View:

Use these links to rapidly review the document
Table of Contents
Item 8. Financial Statements and Supplementary Data.

Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549



FORM 10-K

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

For the fiscal year ended December 31, 2009

OR

o

 

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

For the transition period from                        to                         

Commission File Number 001-15283

DineEquity, Inc.
(Exact name of registrant as specified in its charter)

Delaware   95-3038279
(State or other jurisdiction
of incorporation or organization)
  (I.R.S. Employer
Identification No.)

450 North Brand Boulevard, Glendale, California

 

91203-2306
(Address of principal executive offices)   (Zip Code)

Registrant's telephone number, including area code: (818) 240-6055

Securities registered pursuant to Section 12(b) of the Act:

Title of each class   Name of each exchange on which registered
Common Stock, $.01 Par Value   New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act: None

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

         Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o    No ý

         Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý    No o

         Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was Required to submit and post such files). Yes o    No o

         Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ý

         Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer o   Accelerated filer ý   Non-accelerated filer o
(Do not check if a smaller
reporting company)
  Smaller reporting company o

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

         State the aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant as of June 28, 2009: $431.9 million.

         Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date.

Class
  Outstanding as of February 26, 2010

Common Stock, $.01 par value

  17,710,052

DOCUMENTS INCORPORATED BY REFERENCE

         Portions of the Proxy Statement for the Annual Meeting of Stockholders to be held on Tuesday, May 18, 2010 (the "2010 Proxy Statement") are incorporated by reference into Part III.


Table of Contents

DINEEQUITY, INC. AND SUBSIDIARIES

Annual Report on Form 10-K

For the Fiscal Year Ended December 31, 2009

Table of Contents

 
   
  Page

PART I.

   

 

Item 1—Business

  3

 

Item 1A—Risk Factors

  17

 

Item 1B—Unresolved Staff Comments

  26

 

Item 2—Properties

  27

 

Item 3—Legal Proceedings

  29

 

Item 4—Reserved

  29

PART II.

   

 

Item 5—Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

  30

 

Item 6—Selected Financial Data

  33

 

Item 7—Management's Discussion and Analysis of Financial Condition and Results of Operations

  34

 

Item 7A—Quantitative and Qualitative Disclosures about Market Risk

  73

 

Item 8—Financial Statements and Supplementary Data

  75

 

Item 9—Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

  135

 

Item 9A—Controls and Procedures

  135

 

Item 9B—Other Information

  137

PART III.

   

 

Item 10—Directors, Executive Officers and Corporate Governance

  138

 

Item 11—Executive Compensation

  138

 

Item 12—Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

  138

 

Item 13—Certain Relationships and Related Transactions, and Director Independence

  138

 

Item 14—Principal Accounting Fees and Services

  138

PART IV.

   

 

Item 15—Exhibits and Financial Statement Schedules

  139

 

Signatures

  146

2


Table of Contents


PART I

Item 1.    Business

Company Overview

        The Company was incorporated under the laws of the State of Delaware in 1976 with the name IHOP Corp. Effective June 2, 2008, the name of the company was changed to DineEquity, Inc. (the "Company," "we," "our" or "us"). Our common stock is listed on the New York Stock Exchange and trades under the ticker symbol "DIN." Our principal executive offices are located at 450 North Brand Boulevard, Glendale, California 91203-2306 and our telephone number is (818) 240-6055. Our internet address is www.dineequity.com.

        Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, amendments to those reports and other filings with the Securities and Exchange Commission (the "SEC") are available free of charge through our website as soon as reasonably practicable after such reports are electronically filed with, or furnished to, the SEC. The information contained on our website is not incorporated into this Annual Report on Form 10-K. Further, the SEC maintains an internet site that contains reports, proxy and information statements and other information regarding our filings at www.sec.gov. In addition, the public may read and copy the materials we file with the SEC at the SEC's Public Reference Room at 100 F. Street, NE, Washington, D.C. 20549. Information regarding the operation of the Public Reference Room may be obtained by calling the SEC.

        We have a 52/53 week fiscal year that ends on the Sunday nearest to December 31 of each year. For convenience, we refer to all fiscal years as ending on December 31 and all fiscal quarters as ending on March 31, June 30 and September 30 of the respective fiscal year. There were 53 weeks in our 2009 fiscal year, which ended on January 3, 2010; the 2008 and 2007 fiscal years ended on December 28, 2008 and December 30, 2007, respectively, and each contained 52 weeks.

Background

        The first International House of Pancakes® ("IHOP") restaurant opened in 1958 in Toluca Lake, California. Since that time, the Company or its predecessors have engaged in the development, operation and franchising of IHOP restaurants. In November 2007, we completed the acquisition of Applebee's International, Inc. ("Applebee's"). We currently own, operate and franchise two restaurant concepts in the casual dining and family dining categories: Applebee's Neighborhood Grill and Bar® and IHOP. References herein to Applebee's and IHOP restaurants are to these two restaurant concepts, and, unless the context reflects otherwise, whether operated by franchisees, area licensees or the Company. Retail sales at restaurants that are owned by franchisees and area licensees are not attributable to the Company. With over 3,400 franchised or company-operated restaurants combined, we are the largest full-service restaurant company in the world.

        This Annual Report on Form 10-K should be read in conjunction with the cautionary statements on page 28 under "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.—Forward Looking Statements."

Financial Information about Industry Segments

        We identify our segments based on the organizational units used by management to monitor performance and make operating decisions. Our segments, unchanged from prior years, are as follows: franchise operations, company restaurant operations, rental operations and financing operations. Within each segment, as applicable, we operate two distinct restaurant concepts: Applebee's and IHOP.

3


Table of Contents

        The franchise operations segment consists of 1,609 restaurants operated by Applebee's franchisees in the United States, one U.S. territory and 15 countries outside of the United States. Franchise operations revenue consists primarily of franchise royalty revenues and the portion of the franchise fees allocated to Applebee's intellectual property. Franchise operations expenses include pre-opening training expenses and other franchise-related costs.

        The company restaurant operations segment consists of 398 company-operated restaurants in the United States and one company-operated restaurant in China. Company restaurant sales are retail sales at company-operated restaurants. Company restaurant expenses are operating expenses at company-operated restaurants and include food, beverage (alcoholic and non-alcoholic), labor, benefits, utilities, rent and other restaurant operating costs.

        Rental operations activities are not currently a significant part of Applebee's business. Financing operations activities are not currently a part of Applebee's business.

        The franchise operations segment consists of 1,443 restaurants operated by IHOP franchisees and area licensees in the United States, two U.S. territories and two countries outside of the U.S. Franchise operations revenue consists primarily of franchise royalty revenues, sales of proprietary products (primarily pancake and waffle dry-mixes), franchise advertising fees and the portion of the franchise fees allocated to IHOP intellectual property. Franchise operations expenses include advertising expense, the cost of proprietary products, pre-opening training expenses and other franchise-related costs.

        The company restaurant operations segment consists of 12 company-operated restaurants in the United States and one restaurant reacquired from a franchisee that was operated by IHOP on a temporary basis until refranchised on January 4, 2010. Company restaurant sales are retail sales at company-operated restaurants. Company restaurant expenses are operating expenses at company-operated restaurants and include food, beverage, labor, benefits, utilities, rent and other restaurant operating costs.

        Rental operations revenue includes revenue from operating leases and interest income from direct financing leases. Rental operations expenses are costs of operating leases and interest expense on capital leases on franchisee-operated restaurants. Currently, the rental operations revenue and expenses are substantially generated by IHOP.

        Financing operations revenue consists of the portion of franchise fees not allocated to IHOP intellectual property, sales of equipment, as well as interest income from the financing of franchise fees and equipment leases. Financing expenses are primarily the cost of restaurant equipment.

        Financial information for our four operating segments for the last three fiscal years is set forth in Note 22, Segment Reporting, of the Notes to the Consolidated Financial Statements included in this Annual Report on Form 10-K. Revenue derived from all foreign countries, in the aggregate, comprises less than 5% of total consolidated revenue.

Restaurant Concepts

        We develop, franchise and operate restaurants in the bar and grill segment of the casual dining category of the restaurant industry under the name "Applebee's Neighborhood Grill & Bar." With 2,008 system-wide restaurants as of December 31, 2009, Applebee's Neighborhood Grill & Bar is the largest casual dining concept in the world, in terms of number of restaurants and market share. As of December 31, 2009, franchisees operated 1,609 of these restaurants and 399 restaurants were

4


Table of Contents

company-operated. The restaurants were located in 49 states, 16 countries outside of the United States and one U.S. territory.

        Each Applebee's restaurant is designed as an attractive, friendly, neighborhood establishment featuring high quality, moderately-priced food, alcoholic and non-alcoholic beverage items, table service and a comfortable atmosphere. Applebee's restaurants appeal to a wide range of customers including young adults, senior citizens and families with children.

        Generally, franchise arrangements consist of a development agreement and separate franchise agreements for each franchised restaurant. Development agreements grant to the franchise developer the exclusive right to develop Applebee's restaurants in a designated geographical area over a specified period of time. The term of a domestic development agreement is generally 20 years. The development agreements typically provide for an initial development schedule of one to five years as agreed upon by the Company and the franchisee. At or shortly prior to the completion of the initial development schedule or any subsequent supplemental development schedule, the Company and the franchisee generally execute supplemental development schedules providing for the development of additional Applebee's restaurants in the franchise developer's exclusive territory.

        Prior to the opening of each new Applebee's restaurant, the franchisee and the Company enter into a separate franchise agreement for that restaurant. Our standard Applebee's franchise agreement provides for an initial term of 20 years and permits renewal for up to an additional 20 years upon payment of an additional franchise fee. Our current standard Applebee's franchise arrangement calls for an initial franchisee fee of $35,000 and a royalty fee equal to 4% of the restaurant's monthly net sales. We have agreements with a majority of our franchisees for Applebee's restaurants opened before January 1, 2000, which provide for royalty rates of 4% and extend the initial term of the franchise agreements until 2020. The terms, royalties and advertising fees under a limited number of franchise agreements and other franchise fees under older development agreements vary from the currently offered arrangements.

        We currently require domestic franchisees of Applebee's restaurants to contribute 2.75% of their gross sales to a national advertising fund and to spend at least 1% of their gross sales on local marketing and promotional activities. Under most Applebee's franchise agreements, we have the ability to increase the amount of the required combined contribution to the national advertising fund and the amount required to be spent on local marketing and promotional activities to a maximum of 5% of gross sales.

        We are pursuing a strategy that transitions from our current 80% franchised system to an approximately 98% franchised system. In order to accomplish this strategy we plan to franchise substantially all of the company-operated Applebee's restaurants while retaining restaurants in one company market in Kansas City. This heavily franchised business model is expected to require less capital investment, improve margins, and reduce the volatility of cash flow performance over time.

        We currently have 73 franchise groups, including 31 international franchisees. We have generally selected franchisees that are experienced multi-unit restaurant operators. Many franchisees have operated or concurrently operate other restaurant concepts. Our franchisees operate Applebee's restaurants in 49 states in the United States, 15 countries outside of the United States and one U.S. territory. We have assigned development rights to the vast majority of domestic areas in all states except Hawaii and the company-operated markets.

        As of December 31, 2009, there were 1,470 domestic franchise restaurants. During 2009, 18 domestic franchise restaurants opened, 25 domestic franchise restaurants closed and seven company-operated restaurants were franchised.

5


Table of Contents


        We continue to pursue franchising of the Applebee's concept as the primary method of international expansion. To this end we seek qualified franchisees that possess the resources needed to open multiple restaurants in each territory and are familiar with the specific local business environment in which they propose to develop and operate Applebee's restaurants. We currently are focusing on international franchising primarily in Canada, Mexico, Central and South America, and the Mediterranean/Middle East. We currently have 31 international franchisees. As of December 31, 2009, these franchisees operated 139 Applebee's restaurants. During 2009, 15 new international franchise restaurants were opened while four international franchise restaurants were closed. The success of further international expansion will depend on, among other things, local acceptance of the Applebee's concept and menu offerings and our ability to attract qualified franchisees and operating personnel. Our franchisees must comply with the regulatory requirements of the local jurisdictions.

        We work closely with our international franchisees to develop and implement the Applebee's system outside the United States, recognizing commercial, cultural and dietary diversity. Differences in tastes and cultural norms and standards mean we need to be flexible and pragmatic regarding many elements of the Applebee's system, including menu, restaurant design, restaurant operations, training, marketing, purchasing and financing.

        We continuously monitor franchise restaurant operations, principally through our Franchise Area Directors and our Directors of Franchise Operations. Company and third-party representatives make both scheduled and unannounced inspections of restaurants to ensure that only approved products are in use and that our prescribed operations practices and procedures are being followed. We have the right to terminate a franchise agreement if a franchisee does not operate and maintain a restaurant in accordance with our requirements. We also monitor the financial health of our franchisees through business and financial reviews.

        We maintain a Franchise Business Council which provides input about operations, marketing, product development and other aspects of restaurants for the purpose of improving the franchise system. As of December 31, 2009, the Franchise Business Council consisted of eight franchisee representatives and three members of our senior management team. One franchisee representative, the founder of Applebee's, is a member for life. The other franchisee representatives are elected by franchisees to staggered two-year terms. The Franchise Business Council is also responsible for the appointment of members to advisory committees related to marketing, restaurant operations, information technology and product development.

