operator Instructions).

Our next question comes from theline of Steve Anderson.

Steve Anderson

Good evening. Just want to gothrough with you on the guidance for the food commodities. Is the $3 millionnumber based on the commodities that you've already contracted for in '08 or isit just your projection?

Sue Collyns

Some of them are contracted, butnot all of them. For example, the $1 million increase in diary, a large part ofthat is obviously not contracted yet. And we're basically locking up most ofthose 2008 items right now. So if they're not in progress, we hope to have themconcluded in the next six weeks.

Steve Anderson

As for example, for the chickenor some of the other contracts, so what's the percentage price increase you'retaking?

Sue Collyns

I don't have it here by percentreally, but meat as a category represents around 15% of total cost of goods.

Steve Anderson

Okay.

Operator

Our next question comes from theline of Larry Miller.

Larry Miller

Hey, guys. Maybe I could justfinish that out. Did you lock on dairy yet, Sue? What are you assuming in termsof dairy cost for next year on cheese?

Sue Collyns

Right now, I mean I might stopthat by sort of referencing Q3 and Q4. We had hoped that Q3 -- we had budgetedQ3 at around $2, and we ended up coming in $1.95. And next year, we do havesome future contracts out there that we are trying to chase right now. I notsure we are going to get the price we want though. So nothing is actuallylocked in -- that's 100% quite yet

Larry Miller

So I guess --

Sue Collyns

So right now, it is all floating.

Larry Miller

Well, I guess if you had a lottoday, what would it be and what is it that you are chasing?

Sue Collyns

Well, we're trying to chase closeto $1.70 number right now I think we would be pretty happy with.

Larry Miller

Okay, very good. And then, Rick,you mentioned; cannibalization, particularly in Southern California and the cannibalization. Can you give an estimate therefor what that might have cost you on comp line or generally for comps?

Sue Collyns

Yeah, I think cannibalization, ingeneral, is approximately 20 basis points

Rick Rosenfield

Right, but that's using current,what I would call, current cannibalization, right? We can't really measurewhat's been our strategic plan of 20 years as we opened stores in proximateneighborhoods, and that's not in that number. So overall, it puts pressure oncomps while we open great stores.

Larry Miller

Okay. And is it fair to say thatthose 10 days that you lost on fires, about 10 days, is this point based onwhat the remodel was?

Sue Collyns

No. I think, to me, the California fires are twodimensional. One is the absolute store closure days, and we had 10 partial daysof that. But then, you've also got the effect on consumer confident and trafficpatterns in general. And that's too early to call what that will be for thequarter other than, as I said, right now, we are still seeing 2% to 3% comp forany given day. So we'll see how things go.

Larry Miller

Okay. Thanks, guys.

Rick Rosenfield

Sure.

Operator

Our next question comes for lineof David Tarantino.

David Tarantino

Hi. Just a follow-up question onthe buyback. Is there any reason why you wouldn't be more aggressive in theshort term, especially given where the stock is today?

Rick Rosenfield

Well, I think what we have saidand we continue to say is, we evaluate it constantly, and we don't flag to themarket what we're going to do, and we go into the market from time to time.

David Tarantino

Okay. Thank you.

Operator

(Operator Instructions)

Rick Rosenfield

It sounds like -- let's take amoment if anybody does want to ask.

Operator

Our next question comes from theline of [Mark Lee].

Mark Lee

Good afternoon.

Rick Rosenfield

Hello, Mark.

Mark Lee

Yeah, I know you mentioned costpressures from dairy and of chicken. Can you comment a little bit on wheat costpressures?

Sue Collyns

Yeah, I mean in terms of ourpizza dough, that contract for us actually is coming up in December, and we'rein the middle of negotiating that as well. I think for us, the dough linesincreased around 3.5% over the last three years. And our current vendor islooking to increase it in 2008 again. And we'll see where we settle. But I'mguessing it's probably somewhere between that 3.5% to 5% mark, and that's webuilt into our budget for next year.

Mark Lee

And can I also ask you on, maybeyou can give me a ballpark number on how many pounds of dollar you guys use peryear for store?

Sue Collyns

You know, I wouldn't know thatnumber off the top of my head. I think if I did, I'd be called head ofprocurement. So I'll have to get back to you.

Mark Lee

Okay, well, great. I appreciateyour help. Thank you.

Rick Rosenfield

Thanks.

Operator

There are no further questions atthis time. Do you have any closing remarks, Mr. Rosenfield?

Rick Rosenfield

Thank all of you for yourattendance, and we look forward to talking to you on our next call.

Operator

This concludes today's conferencecall. You may now disconnect.

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Source: California Pizza Kitchen Q3 2007 Earnings Call Transcript
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