        Historically, company-operated Applebee's restaurants have been clustered in targeted markets to increase consumer awareness and convenience and enable us to take advantage of operational, distribution and advertising efficiencies. We plan to continue to execute our strategy, initiated in 2008, of transitioning to an approximately 98% franchised system. The timing of completing this transition is subject to numerous variables, including qualifications of the prospective buyers, the economic climate in general and credit markets in particular, and the attainment of satisfactory valuations for each transaction.

        In 2009, we franchised seven company-owned restaurants in the New Mexico market, bringing the total number of company-operated restaurants that have been franchised to 110 since the transition process was begun in 2008.

6


Table of Contents

        As of December 31, 2009, our company-operated Applebee's restaurants were located in the following areas:

Area
   
 

New England (includes Maine, Massachusetts, New Hampshire, New York, Rhode Island and Vermont)

    71  

Detroit/Southern Michigan

    65  

Minneapolis/St. Paul, Minnesota

    63  

Virginia

    59  

St. Louis, Missouri/Illinois

    57  

Kansas City, Missouri/Kansas

    34  

Washington, D.C. (includes Maryland and Virginia)

    30  

Central Missouri/Kansas/Arkansas

    12  

Memphis, Tennessee

    7  

Shanghai, China

    1  
       

    399  
       

        We make the design specifications for a typical restaurant available to franchisees, and we retain the right to prohibit or modify the use of any set of plans. Each franchisee is responsible for selecting the site for each restaurant within its territory. We may assist franchisees in selecting appropriate sites, and any selection made by a franchisee is subject to our approval. We also conduct a physical inspection, review any proposed lease or purchase agreement and make available to franchisees demographic and other studies.

        There are currently 36 development agreements in place covering the entire United States (except Hawaii) and 15 development agreements calling for restaurant development in foreign countries. As noted above, we are in the process of franchising the majority of our domestic company-operated restaurants. In conjunction with the franchising of these restaurants, we expect to enter into development agreements with the new franchisees setting forth requirements for additional development in each market.

        In 2010, we expect franchisees to open a total of approximately 30 new Applebee's franchise restaurants. We currently do not plan to open any domestic company-operated restaurants. The following table represents Applebee's restaurant development commitments for 2010 and 2011. We have disclosed development commitments for only a two-year period as the Applebee's development agreements generally provide for a series of two-year development commitments after the initial development period.

 
  Contractual Opening of Restaurants by Year  
 
  2010   2011  

Domestic development agreements

    19     16  

International development agreements

    14     9  
           

Total

    33     25  
           

7


Table of Contents

        The actual number of openings may differ from both our expectations and development commitments due to various factors, including economic conditions, franchisee access to capital, and the impact of currency fluctuations on our international franchisees. The timing of new restaurant openings may also be affected by various factors including weather-related and other construction delays and difficulties in obtaining regulatory approvals.

        The number of restaurants held by an individual franchisee ranges from one to 205 restaurants. The table below sets forth information regarding the number of Applebee's restaurants owned by domestic franchisees as of December 31, 2009 as well as the total number of restaurants falling into each of the listed ownership ranges.

 
  Franchisees   Restaurants  
Number of Restaurants Held by Franchisee
  Number   Percent
of Total
  Number   Percent
of Total
 

One to Ten

    10     24 %   60     4 %

Eleven to Twenty-Five

    13     31 %   246     17 %

Twenty-Six to Fifty

    10     24 %   378     26 %

Fifty-One to One Hundred

    7     17 %   478     33 %

One Hundred-One and over

    2     5 %   308     21 %
                   

Total(a)

    42     100 %   1,470     100 %
                   

(a)
Percentages may not add due to rounding.

        There were 31 international franchisees with 139 restaurants open as of December 31, 2009. All of these franchisees had fewer than 23 restaurants open as of December 31, 2009. In addition, three international franchisees had not yet opened a restaurant as of December 31, 2009.

        Applebee's restaurants offer a diverse menu of high quality, moderately-priced food and beverage items consisting of traditional favorites and signature dishes. The restaurants feature a broad selection of entrees as well as appetizers, salads, sandwiches, specialty drinks and desserts. All Applebee's restaurants offer beer, wine, liquor and premium specialty drinks.

        During 2004, Applebee's began a five-year exclusive strategic alliance with Weight Watchers International, Inc. to offer Weight Watchers® branded menu items to our guests. At the conclusion of the exclusive agreement the parties entered into a new, non-exclusive endorsement agreement which became effective in January 5, 2009. Under the new agreement, Applebee's and participating franchisees pay Weight Watchers a royalty equal to 2.5% of the proceeds from the sale of Weight Watchers endorsed items on the Applebee's menu. The initial term of the agreement was for one year and has been extended through at least December 2010.

        Applebee's has historically concentrated its advertising and marketing efforts primarily on food-specific promotions, as well as on Weight Watchers, Carside To Go™ and other Applebee's branded messaging. Our advertising and marketing includes national, regional and local expenditures, utilizing primarily television, radio, direct mail and print media, as well as alternative channels such as the Internet, product placements and the use of third-party retailers to market our gift cards. For the year ended December 31, 2009, approximately 4% of Applebee's company restaurant sales were allocated for marketing activities. This amount includes contributions to the national advertising fund,

8


Table of Contents

which develops and funds the national promotions and the development of television and radio commercials and print advertising materials. We focus the remainder of our company-operated restaurant marketing expenditures on local marketing in areas with company-operated restaurants.

        We currently require domestic franchisees of Applebee's restaurants to contribute 2.75% of their gross sales to the national advertising fund and to spend at least 1% of their gross sales on local marketing and promotional activities. Under the current Applebee's franchise agreements, we have the ability to increase the amount of the required combined contribution to the national advertising fund and the amount required to be spent on local marketing and promotional activities to a maximum of 5% of gross sales.

        Maintaining high food quality, system-wide consistency and availability is the central focus of our supply chain program. We establish quality standards for products used in the restaurants, and we maintain a list of approved suppliers and distributors from which we and our franchisees must select. We periodically review the quality of the products served in our domestic restaurants in an effort to ensure compliance with these standards. Due to cultural and regulatory differences, we may have different requirements for restaurants opened outside of the United States. In February 2009, we announced the formation of Centralized Supply Chain Services, LLC ("CSCS" or the "Co-op"), an independent purchasing cooperative, to manage procurement activities for domestic Applebee's and IHOP restaurants choosing to join the cooperative (see "Purchasing Cooperative" below).

        In February 2009, CSCS, an independent cooperative entity, was formed to operate as a purchasing cooperative for the operators of Applebee's and IHOP domestic restaurants. The Company has appointed CSCS as the sole authorized purchasing organization and purchasing agent for goods, equipment and distribution services for Applebee's and IHOP restaurants in the United States. The Company (as a restaurant operator) is a member of CSCS and has committed to purchase substantially all goods, equipment and distribution services for company-operated restaurants through the CSCS supply chain program. CSCS combines the purchasing volume for goods, equipment and distribution services within and across the Applebee's and IHOP concepts. Its mission is to achieve for its members the benefit of continuously available goods, equipment and distribution services in adequate quantities at the lowest possible sustainable prices. The operations of CSCS are funded by a separately stated administrative fee added to a product (or set of products) purchased by operators. As of December 31, 2009, 100% of Applebee's franchise restaurants and over 95% of IHOP franchise restaurants are members of CSCS.

        We believe the larger scale provided by combining the supply chain requirements of both brands will provide continuing cost savings and efficiencies while helping to ensure compliance with Company quality and safety standards. We also believe that the Co-op will result in closer alignment of interests and a stronger relationship with the franchise community.

        We develop, franchise and operate restaurants in the family dining category of the restaurant industry under the names "IHOP" and "International House of Pancakes." As of December 31, 2009, there were a total of 1,456 IHOP restaurants of which 1,279 were subject to franchise agreements, 164 were subject to area license agreements and 13 were company-operated restaurants. Franchisees and area licensees are independent third parties who are licensed by us to operate their restaurants using our trademarks, operating systems and methods and offer a broad range of entrees, appetizers, desserts and non-alcoholic beverages specified by IHOP, including our award-winning pancakes. We own and

9


Table of Contents

operate ten IHOP restaurants in the Cincinnati market primarily for testing new menu items and operational or procedural systems and for other research and development purposes. We also operate two IHOP Café restaurants, a new, non-traditional format currently under evaluation for possible additional development. In addition we may also operate, from time to time on a temporary basis until refranchised, IHOP restaurants that we reacquire for a variety of reasons from IHOP franchisees. IHOP restaurants are located in all 50 states of the United States, in the District of Columbia, and internationally in Canada, Mexico, Puerto Rico and the U.S. Virgin Islands.

        IHOP restaurants feature full table service and high quality, moderately priced food and beverage offerings in an attractive and comfortable atmosphere. Although the restaurants are best known for their award-winning pancakes, omelets and other breakfast specialties, IHOP restaurants offer a variety of lunch, dinner and snack items as well. IHOP restaurants are open throughout the day and evening hours, and many operate 24 hours a day.

        Franchising activities include both company-financed and franchisee-financed development. For clarity of presentation, the discussion below is separated between those activities specific to the Company's business model as it was in effect prior to 2003 (referred to as the Previous Business Model) and those adopted in January 2003 (referred to as the Current Business Model). As discussed in greater detail below, under the Previous Business Model the Company developed a substantial majority of all IHOP restaurants with the intention of leasing them to franchisees. Under the Current Business Model substantially all new IHOP restaurants are developed by franchise developers with the intention of operating them as franchised restaurants.

        Under our Current Business Model, a potential franchisee first negotiates and enters into a single-store development agreement or a multi-store development agreement with the Company and, upon completion of a prescribed approval procedure, is primarily responsible for the development and financing of one or more new IHOP franchised restaurants. In general, we do not provide any financing with respect to the franchise fee or otherwise under the Current Business Model. The franchise developer uses its own capital and financial resources along with third-party financial sources arranged for by the franchise developer to purchase or lease a restaurant site, build and equip the business and fund its working capital needs. The principal terms of the franchise agreements entered into under the Previous Business Model and the Current Business Model, including the franchise royalties and the franchise advertising fees, are substantially the same except with respect to the terms relating to the franchise fee. Of the 1,443 IHOP restaurants subject to franchise and area license agreements as of December 31, 2009, a total of 347 operate under the Current Business Model.

        The revenues received by the Company from a typical franchise development arrangement under the Current Business Model include (a) (i) a location fee equal to $15,000 upon execution of a single-store development agreement or (ii) a development fee equal to $20,000 for each IHOP restaurant that the franchisee contracts to develop upon execution of a multi-store development agreement; (b) a franchise fee equal to (i) $50,000 (against which the $15,000 location fee will be credited) for a restaurant developed under a single-store development agreement or (ii) $40,000 (against which the $20,000 development fee will be credited) for each restaurant developed under a multi-store development agreement, in each case paid upon execution of the franchise agreement; (c) franchise royalties equal to 4.5% of weekly gross sales; (d) revenue from the sale of pancake and waffle dry-mixes; and (e) franchise advertising fees. The franchise agreements generally provide for advertising fees comprised of (i) a local advertising fee generally equal to 2.0% of weekly gross sales under the franchise agreement, which was typically used to cover the cost of local media purchases and other local advertising expenses incurred by a local advertising cooperative, and (ii) a national advertising fee

10


Table of Contents


equal to 1.0% of weekly gross sales under the franchise agreement. Area licensees are generally required to pay lesser amounts toward advertising. Beginning in 2005, the Company and the IHOP franchisees agreed to reallocate portions of the local advertising fees to purchase national broadcast, syndication and cable television time in order to reach our target audience more frequently and more cost effectively (see "Marketing and Advertising").

        IHOP franchised restaurants established prior to 2003 under our Previous Business Model were generally developed by the Company. The Company was involved in all aspects of the development and financing of the restaurants. Under the Previous Business Model, the Company typically identified and leased or purchased the restaurant sites for new company-developed IHOP restaurants, built and equipped the restaurants and then franchised them to franchisees. In addition, IHOP typically financed as much as 80% of the franchise fee for periods ranging from five to eight years and leased the restaurant and equipment to the franchisee over a 25-year period. Of the 1,443 IHOP restaurants subject to franchise and area license agreements as of December 31, 2009, a total of 1,096 operate under the Previous Business Model.

        The revenues received from a restaurant franchised under the Previous Business Model include: (a) the franchise fee, a portion of which (typically 20%) was paid upon execution of the franchise agreement; (b) interest income from the financing arrangements for the unpaid portion of the franchise fee under the franchise notes; (c) franchise royalties typically equal to 4.5% of weekly gross sales; (d) lease or sublease rents for the restaurant property and building; (e) rent under an equipment lease; (f) revenues from the sale of pancake and waffle dry-mixes; and (g) franchise advertising fees as described above.

        In a few instances we have agreed to accept reduced royalties and/or lease payments from franchisees or have provided other accommodations to franchisees for specified periods of time in order to assist them in either establishing or reinvigorating their businesses.

        From time to time we will reacquire restaurants developed under the Previous Business Model from a franchisee that is struggling to fulfill its financial obligations or is otherwise in default of its agreements with the Company. In most cases we have been able to refranchise these restaurants to new franchisees fairly quickly. Where that is not the case, we typically operate the reacquired restaurant pending refranchising. These reacquired restaurants may require investments in remodeling and rehabilitation before they can be refranchised. As a consequence, our reacquired restaurants frequently incur operating losses for some period of time. Where appropriate, we may negotiate modified payment terms or agree to other accommodations with franchisees to assist them to rehabilitate these restaurants.

        We have entered into three long-term area license agreements covering the state of Florida and certain counties in the state of Georgia and the province of British Columbia, Canada. As of December 31, 2009, the area licensees for the state of Florida and certain counties in Georgia operated or sub-franchised a total of 152 IHOP restaurants, and the area licensees for the province of British Columbia, Canada operated or sub-franchised a total of 12 IHOP restaurants. The area license agreements provide for royalties ranging from 0.5% to 2.0% of gross sales and advertising fees equal to 0.25% of gross sales. The area license agreements provide the licensees with the right to develop new IHOP restaurants in their respective territories. We also derive revenues from the sale of proprietary products to these area licensees and in certain instances their sub-franchisees. We treat the revenues from our area licensees as franchise operations revenues for financial reporting purposes.

11


Table of Contents

        IHOP's Operations Department is charged with ensuring that high operational standards are met at all times by our franchisees. Operating standards have been developed in consultation with franchisees and are detailed in the "IHOP Manual of Standard Operating Procedures." Due to cultural and regulatory differences we may have different requirements for restaurants opened outside of the United States.

        We highly value good franchisor/franchisee relations and strive to maintain positive working relationships with our franchisees. We sponsor the IHOP Franchise Board of Advisors, an elected body of IHOP franchisees formed to advise and assist IHOP management with respect to a broad range of matters relating to the operation of IHOP restaurants. The group meets with IHOP management at least three times a year to discuss operational issues, marketing matters, development and construction issues, information technology and many other topics. In February 2009, we announced the formation of CSCS, an independent purchasing cooperative to manage all procurement activities for domestic Applebee's and IHOP restaurants choosing to join the cooperative (see "Purchasing Cooperative" on page 9).

        Company-operated IHOP restaurants are essentially comprised of our IHOP-owned restaurants in the Cincinnati, Ohio market. In addition, from time to time, restaurants developed by us under the Previous Business Model are returned by franchisees to us and may be operated by the Company for an indefinite period until they are refranchised. As of December 31, 2009, there were a total of 13 company-operated restaurants, 10 of which were located in the Cincinnati market, two of which were IHOP Cafés and one was a former franchise restaurant being operated temporarily that was refranchised in January 2010.

        We utilize the company-operated restaurants in the Cincinnati market to facilitate the testing of new building types and remodel designs, new products and equipment, new operational procedures, and new marketing, brand and design elements.

        The Current Business Model relies on franchisees to obtain their own financing to develop IHOP restaurants. We review and approve the franchisees' proposed sites but do not contribute capital or become the franchisees' landlord. Under the Current Business Model, substantially all new IHOP restaurants are financed and developed by franchisees or area licensees. In 2009, our franchisees and area licensees financed and developed 75 new restaurants and we developed one company-operated IHOP Café restaurant. We currently do not intend to build additional traditional IHOP restaurants in the Cincinnati market.

        New IHOP restaurants are only developed after a stringent site selection process. All restaurant development is approved by the Franchise Review Committee comprised of senior management. We expect our franchisees to add restaurants to the IHOP system in major markets where we already have a core guest base. We believe that concentrating growth in existing markets allows us to achieve economies of scale in our supervisory and advertising functions. We also look to have our franchisees strategically add restaurants in new markets in which we currently have no presence or our presence is limited.

        In 2009, IHOP entered into 13 franchise development agreements. As of December 31, 2009, we had signed commitments from franchisees to build 254 IHOP restaurants over the next eight years plus

12


Table of Contents

options for an additional 103 restaurants. This number includes 16 restaurants under single-store development agreements, 266 restaurants under multi-store development agreements and 75 restaurants under international development agreements.

        In 2010, we expect to open a total of 60 to 70 new IHOP restaurants, including 50 to 55 franchise restaurants, three to four area license restaurants in Florida and seven to 11 restaurants outside the U.S. or in non-traditional channels.

        The following table represents our IHOP restaurant development commitments, including options, as of December 31, 2009:

 
   
  Contractual Openings of
Restaurants by Year
 
 
  Number of Signed
Agreements at 12/31/09
  2010   2011   2012   2013 and
thereafter
  Total  

Single-store development agreements

    16     12     4             16  

Multi-store development agreements

    72     57     49     34     126     266  

International development agreements

    6     7     6     3     59     75  
                           

Total

    94     76     59     37     185     357  
                           

        The actual number of openings in any period may differ from both our expectations and the number of signed commitments. Historically, the actual number of restaurants developed in a particular year has been less than the total number committed to be developed due to various factors including weather-related delays, other construction delays, difficulties in obtaining timely regulatory approvals and various economic factors.

        The number of restaurants held by an individual franchisee ranges from one to 58 restaurants. The table below sets forth information regarding the number of IHOP restaurants owned by domestic franchisees as of December 31, 2009 as well as the total number of restaurants falling into each of the listed ranges.

 
  Franchisees   Restaurants  
Number of Restaurants Held by Franchisee
  Number   Percent of
Total
  Number   Percent of
Total
 

One

    181     50 %   181     14 %

Two to Five

    121     34 %   337     26 %

Six to Ten

    31     9 %   223     17 %

Eleven to Fifteen

    12     3 %   143     11 %

Sixteen and over

    15     4 %   395     31 %
                   

Total(a)

    360     100 %   1,279     100 %
                   

(a)
Percentages may not add due to rounding.

        The IHOP menu offers a large selection of high-quality, moderately priced products designed to appeal to a broad base of customers. These include a wide variety of pancakes, waffles, omelets and breakfast specialties, chicken, steak, sandwiches, salads and lunch and dinner specialties. Most IHOP restaurants offer special items for children and seniors at reduced prices. In recognition of local tastes, IHOP restaurants typically offer a few regional specialties that complement the IHOP core menu. Our Food and Beverage Innovation Department works together with franchisees and our Marketing

13


Table of Contents

Department to develop new menu and promotion ideas. These new items are thoroughly evaluated in our test kitchen and in limited regional tests with consumers, including operational tests, before being introduced throughout the system through core menu updates. The purpose of adding new items and improving existing items is to broaden the appeal of our food to our guests and continually give them new reasons to return to our restaurants. These efforts are based on consumer research, feedback and benchmarking, which help to identify opportunities to improve existing items as well as for developing new items.

        IHOP franchisees and company-operated restaurants contribute a percentage of their sales to local advertising cooperatives and a national advertising fund. The franchise agreements provide for advertising fees comprised of (i) a local advertising fee equal to 2.0% of weekly gross sales, which is used to cover the cost of local media purchases and (ii) a national advertising fee equal to 1.0% of weekly gross sales. Area licensees are generally required to pay lesser amounts toward advertising.

        The local advertising cooperatives have historically used the local advertising fees to purchase television advertising time, radio advertising time and place advertisements in printed media or direct mail locally. In addition, we encourage other local marketing by our franchisees. These marketing programs often include discount coupons and specials aimed at increasing guest traffic and encouraging repeat business. The national marketing fund is primarily used for the creation of advertising and to defray certain expenses associated with our marketing and advertising functions.

        Beginning in 2005, we and the franchisees have reallocated a portion of the local advertising fees to national media in order to take advantage of buying efficiencies associated with national broadcast, syndication and cable media. For 2007 and 2008 the franchisees agreed to reallocate one half of their local advertising fees to national media spending; for 2010 and 2009 the franchisees agreed to reallocate 62% of their local advertising fees. As a result, more of our television advertising will be seen on national broadcast, syndication and cable media.

        In 2009, we expanded the scope of our gift card program by utilizing third-party retailers to market our gift cards.

        IHOP has entered into supply contracts for pancake and waffle dry-mixes and pricing agreements for most major products carried in IHOP restaurants to ensure the availability of quality products at competitive prices. IHOP has negotiated other agreements or arrangements with food distribution companies to limit markups charged on food and restaurant supplies purchased by individual IHOP restaurants. In some instances, IHOP is required to enter into commitments to purchase food and other items on behalf of the IHOP system as a whole for the purpose of supplying limited time promotions. In February 2009, we announced the formation of CSCS, an independent purchasing cooperative to manage procurement activities for domestic Applebee's and IHOP restaurants choosing to join the cooperative (see "Purchasing Cooperative" on page 9).

Industry Overview and Competition

        The Applebee's and IHOP restaurant chains are among the numerous restaurant chains and independent restaurants competing in the $550 billion-plus consumer food service market in the United States. The restaurant business is generally categorized into segments by price point ranges, the types of food and beverages offered and the types of service available to consumers. These segments include, among others, fast food or quick service restaurants ("QSR"), family dining, casual dining and fine dining. Each of these segments can be broken down further into the type of food served by the

14


Table of Contents


restaurant. For example, the QSR category includes sandwich chains, hamburger chains and other chains.

        Applebee's competes in the casual dining segment against national and multi-state operators such as Chili's, T.G.I. Friday's and Ruby Tuesday's, among others. In addition, there are many independent restaurants across the country in the casual dining segment. Casual dining restaurants offer full table service and typically have bars or serve liquor, wine and beer. Applebee's is the largest casual dining brand in the world, in terms of number of restaurants and market share.

        IHOP competes in the family dining segment against national and multi-state operators such as Denny's, Cracker Barrel Old Country Store, Bob Evans Restaurants and Perkins Restaurant and Bakery. In addition, there are many independent restaurants and diners across the country in the family dining segment. Family dining restaurants offer full table service, typically do not have bars or serve liquor, and usually offer breakfast in addition to lunch and dinner items. IHOP is the largest family dining brand in the world, in terms of number of restaurants and system-wide sales.

        The restaurant business is highly competitive and is affected by, among other things, economic conditions, price levels, on-going changes in eating habits and food preferences, population trends and traffic patterns. The principal bases of competition in the industry are the type, quality and price of the food products served. Additionally, restaurant location, quality and speed of service, advertising, name identification and attractiveness of facilities are important.

        The market for high quality restaurant sites is also highly competitive. We and our franchisees often compete with other restaurant chains and retail businesses for suitable sites for the development of new restaurants.

        We also compete against other franchising organizations both within and outside the restaurant industry for new franchise developers.

Trademarks and Service Marks

        We own the rights to the "Applebee's Neighborhood Grill & Bar®" service mark and certain variations thereof and to other service marks used in our Applebee's system in the United States and in various foreign countries. In addition, we own trademarks and service marks used in the IHOP system, including "International House of Pancakes®," "IHOP" and variations of each, as well as "The Never Empty Coffee Pot," "Rooty Tooty Fresh 'N Fruity," "Harvest Grain 'N Nut," and "Come Hungry, Leave Happy." We have registered or applied to register our material trademarks and service marks with the United States Patent and Trademark Office. We also register new trademarks and service marks from time to time. We will protect our trademarks and service marks by appropriate legal action when necessary.

Seasonal Operations

        We do not consider our operations to be seasonal to any material degree.

Government Regulation

        We are subject to Federal Trade Commission ("FTC") regulation and a number of state laws which regulate the offer and sale of franchises. We are also subject to a number of state laws which regulate substantive aspects of the franchisor- franchisee relationship. The FTC's Trade Regulation Rule on Franchising, as amended (the "FTC Rule"), requires us to furnish to prospective franchisees a Franchise Disclosure Document containing information prescribed by the FTC Rule.

        State laws that regulate the offer and sale of franchises and the franchisor-franchisee relationship presently exist in a number of states. State laws that regulate the offer and sale of franchises require

15


Table of Contents


registration of the franchise offering with the state authorities. Those states that regulate the franchise relationship generally require that the franchisor deal with its franchisees in good faith, prohibit interference with the right of free association among franchisees, limit the imposition of unreasonable standards of performance on a franchisee and regulate discrimination against franchisees with respect to charges, royalty fees or other fees. Although such laws may restrict a franchisor in the termination and/or non-renewal of a franchise agreement by, for example, requiring "good cause" to exist as a basis for the termination and/or non-renewal, advance notice to the franchisee of the termination or non-renewal, an opportunity to cure a default and a repurchase of inventory or other compensation upon termination, these provisions have not historically had a significant effect on franchise operations.

        Each restaurant is subject to licensing and regulation by a number of governmental authorities, which may include liquor license authorities (primarily in the case of Applebee's restaurants), health, sanitation, safety, fire, building and other agencies in the state or municipality in which the restaurant is located. Difficulties in obtaining, or failure to obtain, the required licenses or approvals could delay or prevent the development of a new restaurant in a particular area or cause the temporary closure of existing restaurants. We are also subject to new laws and regulations, which vary from jurisdiction to jurisdiction, relating to nutritional content and menu labeling. Compliance with these laws and regulations may lead to increased costs and operational complexity and may increase our exposure to governmental investigations or litigation.

        We are subject to federal and state environmental regulations, but these have not had a material effect on our operations. More stringent and varied requirements of local governmental bodies with respect to zoning, land use and environmental factors could delay or prevent the development of new restaurants in particular areas.

        Various federal and state labor laws govern our and our franchisees' relationships with our respective employees. These include such matters as minimum wage requirements, overtime and other working conditions. Significant additional government-imposed increases in minimum wages, paid leaves of absence, mandated health benefits or increased tax reporting and tax payment requirements with respect to employees who receive gratuities could be detrimental to the economic viability of our restaurants.

Environmental Matters

        We are not aware of any federal, state or local environmental laws or regulations that are likely to materially impact our revenues, cash flow or competitive position, or result in any material capital expenditure. However, we cannot predict the effect of possible future environmental legislation or regulations.

Employees

        At December 31, 2009, we employed approximately 22,900 employees, of whom approximately 650 were full-time, non-restaurant, corporate personnel. Our employees are not presently represented by any collective bargaining agreements and we have never experienced a work stoppage. We believe our relations with employees are good.

16


Table of Contents

Item 1A.    Risk Factors.

        General economic conditions that are largely out of our control could adversely affect the Company's business, results of operations, liquidity and capital resources.    Our business is dependent to a significant extent on national, regional and local economic conditions, and, to a lesser extent, on global economic conditions, particularly those conditions affecting the demographics that frequently patronize Applebee's or IHOP restaurants. If our customers' disposable income available for discretionary spending is reduced (because of circumstances such as job losses, credit constraints and higher housing, taxes, energy, interest or other costs) or where the perceived wealth of customers has decreased (because of circumstances such as lower residential real estate values, increased foreclosure rates, increased tax rates or other economic disruptions), our business could experience lower sales and customer traffic as potential customers choose lower-cost alternatives (such as quick-service restaurants or fast casual dining) or choose alternatives to dining out. Any resulting decreases in customer traffic or average value per transaction will negatively impact the financial performance of Applebee's or IHOP company-operated restaurants, as reduced gross sales result in downward pressure on margins and profitability. These factors could also reduce gross sales at franchise restaurants, resulting in lower royalty payments from franchisees, and reduce profitability of franchise restaurants, potentially impacting the ability of franchisees to make royalty payments as they become due. Reduction in cash flows from either company-operated or franchised restaurants could have a material adverse effect on the Company's liquidity and capital resources.

        We incurred substantial indebtedness to finance the Applebee's acquisition which could adversely affect our business and limit our ability to respond to changes in our business.    As of December 31, 2009, we had outstanding long-term debt of approximately $1.6 billion, almost all of which was incurred to finance the 2007 acquisition of Applebee's. In addition, we may incur additional debt to the extent permitted under the terms of our debt covenants. Our substantial indebtedness and the fact that we are contractually obligated to apply a large portion of our cash flow from operations to make payments of interest and principal on our indebtedness has, among other ramifications:

        Our debt covenants associated with this indebtedness limit our ability to incur additional indebtedness, make investments, pay dividends and engage in other transactions. In addition, our debt covenants require that certain debt service coverage and consolidated leverage ratios be met. Our failure to comply with these covenants could result in an event of default that, if not cured or waived, could result, among other things, in the acceleration of all of our indebtedness and the imposition of a third party to act as Servicer for our IHOP and Applebee's franchise systems.

        We may be unable to generate sufficient cash flow to satisfy our significant debt service obligations, which would adversely affect our financial condition and results of operations.    The Applebee's and IHOP November 2007 securitization indebtedness has an accelerated payment date of December 2012, with possible extensions available until June 2013. The IHOP March 2007 securitization indebtedness has an accelerated payment date of March 2012, with possible extensions available until March 2014. Our ability to make interest and principal payments on our indebtedness and to refinance our indebtedness prior to the accelerated payment date will depend on our ability to generate cash from operations. This, to a certain extent, is subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control. If our business does not generate sufficient cash flow from operations, if currently anticipated cost savings and operating improvements are not realized on

17


Table of Contents

schedule, in the amounts anticipated or at all, or if future borrowings are not available to us in amounts sufficient to enable us to pay our indebtedness or to fund our other liquidity needs, our financial condition and results of operations may be adversely affected. If we cannot generate sufficient cash flow from operations to make scheduled interest and principal payments on our debt obligations in the future, we may need to refinance all or a portion of our indebtedness on or before maturity, sell assets, defer payment of Series A Preferred Stock dividends (and by so doing incur a higher dividend rate), delay capital expenditures or seek additional equity. If we are unable to refinance our indebtedness on commercially reasonable terms or at all, or to effect any other action relating to our indebtedness on satisfactory terms or at all, the indebtedness will be subject to rapid amortization no later than June 2013 because if the IHOP November 2007 securitization debt goes into rapid amortization, the IHOP March 2007 securitization debt will go into rapid amortization even if extended to March 2014. Under rapid amortization, all excess cash flow (after all required payments have been made) will be deposited in the principal payment account and used to repay principal of the applicable securitization debt.

        Declines in our financial performance could result in additional impairment charges in future periods.    U.S. generally accepted accounting principles require annual (or more frequently if events or changes in circumstances warrant) impairment tests of goodwill, intangible assets and other long-lived assets. Generally speaking, if the carrying value of the asset is in excess of the estimated fair value of the asset, the carrying value will be adjusted to fair value through an impairment charge. Fair values are primarily estimated using discounted cash flows based on five-year forecasts of financial results that incorporate assumptions as to same-store sales trends, future development plans and brand-enhancing initiatives, among other things. Significant underachievement of forecasted results could reduce the estimated fair value of these assets below the carrying value, requiring non-cash impairment charges to reduce the carrying value of the asset. As of December 31, 2009 our total stockholders' equity was $69.9 million. A significant impairment writedown of goodwill, intangible assets or long-lived assets in the future could result in a deficit balance in stockholders' equity. While such a deficit balance would not create an incident of default in any of our contractual agreements, the negative perception of such a deficit could have an adverse effect on our stock price and could impair our ability to obtain new financing, or refinance existing indebtedness on commercially reasonable terms or at all.

        The restaurant industry is highly competitive, and that competition could lower our revenues, margins and market share.    The performance of individual restaurants may be adversely affected by factors such as traffic patterns, demographics and the type, number and location of competing restaurants. The restaurant industry is highly competitive with respect to price, service, location, personnel and the type and quality of food. Each Applebee's and IHOP restaurant competes directly and indirectly with a large number of national and regional restaurant chains, as well as similar styles of businesses. The trend toward convergence in grocery, deli, and restaurant services may increase the number and variety of Applebee's and IHOP restaurants' competitors. In addition to the prevailing baseline level of competition, major market players in non-competing industries may choose to enter the food services market. Such increased competition could have a material adverse effect on the financial condition and results of operations of Applebee's or IHOP restaurants in affected markets. Applebee's and IHOP restaurants also compete with other restaurant chains for qualified management and staff, and we compete with other restaurant chains for available locations for new restaurants. Applebee's and IHOP restaurants also face competition from the introduction of new products and menu items by competitors, as well as substantial price discounting, and are likely to face such competition in the future. Although we may implement a number of business strategies, the future success of new products, initiatives and overall strategies is highly difficult to predict and will be influenced by competitive product offerings, pricing and promotions offered by competitors. Our ability to differentiate the Applebee's and IHOP brands from their competitors, which is in part limited by the advertising monies available to us and by consumer perception, cannot be assured. These factors could reduce the gross sales or profitability at Applebee's or IHOP restaurants, which would reduce the

18


Table of Contents


revenues generated by company-owned restaurants and the franchise payments received from franchisees.

        Our business strategy may not achieve the anticipated results.    We expect to continue to apply a new business strategy that includes, among other things, (i) the franchising of more than 90% of the Applebee's company-operated restaurants, (ii) specific changes in the manner in which our Applebee's and IHOP businesses are managed and serviced, such as the February 2009 establishment of a purchasing cooperative, and the procurement of products and services from such purchasing cooperative, (iii) the possible introduction of new restaurant concepts and (iv) more generally, improvements to the overall performance of the Applebee's business by applying some of the strategies we previously applied to the IHOP restaurant business. However, the Applebee's business is different in many respects from the IHOP business. In particular, the Applebee's restaurants are part of the casual dining segment of the restaurant industry whereas the IHOP restaurants are part of the family dining segment, and the Applebee's business is larger, distributed differently across the United States and appeals to a somewhat different segment of the consumer market. Therefore, there can be no assurance that the business strategy we apply to the Applebee's business will be suitable or will achieve similar results to the application of such business strategy to the IHOP system. In particular, the franchising of Applebee's company-operated restaurants may not improve the performance of such restaurants and may not reduce the capital expenditures to the extent we anticipate or result in the other intended benefits of the strategy. The actual benefit from the franchising of the Applebee's company-operated restaurants is uncertain and may be less than anticipated.

        As of December 31, 2009 we have franchised 110 of the Applebee's company-operated restaurants acquired on November 29, 2007. There can be no assurance that we will be able to complete the refranchising of a substantial majority of the remaining 399 company-operated restaurants on desirable terms or within the anticipated time frame. The anticipated proceeds from the refranchising of the company-operated restaurants are based on current market values, recent comparable transaction valuations, and a number of other assumptions. The franchising of Applebee's company-operated restaurants is not expected to be completed for several years. If market rents, comparable transaction valuations or other assumptions prove to be incorrect, the actual proceeds from the franchising of the company-operated restaurants may be different than anticipated. In addition, adverse economic, market or other conditions existing in the states in which company-operated real property is located may adversely affect our ability to execute the franchising transactions or to achieve the anticipated returns from such transactions. Market conditions may have changed at the time the franchising transactions occur. Finally, the operational improvement initiatives or purchasing initiatives may not be successful or achieve the desired results. In particular, there can be no assurance that the existing franchisees or prospective new franchisees will respond favorably to such initiatives.

        Factors specific to the restaurant industry, some of which are outside of our control, may have a material adverse effect on our business.    The sales and profitability of our restaurants and, in turn, payments from our franchisees may be negatively impacted by a number of factors, some of which are outside of our control. The most significant are:

19


Table of Contents

        Shortages or interruptions in the supply or delivery of food supplies could have a material adverse effect on our system-wide sales, revenues or profits.    Our franchised and company-operated restaurants are dependent on frequent deliveries of fresh produce, groceries and other food and beverage products. This subjects us to the risk of shortages or interruptions in food and beverage supplies which may result from a variety of causes including, but not limited to, shortages due to adverse weather, labor unrest, political unrest, terrorism, outbreaks of food-borne illness or other unforeseen circumstances. Such shortages could adversely affect our revenue and profits. The inability to secure adequate and reliable supplies or distribution of food and beverage products could limit our ability to make changes to our core menus or offer promotional "limited time only" menu items, which may limit our ability to implement our business strategies. Our restaurants bear risks associated with the timeliness of deliveries by suppliers and distributors as well as the solvency, reputation, labor relationships, freight rates, prices of raw materials and health and safety standards of each supplier and distributor. Other significant risks associated with our suppliers and distributors include improper handling of food and beverage products and/or the adulteration or contamination of such food and beverage products. Disruptions in our relationships with suppliers and distributors may reduce the profits generated by company-operated restaurants or the payments we receive from franchisees.

        Changing health or dietary preferences may cause consumers to avoid Applebee's and IHOP's products in favor of alternative foods.    The food service industry as a whole rests on consumer preferences and demographic trends at the local, regional, national and international levels, and the impact on consumer eating habits of new information regarding diet, nutrition and health. Our franchise development and system-wide sales depend on the sustained demand for our products, which may be affected by factors we do not control. Changes in nutritional guidelines issued by the United States Department of Agriculture, issuance of similar guidelines or statistical information by federal, state or local municipalities, or academic studies, among other things, may impact consumer choice and cause consumers to select foods other than those that are offered by Applebee's or IHOP restaurants. We may not be able to adequately adapt Applebee's or IHOP restaurants' menu offerings to keep pace with developments in current consumer preferences, which may result in reductions to the revenues generated by our company-operated restaurants and the franchise payments we receive from franchisees.

20


Table of Contents

        Harm to our brands' reputation may have a material adverse effect on our business.    The success of our restaurant business is largely dependent upon brand recognition and the strength of our franchise systems. The continued success of our company-operated restaurants and our franchisees will be directly dependent upon the maintenance of a favorable public view of the Applebee's and IHOP brands. Negative publicity (e.g., crime, scandal, litigation, on-site accidents and injuries or other harm to customers) at a single Applebee's or IHOP location can have a substantial negative impact on the operations of all restaurants within the Applebee's or IHOP system. Multi-unit food service businesses such as ours can be materially and adversely affected by widespread negative publicity of any type, but particularly regarding food quality, food-borne illness, food tampering, obesity, injury or other health concerns with respect to certain foods, whether or not accurate or valid. The risk of food-borne illness or food tampering cannot be completely eliminated. Any outbreak of food-borne illness or other food-related incidents attributed to Applebee's or IHOP restaurants or within the food service industry or any widespread negative publicity regarding the Applebee's or IHOP brands or the restaurant industry in general could have a material adverse effect on our financial condition or results of operations. Although the Company maintains liability insurance, and each franchisee is required to maintain liability insurance pursuant to its franchise agreements, a liability claim could injure the reputation of all Applebee's or IHOP restaurants, whether or not it is ultimately successful.

        We and our franchisees are subject to a variety of litigation risks that may negatively impact performance.    We and our franchisees are subject to complaints or litigation from guests alleging illness, injury or other food quality, food safety, health or operational concerns. We and our franchisees are also subject to "dram shop" laws in some states pursuant to which we and our franchisees may be subject to liability in connection with personal injuries or property damages incurred in connection with wrongfully serving alcoholic beverages to an intoxicated person. We may also initiate legal proceedings against franchisees for breach of the terms of their franchise agreements. Such claims may reduce the profits generated by company-operated restaurants and the ability of franchisees to make payments to us. These claims may also reduce the ability of franchisees to enter into new franchise agreements with us. Although our franchise agreements require our franchisees to defend and indemnify us, we may be named as a defendant and sustain liability in legal proceedings against franchisees under the doctrines of vicarious liability, agency, negligence or otherwise.

        Ownership of real property exposes us to potential environmental liabilities.    The ownership of real property exposes us to potential environmental liabilities from U.S. Federal, state and local governmental authorities and private lawsuits by individuals or businesses. The potential environmental liabilities in connection with the ownership of real estate are highly uncertain. We currently do not have actual knowledge of any environmental liabilities that would have a material adverse effect on the Company. From time to time, we have experienced some non-material environmental liabilities resulting from environmental issues at our properties. While we are unaware of any material environmental liabilities, it is possible that material environmental liabilities relating to our properties may arise in the future.

        Matters involving employees at certain company-operated restaurants expose us to potential liability.    We are subject to U.S. Federal, state and local employment laws that expose us to potential liability if we are determined to have violated such employment laws. Failure to comply with Federal and state labor laws pertaining to minimum wage, overtime pay, meal and rest breaks, unemployment tax rates, workers' compensation rates, citizenship or residency requirements, child labor requirements, sales taxes and other employment-related matters may have a material adverse effect on our business or operations. In addition, employee claims based on, among other things, discrimination, harassment or wrongful termination may divert financial and management resources and adversely affect operations. The losses that may be incurred as a result of any violation of such employment laws are difficult to quantify.

21


Table of Contents

        Our failure or the failure of our franchisees to comply with federal, state and local governmental regulations may subject us to losses and harm our brands.    The restaurant industry is subject to extensive Federal, state and local governmental regulations, including those relating to the preparation and sale of food and alcoholic beverages and those relating to building and zoning requirements and employment. We are also subject to licensing and regulation by state and local departments relating to the service of alcoholic beverages, health, sanitation, fire and safety standards, and to laws governing relationships with employees, including minimum wage requirements, overtime, working conditions and citizenship requirements. We are also subject to laws and regulations, which vary from jurisdiction to jurisdiction, relating to nutritional content and menu labeling. Compliance with these laws and regulations may lead to increased costs and operational complexity and may increase our exposure to governmental investigations or litigation. In connection with the continued operation or remodeling of certain restaurants, we or our franchisees may be required to expend funds to meet Federal, state and local and foreign regulations. The ability to obtain or maintain such licenses or publicity resulting from actual or alleged violations of such laws could have an adverse effect on our results of operations. We are subject to federal regulation and certain state laws which govern the offer and sale of franchises. Many state franchise laws contain provisions that supersede the terms of franchise agreements, including provisions concerning the termination or non-renewal of a franchise. Some state franchise laws require that certain materials be registered before franchises can be offered or sold in that state. The failure to obtain or retain licenses or approvals to sell franchises could adversely affect us and the franchisees. Changes in, and the cost of compliance with, government regulations could have a material effect on operations.

        We are subject to the Fair Labor Standards Act, various other laws and state and local regulations in the United States and in the foreign countries in which we operate from time to time, governing such matters as minimum-wage requirements, overtime and other working conditions and citizenship requirements. A significant number of the food-service employees in our restaurants are paid at rates related to the United States federal minimum wage or the relevant state minimum wage, and past increases in the United States federal and state minimum wage, as well as changes in the method of calculating the minimum wage and crediting of tips, have increased labor costs, as would future increases. Any increases in labor costs might cause us or our franchisees to inadequately staff Applebee's or IHOP restaurants. Understaffed restaurants could result in reduced gross sales and decreased profits at such restaurants.

        We and our franchisees must also comply with Title III of the Americans with Disabilities Act (the "ADA"). Compliance with the ADA generally requires that public spaces provide reasonable accommodation to disabled individuals and that new commercial spaces or modifications of commercial spaces conform to specific accessibility guidelines unless materially unfeasible. Although newer restaurants are designed to meet the ADA construction standards, some older restaurants may not meet the ADA standards. A finding of noncompliance with the ADA could result in the imposition of injunctive relief, fines, an award of damages to private litigants or additional capital expenditures to remedy such noncompliance. Any imposition of injunctive relief, fines, damage awards or capital expenditures could adversely affect our revenue or profits.

        Restaurant development plans under development agreements may not be implemented effectively.    We rely on franchisees to develop Applebee's and IHOP restaurants. Restaurant development involves substantial risks, including the following:

22


Table of Contents

        We cannot assure that the development and construction of facilities will be completed, or that any such development will be completed in a timely manner. We cannot assure that present or future development will perform in accordance with our expectations.

        The opening and success of Applebee's and IHOP restaurants depend on various factors, including the demand for Applebee's and IHOP restaurants and the selection of appropriate franchisee candidates, the availability of suitable sites, the negotiation of acceptable lease or purchase terms for new locations, costs of construction, permit issuance and regulatory compliance, the ability to meet construction schedules, the availability of financing and other capabilities of franchisees. There is no assurance that franchisees planning the opening of restaurants will have the business abilities or sufficient access to financial resources necessary to open the restaurants required by their agreements. It cannot be assured that franchisees will successfully participate in our strategic initiatives or operate their restaurants in a manner consistent with our concept and standards.

        Concentration of Applebee's franchised restaurants in a limited number of franchisees subjects us to greater credit risk.    As of December 31, 2009, Applebee's franchisees operated 1,470 Applebee's restaurants in the United States, which restaurants comprised 79% of the total Applebee's restaurants in the United States. As of December 31, 2009, the nine largest Applebee's franchisees owned 786 restaurants, representing 53% of all franchised Applebee's restaurants in the United States. The concentration of franchised restaurants in a limited number of franchisees subjects us to a potentially higher level of credit risk in respect of such franchisees because their financial obligations to us are greater as compared to those franchisees with fewer restaurants. The risk associated with these franchisees is also greater where franchisees are the sole or dominant franchisee for a particular region of the United States, as is the case for most domestic Applebee's franchised territories. In particular, if any of these franchisees experiences financial or other difficulties, the franchisee may default on its obligations under multiple franchise agreements including payments to us and the maintenance and improvement of its restaurants. If any of these franchisees are subject to bankruptcy or insolvency proceedings, a bankruptcy court may prevent the termination of the related franchise agreements and development Agreements. Any franchisee that is experiencing financial difficulties may also be unable to participate in implementing changes to our business strategy. Any franchisee that owns and operates a significant number of Applebee's restaurants and fails to comply with its other obligations under the franchise agreement, such as those relating to the quality and preparation of food and maintenance of restaurants, could cause significant harm to the Applebee's brand and subject us to claims by consumers even if we are not legally liable for the franchisee's actions or failure to act. The franchising of most the company-operated Applebee's restaurants that is part of our strategy is not expected to reduce the degrees of concentration of franchised Applebee's restaurants because the existing franchisees are the likely candidates to acquire company-operated restaurants. The concentration of the franchised Applebee's restaurants in a limited number of franchisees may also reduce our negotiating power with respect to the terms of sale of the company-operated Applebee's restaurants. Development rights for Applebee's restaurants are also concentrated among a limited number of existing franchisees. If any of these existing franchisees experience financial difficulties, future development of Applebee's restaurant may be materially adversely affected.

23


Table of Contents

        Termination or non-renewal of franchise agreements may disrupt restaurant performance.    Each franchise agreement is subject to termination by us in the event of default by the franchisee after applicable cure periods. Upon the expiration of the initial term of a franchise agreement, the franchisee generally has an option to renew the franchise agreement for an additional term. There is no assurance that franchisees will meet the criteria for renewal or will desire or be able to renew their franchise agreements. If not renewed, a franchise agreement, and payments required thereunder, will terminate. We may be unable to find a new franchisee to replace such lost revenues. Furthermore, while we will be entitled to terminate franchise agreements following a default that is not cured within the applicable grace period, if any, the disruption to the performance of the restaurants could materially and adversely affect our business.

        Franchisees may breach the terms of their franchise agreements in a manner that adversely affects our brands.    Franchisees are required to conform to specified product quality standards and other requirements pursuant to their franchise agreements in order to protect our brand and to optimize restaurant performance. However, franchisees may receive through the supply chain or produce sub-standard food or beverage products, which may adversely impact the reputation of our brands. Franchisees may also breach the standards set forth in their respective franchise agreements.

        Franchisees are subject to potential losses that are not covered by insurance that may negatively impact their ability to make payments to us and perform other obligations under franchise agreements.    Franchisees may have insufficient insurance coverage to cover all of the potential risks associated with the ownership and operation of their restaurants. A franchisee may have insufficient funds to cover unanticipated increases in insurance premiums or losses that are not covered by insurance. Certain extraordinary hazards may not be covered and insurance may not be available (or may be available only at prohibitively expensive rates) with respect to many other risks. Moreover, there is no assurance that any loss incurred will not exceed the limits on the policies obtained, or that payments on such policies will be received on a timely basis, or even if obtained on a timely basis, that such payments will prevent losses to such franchisee or enable timely franchise payments. Accordingly, in cases in which a franchisee experiences increased insurance premiums or must pay claims out-of-pocket, the franchisee may not have the funds necessary to pay franchise payments.

        Franchisees generally are not "limited purpose entities," making them subject to business, credit, financial and other risks.    Franchisees may be natural persons or legal entities. Franchisees are often not "limited-purpose entities," making them subject to business, credit, financial and other risks which may be unrelated to the operations of Applebee's or IHOP restaurants. These unrelated risks could materially and adversely affect a franchisee and its ability to make its franchise payments in full or on a timely basis. Any such decrease in franchise payments may have a material adverse effect on us. See "An insolvency or bankruptcy proceeding involving a franchisee could prevent the collection of payments or the exercise of rights under the related franchise agreement," below.

        The number and quality of franchisees is subject to change over time, which may negatively affect our business.    Our Applebee's business is highly concentrated in a limited number of franchisees. We cannot guarantee the retention of any, including the top performing, franchisees in the future, or that we will maintain the ability to attract, retain, and motivate sufficient numbers of franchisees of the same caliber. The quality of existing franchisee operations may be diminished by factors beyond our control, including franchisees' failure or inability to hire or retain qualified managers and other personnel. Training of managers and other personnel may be inadequate. These and other such negative factors could reduce the franchisee's restaurant revenues, impact payments under the franchise agreements and could have a material adverse effect on us. These negative factors will be magnified by the limited number of existing franchisees.

        The inability of franchisees to fund capital expenditures may adversely impact future growth.    Our business strategy includes revitalizing Applebee's store locations through a new remodel program and

24


Table of Contents


other operational changes. The success of that business strategy will depend to a significant extent on the ability of the franchisees to fund the necessary capital expenditures to aid the repositioning and re-energizing of the brand. Labor and material costs expended will vary by geographical location and are subject to general price increases. To the extent the franchisees are not able to fund the necessary capital expenditures, our business strategy may take longer to implement and may not be as successful as we expect, which could have a material adverse effect on our business.

        An insolvency or bankruptcy proceeding involving a franchisee could prevent the collection of payments or the exercise of rights under the related franchise agreement.    An insolvency proceeding involving a franchisee could prevent us from collecting payments or exercising any of our other rights under the related franchise agreement. In particular, the protection of the statutory automatic stay that arises by operation of Section 362 of the United States Bankruptcy Code upon the commencement of a bankruptcy proceeding by or against a franchisee would prohibit us from terminating a franchise agreement previously entered into with a franchisee. Furthermore, a franchisee that is subject to bankruptcy proceedings may reject the franchise agreement in which case we would be limited to a general unsecured claim against the franchisee's bankruptcy estate on account of breach-of-contract damages arising from the rejection. Payments previously made to us by a franchisee that is subject to a bankruptcy proceeding may also be recoverable on behalf of the franchisee as a preferential transfer under the United States Bankruptcy Code.

        Third-party claims with respect to intellectual property assets, if decided against us, may result in competing uses or require adoption of new, non-infringing intellectual property, which may in turn adversely affect sales and revenues.    There can be no assurance that third parties will not assert infringement or misappropriation claims against us, or assert claims that our rights in our trademarks, service marks and other intellectual property assets are invalid or unenforceable. Any such claims could have a material adverse effect on us or our franchisees if such claims were to be decided against us. If our rights in any intellectual property were invalidated or deemed unenforceable, it could permit competing uses of intellectual property which, in turn, could lead to a decline in restaurant revenues and sales of other branded products and services (if any). If the intellectual property became subject to third-party infringement, misappropriation or other claims, and such claims were decided against us, then we could be required to develop or adopt non-infringing intellectual property or acquire a license to the intellectual property that is the subject of the asserted claim. There could be significant expenses associated with the defense of any infringement, misappropriation, or other third party claims.

        If franchisees and other sublicensees do not observe the required quality and trademark usage standards, our brands may suffer reputational damage, which could in turn adversely affect our business.    We sublicense our intellectual property to our franchisees and to product suppliers, manufacturers, distributors, advertisers and other third parties. The franchise agreements and other sublicense agreements require that each franchisee or other sublicensee use the intellectual property in accordance with established or approved quality control guidelines. However, there can be no assurance that the franchisees or other sublicensees will use the intellectual property assets in accordance with such guidelines. Franchisee and sublicensee noncompliance with the terms and conditions of the governing franchise agreement or other sublicense agreement may reduce the overall goodwill associated with our brands. Franchisees and other sublicensees may refer to our intellectual property improperly in writings or conversation, resulting in the weakening of the distinctiveness of our intellectual property. There can be no assurance that the franchisees or other sublicensees will not take actions that could have a material adverse effect on the reputation of the Applebee's or IHOP intellectual property. Any such actions could have a corresponding material adverse effect on our business and revenues.

        In addition, even if the sublicensee product suppliers, manufacturers, distributors, or advertisers observe and maintain the quality and integrity of the intellectual property assets in accordance with the relevant sublicense agreement, any product manufactured by such suppliers may be subject to

25


Table of Contents


regulatory sanctions and other actions by third parties which can, in turn, negatively impact the perceived quality of our restaurants and the overall goodwill of our brands, regardless of the nature and type of product involved. Any such actions could have a material adverse effect on our business, by virtue of, among other things, reducing the public's acceptance of Applebee's or IHOP restaurants, thereby reducing restaurant revenues and corresponding franchise payments to us.

        We are heavily dependent on information technology and any material failure of that technology could impair our ability to efficiently operate our business.    We rely heavily on information systems across our operations, including, for example, point-of-sale processing in our restaurants, management of our supply chain, collection of cash, payment of obligations and various other processes and procedures. Our ability to efficiently manage our business depends significantly on the reliability and capacity of these systems. The failure of these systems to operate effectively, problems with maintenance, upgrading or transitioning to replacement systems, or a breach in security of these systems could cause delays in customer service and reduce efficiency in our operations. Significant capital investments might be required to remediate any problems.

        Failure to protect the integrity and security of individually identifiable data of customers, vendors or employees may subject us to loss and harm our brands.    We might receive and maintain, for varying lengths of time, certain personal or business information about customers, vendors and employees. The use of this information by us is regulated by federal and state laws, as well as by certain third-party agreements. If our security and information systems are compromised or our employees or if franchisees fail to comply with these laws and regulations, and this information is obtained by unauthorized persons or used inappropriately, it could adversely affect our reputation and could result in costs to defend or settle litigation, to pay judgments awarded from litigation, or pay penalties resulting from violation of federal and state laws and payment card industry regulations. As privacy and information security laws and regulations change, we may incur additional costs to ensure that we remain in compliance with said laws and regulations.

Item 1B.    Unresolved Staff Comments.

        None.

26


Table of Contents

Item 2.    Properties.

        The table below shows the location and ownership of the combined 3,464 Applebee's and IHOP restaurants as of December 31, 2009:

 
  Applebee's   IHOP  
 
  Franchise   Company-
Operated
  Total   Franchise   Company-
Operated
  Area
License
  Total  

United States

                                           

Alabama

    29         29     18             18  

Alaska

    2         2     4             4  

Arizona

    33         33     36             36  

Arkansas

    9     2     11     14             14  

California

    112         112     227     1         228  

Colorado

    27         27     29             29  

Connecticut

    9         9     6             6  

Delaware

    12         12     5             5  

District of Columbia

                1             1  

Florida

    106         106             148     148  

Georgia

    69         69     70         4     74  

Hawaii

                6             6  

Idaho

    12         12     9             9  

Illinois

    52     14     66     52             52  

Indiana

    59     7     66     20             20  

Iowa

    27         27     9             9  

Kansas

    19     15     34     18             18  

Kentucky

    32     5     37     2     1         3  

Louisiana

    17         17     25             25  

Maine

        11     11     1             1  

Maryland

    14     12     26     30             30  

Massachusetts

        32     32     16             16  

Michigan

    21     65     86     18             18  

Minnesota

    2     59     61     9             9  

Mississippi

    15     3     18     9             9  

Missouri

    2     60     62     23             23  

Montana

    7         7     5             5  

Nebraska

    19         19     5             5  

Nevada

    14         14     23             23  

New Hampshire

        16     16     2             2  

New Jersey

    56         56     39             39  

New Mexico

    18         18     12             12  

New York

    106     1     107     47             47  

North Carolina

    55     2     57     40             40  

North Dakota

    11         11     1             1  

Ohio

    96         96     20     9         29  

Oklahoma

    20         20     24             24  

Oregon

    21         21     7             7  

Pennsylvania

    74     2     76     18             18  

Rhode Island

        8     8     2             2  

South Carolina

    41         41     25             25  

South Dakota

    6         6     5             5  

Tennessee

    34     4     38     32             32  

Texas

    92         92     180     2         182  

Utah

    16         16     19             19  

Vermont

        3     3     1             1  

Virginia

    2     71     73     53             53  

Washington

    39         39     29             29  

West Virginia

    15     2     17     6             6  

Wisconsin

    43     4     47     13             13  

Wyoming

    5         5     3             3  
                               
 

Total Domestic

    1,470     398     1,868     1,268     13     152     1,433  

27


Table of Contents

 
  Applebee's   IHOP  
 
  Franchise   Company-
Operated
  Total   Franchise   Company-
Operated
  Area
License
  Total  

International

                                           

Bahrain

    1         1                  

Brazil

    9         9                  

Canada

    25         25     2         12     14  

Chile

    2         2                  

China

        1     1                  

Costa Rica

    1         1                  

Greece

    8         8                  

Guatemala

    3         3                  

Honduras

    7         7                  

Jordan

    1         1                  

Kuwait

    5         5                  

Lebanon

    1         1                  

Mexico

    56         56     7             7  

Puerto Rico

    2         2     1             1  

Qatar

    4         4                  

Saudi Arabia

    12         12                  

United Arab Emirates

    2         2                  

St. Croix, Virgin Islands

                1             1  
                               
 

Total International

    139     1     140     11         12     23  
                               
   

Totals

    1,609     399     2,008     1,279     13     164     1,456  
                               

        As of December 31, 2009, we operated 399 Applebee's restaurants and 13 IHOP restaurants for a total of 412 company-operated restaurants. Of these restaurants, we leased the building for 55 sites, owned the building and leased the land for 183 sites, owned the land and building for 12 sites and leased the land and building for 162 sites.

        Of the 1,279 franchisee-operated IHOP restaurants, 62 were located on sites owned by us, 696 were located on sites leased by us from third parties and 521 were located on sites owned or leased by franchisees. All of the IHOP restaurants operated by the area licensee and all of the franchisee-operated Applebee's restaurants were located on sites owned or leased by the area licensee or the franchisee.

        Leases of IHOP restaurants generally provide for an initial term of 20 to 25 years, with most having one or more five-year renewal options. Leases of Applebee's restaurants generally have an initial term of 10 to 20 years, with renewal terms of 5 to 20 years. In addition, a substantial portion of the leases for both IHOP and Applebee's restaurants include provisions calling for the periodic escalation of rents during the initial term and/or during renewal terms. The leases typically provide for payment of rents in an amount equal to the greater of a fixed amount or a specified percentage of gross sales and for payment of taxes, insurance premiums, maintenance expenses and certain other costs. Historically, it has been our practice to seek to extend, through negotiation, those leases that expire without renewal options. However, from time to time, we choose not to renew a lease or are unsuccessful in negotiating satisfactory renewal terms. When this occurs, the restaurant is closed and possession of the premises is returned to the landlord.

        Under our Applebee's franchise agreements, we have certain rights to gain control of a restaurant site in the event of default under the franchise agreement. Because most IHOP franchised restaurants developed by us under our Previous Business Model are subleased to the franchisees, IHOP has the ability to regain possession of the subleased restaurant if the franchisee defaults in the payment of rent or other terms of the sublease.

        We currently lease our principal corporate offices and IHOP restaurant support center in Glendale, California, under a lease expiring in June 2020. The Applebee's restaurant support center is

28


Table of Contents


located in the Kansas City metropolitan area under a lease expiring in July 2023. We also lease a small executive suite space for our company operations in the Cincinnati market.

Item 3.    Legal Proceedings.

        We are subject from time to time to lawsuits, claims and governmental inspections or audits arising in the ordinary course of business. Some of these lawsuits purport to be class actions and/or seek substantial damages. In the opinion of management, these matters are adequately covered by insurance or, if not so covered, are without merit or are of such a nature or involve amounts that would not have a material adverse impact on our business or consolidated financial position.

        The Company is currently defending a collective action filed under the Fair Labor Standards Act styled Gerald Fast v. Applebee's International, Inc., in which named plaintiffs claim that tipped workers in company restaurants perform excessive amounts of non-tipped work for which they should be compensated at the minimum wage. The court has conditionally certified a nationwide class of servers and bartenders who have worked in company-operated Applebee's restaurants since June 19, 2004. Unlike a class action, a collective action requires potential class members to "opt in" rather than "opt out." On February 12, 2008, 5,540 opt-in forms were filed with the court.

        In cases of this type, conditional certification of the plaintiff class is granted under a lenient standard. On January 15, 2009, the Company filed a motion seeking to have the class de-certified and the plaintiffs filed a motion for summary judgment, both of which were denied by the court. The parties stipulated to a bench trial which was set to begin on September 8, 2009 in Jefferson City, Missouri. Just prior to trial, however, the court vacated the trial setting in order to submit key legal issues to the 8th Circuit for review on interlocutory appeal. Briefing on the issues for interlocutory appeal was completed by the parties on October 2, 2009.

        The Company believes it has strong defenses to the substantive claims asserted and intends to vigorously defend this case. An estimate of the possible loss, if any, or the range of the loss cannot be made and, therefore, the Company has not accrued a loss contingency related to this matter. It is reasonably possible that future events will occur in the near term that provide clarification as to an estimate of the possible loss, if any, or the range of the loss related to this matter.

Item 4.    Reserved.

29


Table of Contents


PART II

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

Market Information

        Our common stock is traded on the New York Stock Exchange ("NYSE") under the symbol "DIN". The following table sets forth the high and low sales prices of our common stock on the NYSE, and dividends paid, for each quarter of 2009 and 2008.

 
  Fiscal Year 2009   Fiscal Year 2008  
 
  Prices    
  Prices    
 
 
  Dividends
Paid
  Dividends
Paid
 
Quarter
  High   Low   High   Low  

First

  $ 14.56   $ 5.24   $ 0.00   $ 55.77   $ 34.70   $ 0.25  

Second

  $ 34.71   $ 10.48   $ 0.00   $ 53.50   $ 35.65   $ 0.25  

Third

  $ 33.06   $ 20.25   $ 0.00   $ 38.98   $ 14.91   $ 0.25  

Fourth

  $ 26.44   $ 19.97   $ 0.00   $ 18.62   $ 5.65   $ 0.25  

Holders

        As of February 1, 2010, there were approximately 6,100 registered holders of record of our common stock. That number excludes the beneficial owners of shares held in "street" name through banks, brokers and other financial institutions.

Dividends

        The Company had accrued $0.2 million as dividends for the Series A Perpetual Preferred Stock as of the end of fiscal 2009 (January 3, 2010).

        The Company's most recent quarterly dividend of $0.25 per common share was paid in December 2008. Effective December 11, 2008, the Company suspended the payment of its quarterly cash dividend to common shareholders for the foreseeable future in order to maximize the financial flexibility of the Company. Future dividend payments on the common shares may be resumed at the discretion of the Board of Directors after consideration of the Company's earnings, financial condition, cash requirements, future prospects and other factors.

Securities Authorized for Issuance Under Equity Compensation Plans

        The following table provides information as of December 31, 2009, regarding shares outstanding and available for issuance under our existing equity compensation plans:

Plan Category
  Number of securities to be
issued upon exercise of
outstanding options,
warrants and rights
(a)
  Weighted average
exercise price of
outstanding options,
warrants and rights
(b)
  Number of securities
remaining available for
future issuance under
equity compensation plans
(excluding securities
reflected in column (a))
(c)
 

Equity compensation plans approved by security holders

    1,659,100   $ 21.30     1,248,046  

Equity compensation plans not approved by security holders

             
               

Total

    1,659,100   $ 21.30     1,248,046  
               

30


Table of Contents

        The number of securities remaining available for future issuance includes 1,226,146 shares and 21,900 shares under our 2001 Stock Incentive Plan and 2005 Stock Incentive Plan for Non-Employee Directors, respectively. Please refer to Note 18, Stock-Based Incentive Plans, in the Notes to the Consolidated Financial Statements for a description of each plan.

Issuer Purchases of Equity Securities

        In January 2003, our Board of Directors authorized a program to repurchase shares of our common stock. The Board approved the repurchase of up to 7.2 million shares of common stock from time to time, depending on market conditions and other factors. No repurchases were made during 2008 or 2009. In February 2009, the Board of Directors cancelled the authorization to repurchase any additional shares under this program. A total of 6,327,877 shares were repurchased under the stock repurchase program prior to the cancellation of the program.

        During 2009, a total of 50,927 shares of restricted stock were surrendered to the Company at an average price of $11.87 per share to satisfy tax withholding obligations in connection with the vesting of restricted stock awards issued to employees under our 2001 Stock Incentive Plan.

31


Table of Contents

Stock Performance Graph

        The graph below shows a comparison of the cumulative total shareholder return on our common stock with the cumulative total return on the Standard & Poor's 500 Composite Index and the Value-Line Restaurants Index ("Restaurant Index") over the five-year period ended December 31, 2009. The graph and table assume $100 invested at the close of trading on the last day of trading in 2004 in our common stock and in each of the market indices, with reinvestment of all dividends. Stockholder returns over the indicated periods should not be considered indicative of future stock prices or stockholder returns.

Comparison of Five-Year Cumulative Total Shareholder Return
DineEquity, Inc., Standard & Poor's 500 And Value Line Restaurant Index
(Performance Results Through December 31, 2009)

GRAPHIC

 
  2004   2005   2006   2007   2008   2009  

DineEquity, Inc. 

  $ 100.00   $ 114.60   $ 131.35   $ 92.71   $ 30.74   $ 64.60  

Standard & Poor's 500

    100.00     103.00     117.03     121.16     74.53     92.01  

Restaurant Index

    100.00     109.26     135.53     147.03     137.15     175.69  

32


Table of Contents

Item 6.    Selected Financial Data.

        The following selected consolidated financial data should be read in conjunction with the consolidated financial statements and notes thereto and "Management's Discussion and Analysis of Financial Condition and Results of Operations" appearing elsewhere in this Annual Report on Form 10-K. The consolidated statement of operations and the consolidated balance sheet data for the years ended and as of December 31, 2009, 2008, 2007, 2006 and 2005 are derived from our audited consolidated financial statements.

 
  Fiscal Year Ended December 31,  
 
  2009   2008   2007(a)   2006   2005  
 
  (In millions, except per share amounts)
 

Revenues

                               
 

Franchise revenues

  $ 372.2   $ 353.3   $ 205.8   $ 179.3   $ 167.4  
 

Company restaurant sales

    890.0     1,103.2     125.9     13.6     14.0  
 

Rental income

    133.9     131.4     132.4     132.1     131.6  
 

Financing revenues

    17.9     25.7     20.5     24.6     35.0  
                       
   

Total revenues

    1,414.0     1,613.6     484.6     349.6     348.0  
                       

Costs and expenses

                               
 

Franchise expenses

    102.3     96.2     88.1     83.1     78.8  
 

Company restaurant expenses

    766.5     978.2     117.4     15.6     15.1  
 

Rental expenses

    97.3     98.1     98.4     97.9     98.4  
 

Financing expenses

    0.4     7.3     1.3     4.3     12.3  
 

General and administrative expenses

    158.5     182.3     81.6     63.5     58.8  
 

Interest expense

    186.5     203.2     28.7     7.9     8.3  
 

Impairment and closure charges

    105.1     240.6     4.4         0.9  
 

Amortization of intangible assets

    12.3     12.1     1.1          
 

(Gain) loss on extinguishment of debt

    (45.7 )   (15.2 )   2.2          
 

Other (income) expense, net

    (5.8 )   (1.0 )   2.0     4.4     4.6  
 

Loss on derivative financial instrument

            62.1          
                       
   

Total costs and expenses

    1,377.4     1,801.8     487.3     276.7     277.2  
                       

Income (loss) before income taxes

    36.6     (188.2 )   (2.7 )   72.9     70.8  

Provision (benefit) for income taxes

    5.2     (33.7 )   (2.2 )   28.3     26.9  
                       

Net income (loss)

  $ 31.4   $ (154.5 ) $ (0.5 ) $ 44.6   $ 43.9  
                       

Net income (loss)

  $ 31.4   $ (154.5 ) $ (0.5 ) $ 44.6   $ 43.9  

Less: Series A Preferred stock dividends

    (19.5 )   (19.0 )   (1.5 )        

Less: Accretion of Series B Preferred stock

    (2.3 )   (2.1 )   (0.2 )        

Less: Net (income) loss allocated to unvested participating restricted stock

    (0.4 )   6.4              
                       

Net income (loss) available to common stockholders

  $ 9.2   $ (169.2 ) $ (2.2 ) $ 44.6   $ 43.9  
                       

Net income (loss) available to common stockholders per share:

                               
 

Basic

  $ 0.55   $ (10.09 ) $ (0.13 ) $ 2.46   $ 2.26  
                       
 

Diluted

  $ 0.55   $ (10.09 ) $ (0.13 ) $ 2.43   $ 2.24  
                       

Weighted average shares outstanding:

                               
 

Basic

    16.9     16.8     17.2     18.1     19.4  
                       
 

Diluted

    16.9     16.8     17.2     18.3     19.6  
                       

Dividends declared per common share(b)

      $ 1.00   $ 1.00   $ 1.00   $ 1.00  
                       

Dividends paid per common share(b)

      $ 1.00   $ 1.00   $ 1.00   $ 1.00  
                       

Balance Sheet Data (end of year)

                               
 

Cash and cash equivalents

  $ 82.3   $ 114.4   $ 26.8   $ 19.5   $ 23.1  
 

Restricted cash—short-term

    72.7     83.4     128.1          
 

Restricted cash—long-term

    48.2     53.4     58.0          
 

Property and equipment, net

    771.4     824.5     1,139.6     309.7     318.0  
 

Total assets

    3,100.9     3,361.2     3,831.2     766.3     770.2  
 

Long-term debt, net of current maturities

    1,637.2     1,853.4     2,263.9     94.5     114.2  
 

Financing obligations, net of current maturities

    309.4     318.7              
 

Capital lease obligations, net of current maturities

    152.8     161.3     168.2     170.4     172.7  
 

Stockholders' equity

    69.9     42.8     209.4     289.2     293.8  

(a)
We acquired Applebee's International, Inc. on November 29, 2007. The results of operations related to this acquisition have been included in our fiscal 2007 consolidated operating results since the date of the acquisition.

(b)
Effective December 11, 2008, the Company has suspended payments of dividends to common stockholders for the foreseeable future.

33


Table of Contents

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

Forward-Looking Statements

        The Private Securities Litigation Reform Act of 1995 provides a safe harbor for forward-looking statements in certain circumstances. This report contains statements that involve expectations, plans or intentions (such as those relating to future business or financial results, new features or services, or management strategies). These statements are forward-looking and are subject to risks and uncertainties, so actual results may vary materially from those expressed or implied by any forward-looking statements. You can identify these forward-looking statements by words such as "may," "will," "should," "expect," "anticipate," "believe," "estimate," "intend," "plan" and other similar expressions. You should consider our forward-looking statements in light of the risks discussed under the heading "Risk Factors" in Item 1A above as well as our consolidated financial statements, related notes and the other financial information appearing elsewhere in this report and our other filings with the Securities and Exchange Commission. We assume no obligation to update any forward-looking statements.

        You should read the following Management's Discussion and Analysis of Financial Condition and Results of Operations in conjunction with the consolidated financial statements and the related notes that appear elsewhere in this report.

The Company

        The Company was incorporated under the laws of the State of Delaware in 1976 with the name IHOP Corp. Effective June 2, 2008, the name of the Company was changed to DineEquity, Inc. (the "Company," "we" or "our"). The first International House of Pancakes ("IHOP") restaurant opened in 1958 in Toluca Lake, California. Shortly thereafter we began developing and franchising additional restaurants. In November 2007, we completed the acquisition of Applebee's International, Inc. ("Applebee's") which became a wholly-owned subsidiary of the Company. Through various IHOP and Applebee's subsidiaries (see Exhibit 21, Subsidiaries of DineEquity, Inc.) we own and operate two restaurant concepts in the casual dining and family dining categories of the food service industry: Applebee's Neighborhood Grill and Bar® and IHOP. DineEquity, Inc. is the parent of the IHOP and Applebee's subsidiaries. References herein to Applebee's and IHOP restaurants are to these two restaurant concepts, whether operated by franchisees or the Company. Sales of restaurants that are owned by franchisees and area licensees are not attributable to the Company. With more than 3,400 restaurants combined, we are the largest full-service restaurant company in the world.

Key Overall Strategies

        We are in the process of a three-to-five year effort to revitalize the Applebee's brand. In 2009, we accomplished the following under each key strategy:

34


Table of Contents

        We implemented numerous initiatives to improve the operations and profitability of Applebee's company operated restaurants, resulting in a 270 basis point profit margin improvement from the prior year. The improved margins resulted from introduction of labor deployment tools, food and beverage cost improvement initiatives and better control over other costs. The margin improvements were not at the expense of the guest as we achieved all-time high guest satisfaction scores.

        We also refined our franchisee operations rating system to provide greater visibility to our franchisees concerning their performance in relation to guest experience, food safety and training.

        The Company remains committed to our strategy to franchise a substantial majority of the 399 company-operated restaurants to buyers who are financially qualified, share our vision for revitalizing the Applebee's brand, are willing to invest in the business, and have well-qualified management teams. We have the financial flexibility to meet our obligations without additional refranchising transactions, so we will only pursue transactions that make economic sense. We anticipate it will take several years to be completed and will continue to focus on optimizing the performance of the business

        In a challenging economic environment and a highly competitive casual dining category, there can be no assurance that the strategies described above, when implemented, will achieve the intended results, including the franchising of the remaining Applebee's domestic company-operated restaurants, within the time frame described above.

        We pursue growth through a three-part strategic framework: (1) energize the IHOP brand; (2) improve operations performance; and (3) maximize franchise development.

        We seek to energize our brand by continuing our "Come Hungry. Leave Happy" advertising campaign. This message has successfully resonated with our guests for almost seven years and we expect to continue with this campaign in the future. In 2003, we also initiated the strategy of limited time offers on promotional products. Since that time, we have enhanced our execution of this promotional product approach by improving the appeal of these promotions and the franchisees' execution. In addition, we seek to enhance our media strategies to emphasize national advertising on broadcast, cable and syndicated television and strengthen our product promotion process. Over the last two years, we have shifted the allocation of our media spending towards national advertising. Due to this reallocation from local to national advertising, in 2009 we were able to provide continuous media support for all national initiatives, such as limited time offers, and secondary messages, such as IHOP for Dinner, Gift Cards and Kids Eat Free.

        We developed new prototype and remodel programs in 2004, which have become the standards for all development and remodel activity going forward. By the end of 2009, substantially all franchisees have completed their remodels under this program. We also launched our "IHOP 'n Go" takeout program in February 2007 and a successful gift card program in 2006 in order to ensure that we remain

35


Table of Contents


relevant with our customers and meet their changing dining patterns. In 2009, we expanded the scope of our gift card program by utilizing third-party retailers to market our gift cards.

        We will continue to improve the operations of the restaurants. During 2003, we established an IHOP franchisee grading system to evaluate the operational standards of each of our restaurant units. This franchisee grading system is a comprehensive scorecard that covers mystery shop scores, operational assessment scores and health department ratings, among other things. By December 31, 2009, 90% of all franchisees had received grades of "A" or "B" for their restaurants. In addition, we intend to continue focusing on making exceptional service a priority for franchisees by providing tools for improved restaurant execution, while highlighting our motto "service as good as our pancakes." Substantially all IHOP restaurants are using pollable point-of-sale ("POS") systems to capture and report a broad range of sales and product mix data. This information is used by management to, among other things, gauge guest acceptance of menu items and the success of promotions and limited time offers.

        Under the Current Business Model, IHOP seeks to maximize franchise development by emphasizing the recruitment of franchise developers within and outside the current system in order to grow its revenues. We have a strong existing franchisee base. Since 2003, more than 70% of new restaurants have been opened by pre-existing franchisees. This strategy has proven very successful as franchisees have developed approximately 350 units since the inception of the Current Business Model and we have a pipeline of 357 additional new units committed, optioned or pending. In addition, we may take steps to intervene, consolidate, and rehabilitate existing markets if we believe that doing so is advisable in order to fully realize development potential.

        In a challenging economic environment and a highly competitive family dining category, there can be no assurance that the strategies described above, when implemented, will achieve the intended results within the time frame anticipated.

Significant Known Events, Trends or Uncertainties Impacting or Expected to Impact Comparisons of Reported or Future Results

        During 2009, the recession that followed last year's global economic decline and financial market disruption continued to impact the U.S. economy and the economies of most countries worldwide. Consumers continue to be faced with general economic uncertainty fueled by difficult consumer credit markets, softness in both the commercial and residential real estate markets, high unemployment and lagging consumer confidence. While the financial market disruption of 2008 has abated, we believe financial market volatility, high unemployment, foreclosures and lower valuations for residential real estate will continue to put pressure on consumer spending. These conditions make it challenging for us to accurately forecast and plan for future business activities as the reduction in disposable income for discretionary spending could cause our customers to change historic purchasing behavior and choose lower-cost dining options or alternatives to dining out.

        This economic uncertainty may affect our business and operations in a number of ways, including but not limited to:

36


Table of Contents

        We cannot predict the effect or duration of this economic slowdown or the timing and strength of a subsequent recovery in the economy in general or the restaurant industry in particular. If our business significantly deteriorates due to these macroeconomic effects, our financial condition and results of operations will likely be materially and adversely affected.

        Our fiscal year ends on the Sunday nearest to December 31 of each year. As a result, every five or six years our fiscal year contains 53 calendar weeks. Fiscal 2009 contained 53 weeks whereas fiscal 2008 and 2007 each contained 52 weeks. The estimated impact of the 53rd week in fiscal 2009 in comparison to fiscal 2008 was an increase in revenue of $29.2 million, an increase in segment profit of $13.5 million and an increase in income before income taxes of $10.9 million. While certain expenses increased in direct relationship to additional revenue from the 53rd week, other costs (for example, depreciation and other fixed costs) are incurred on a calendar month basis. Therefore, the impact of the additional week is not necessarily indicative of a typical relationship of expenses to revenues measured over a longer period of comparison, such as a fiscal month or a fiscal quarter.

        Certain of our subsidiaries incurred a substantial amount of indebtedness to finance the Applebee's acquisition. Because of early retirement of debt and a decline in variable interest rates, our interest expense decreased $16.7 million from the prior year. While it is not likely interest rates on our variable-rate debt will continue to decline significantly below current levels and may, in fact, increase in the future, we will amortize debt in the normal course of business and we intend to use excess operating cash flow to repurchase debt when the opportunity is available. As a result we expect our total interest expense will decline. We estimate our interest expense for fiscal 2010 will range from $175 million to $180 million, which includes $40 million of non-cash interest charges. However, interest expense is expected to remain as one of the largest components of costs and expenses in the future until such time that debt balances are repaid.

37


Table of Contents

        There were several significant gains and charges that affect the comparisons of fiscal year 2009 results with previously reported periods, as presented in the following table:

 
  Year ended December 31,  
 
  2009   2008   2007  
 
  (In millions)
 

Impairment and closure charges

  $ 105.1   $ 240.6   $ 4.4  

(Gain) loss on extinguishment of debt

    (45.7 )   (15.2 )   2.2  

(Gain) loss on disposition of assets

    (6.9 )   0.3     (0.1 )

Loss on derivative financial instrument

            62.1  

        Each transaction is discussed in further detail under paragraphs captioned with those descriptions elsewhere in Item 7. Given the uncertainty as to the achievement of the forecasts used in assessing possible impairment of tangible and intangible assets, it is reasonably possible that impairment charges may occur in future periods. While the fair value of our debt is currently less than its carrying value (see Note 12 of Notes to the Consolidated Financial Statements), the difference between fair value and carrying value has decreased considerably over the past year. Therefore, while we expect to continue to dedicate a portion of excess cash flow towards opportunistic debt retirement, it is likely that gains on future extinguishments of debt will be smaller than those recognized in 2009 and 2008, if they occur at all.

        We have franchised 110 Applebee's company-operated restaurants since the second quarter of 2008 and are planning to franchise a significant majority of the remaining 399 company-operated Applebee's over the next several years. As the number of company-operated restaurants declines, the amount of Company restaurant revenues and Company restaurant expenses in future periods will decline significantly compared to amounts reported in previous periods. Franchise royalty revenues and expenses will likely increase as company-operated restaurants are franchised, although not in the same magnitude as the Company restaurant revenues decline as franchise royalties are based on a percentage of the franchisee's revenues. Additionally, under terms of the securitized debt agreements, all of the proceeds from asset sales must be used to retire long-term debt (at face value), which would result in a decrease in interest expense in the future.

Restaurant Data

        The following table sets forth, for each of the past three years, the number of effective restaurants in the Applebee's and IHOP systems and information regarding the percentage change in sales at those restaurants compared to the same period in the prior year. Applebee's information for 2007 is comprised of data from the 11-month period prior to the acquisition date of November 29, 2007 and one month of Applebee's data subsequent to the acquisition date ("Pro Forma 2007"). "Effective restaurants" are the number of restaurants in a given period, adjusted to account for restaurants open for only a portion of the period. Information is presented for all effective restaurants in the Applebee's and IHOP systems, which includes restaurants owned by the Company, as well as those owned by franchisees and area licensees. Sales of restaurants that are owned by franchisees and area licensees are not attributable to the Company. However, we believe that presentation of this information is useful in analyzing our revenues because franchisees and area licensees pay us royalties and advertising fees that are generally based on a percentage of their sales, as well as, in some cases, rental payments under leases that are usually based on a percentage of their sales. Management also uses this information to

38


Table of Contents


make decisions about future plans for the development of additional restaurants as well as evaluation of current operations.

 
  Year Ended December 31,  
 
  2009   2008   2007  
 
   
   
  (Pro Forma)
 

Applebee's Restaurant Data

                   

Effective restaurants(a)

                   
 

Franchise

    1,595     1,504     1,429  
 

Company

    401     486     513  
               
   

Total

    1,996     1,990     1,942  
               

System-wide(b)

                   
 

Domestic sales percentage change(c)(i)

    (2.1 )%   (0.4 )%   (0.2 )%
 

Domestic same-store sales percentage change(d)(i)

    (4.5 )%   (2.2 )%   (2.1 )%

Franchise(b)(e)

                   
 

Domestic sales percentage change(c)(g)(i)

    3.6 %   1.6 %   0.1 %
 

Domestic same-store sales percentage change(d)(i)

    (4.4 )%   (2.4 )%   (2.0 )%
 

Domestic average weekly unit sales (in thousands)

  $ 45.3   $ 47.2   $ 48.2  

Company

                   
 

Domestic sales percentage change(c)(g)(i)

    (19.7 )%   (6.1 )%   (0.9 )%
 

Domestic same-store sales percentage(d)(i)

    (4.8 )%   (1.3 )%   (2.2 )%
 

Domestic average weekly unit sales (in thousands)

  $ 41.1   $ 43.1   $ 43.9  

 

 
  Year Ended December 31,  
 
  2009   2008   2007  

IHOP Restaurant Data

                   

Effective restaurants(a)

                   
 

Franchise

    1,245     1,189     1,144  
 

Company

    11     10     12  
 

Area license

    161     158     158  
               
   

Total

    1,417     1,357     1,314  
               

System-wide(b)

                   
 

Sales percentage change(c)

    5.6 %   5.5 %   6.9 %
 

Domestic same-store sales percentage change(d)

    (0.8 )%   1.5 %   2.2 %

Franchise(b)(e)

                   
 

Sales percentage change(c)

    6.3 %   5.9 %   7.1 %
 

Same-store sales percentage change(d)

    (0.8 )%   1.5 %   2.2 %
 

Average weekly unit sales (in thousands)

  $ 35.1   $ 35.2   $ 34.6  

Company(f)

    n.m.     n.m.     n.m.  

Area License(h)

                   
 

IHOP sales percentage change(c)

    (1.6 )%   3.1 %   4.2 %

(a)
"Effective restaurants" are the number of restaurants in a given fiscal period adjusted to account for restaurants open for only a portion of the period. Information is presented for all effective restaurants in the Applebee's and IHOP systems, which includes restaurants owned by the Company as well as those owned by franchisees and area licensees.

(b)
"System-wide sales" are retail sales of Applebee's and IHOP restaurants operated by franchisees and IHOP restaurants operated by area licensees as reported to the Company, in addition to retail

39


Table of Contents

(c)
"Sales percentage change" reflects, for each category of restaurants, the percentage change in sales in any given fiscal year compared to the prior fiscal year for all restaurants in that category. The fiscal year ended December 31, 2009 contained 53 weeks. The fiscal years ended December 31, 2008 and 2007 each contained 52 weeks.

(d)
"Same-store sales percentage change" reflects the percentage change in sales, in any given fiscal year compared to the prior fiscal year, for restaurants that have been operated throughout both fiscal periods that are being compared and have been open for at least 18 months. Because of new unit openings and store closures, the restaurants open throughout both fiscal periods being compared will be different from period to period. Same-store sales percentage change does not include data on IHOP restaurants located in Florida.

(e)
Applebee's domestic franchise restaurant sales were $3.5 billion, $3.4 billion and $3.3 billion in the fiscal years ended December 31, 2009, 2008, and 2007, respectively. Domestic franchise sales for Applebee's restaurants in the 2007 period subsequent to the acquisition date were $319.5 million. IHOP franchise restaurant sales were $2.3 billion, $2.2 billion and $2.1 billion for the fiscal years ended December 31, 2009, 2008 and 2007, respectively.

(f)
Sales percentage change and same-store sales percentage change for IHOP company-operated restaurants are not meaningful due to the relatively small number and test-market nature of the restaurants, along with the periodic inclusion of restaurants reacquired from franchisees that are temporarily operated by the Company.

(g)
The sales percentage change for Applebee's franchise and company-operated restaurants is impacted by the franchising of 103 company-operated restaurants during 2008 and seven company-operated restaurants in 2009.

(h)
IHOP area license restaurants are located in Florida and Georgia in the U.S and in British Columbia, Canada. Sales at IHOP area license restaurants were $214.9 million, $218.4 million and $211.9 million for the fiscal years ended December 31, 2009, 2008 and 2007, respectively.

(i)
We acquired Applebee's on November 29, 2007. The change in domestic system store sales was (3.1)% and (4.8)%, respectively, for the five-week period in the 2007 period subsequent to the acquisition date. The change in domestic franchise restaurant store sales and same-store sales, as reported to the Company, was (2.4)% and (5.0)%, respectively, for the five-week period in the 2007 period subsequent to the acquisition date. The change in Applebee's store sales and same-store sales was (5.1)% and (4.5)%, respectively, for the five-week period in the 2007 period subsequent to the acquisition date.

40


Table of Contents

        The following tables summarize Applebee's and IHOP restaurant development and franchising activity. Applebee's information for 2007 is comprised of data from the 11-month period prior to the acquisition date, November 29, 2007, and one month of Applebee's data subsequent to the acquisition date ("Pro Forma 2007"), with 2006 and 2005 information representing data derived from Applebee's prior to the acquisition date ("Predecessor Applebee's").

 
  Year Ended December 31,  
 
  2009   2008   2007   2006   2005  
 
   
   
  (Pro
forma)

  (Predecessor
Applebee's)

 

Applebee's Restaurant Development Activity

                               

Total restaurants, beginning of year

    2,004     1,976     1,930     1,804     1,671  
 

New openings

                               
   

Company-developed

        1     14     35     52  
   

Franchise-developed

    33     48     66     108     92  
                       
     

Total new openings

    33     49     80     143     144  
 

Closings

                               
   

Company

        (3 )   (24 )   (4 )   (1 )
   

Franchise

    (29 )   (18 )   (10 )   (13 )   (10 )
                       
     

Total closings

    (29 )   (21 )   (34 )   (17 )   (11 )
                       

Total restaurants, end of year

    2,008     2,004     1,976     1,930     1,804  
                       

Summary—end of year

                               
 

Franchise

    1,609     1,598     1,465     1,409     1,318  
 

Company

    399     406     511     521     486  
                       
     

Total

    2,008     2,004     1,976     1,930     1,804  
                       

Applebee's Franchise Restaurant Activity

                               

Domestic franchise-developed

    18     28     44     90     78  

International franchise-developed

    15     20     22     18     14  

Refranchised

    7     103              
                       
     

Total restaurant franchised

    40     151     66     108     92  

Closings

                               
 

Domestic franchise

    (25 )   (15 )   (10 )   (12 )   (10 )
 

International franchise

    (4 )   (3 )       (1 )    
                       
       

Total franchise closings

    (29 )   (18 )   (10 )   (13 )   (10 )

Reacquired by the Company

                (4 )   (11 )
                       
 

Net franchise restaurant additions

    11     133     56     91     71  
                       

        The increase in Applebee's franchise closings in 2009 was due primarily to the closing of seven restaurants after the franchise agreements were terminated due to nonpayment of royalties and advertising fees. One of the seven restaurants re-opened under new ownership in 2009, and the Company expects two additional restaurants to re-open under new ownership in 2010. Another reason

41


Table of Contents


for the increase was that six of the restaurants closed in 2009 were originally planned to be closed in 2008.

 
  Year Ended December 31,  
 
  2009   2008   2007   2006   2005  

IHOP Restaurant Development Activity

                               

Total restaurants, beginning of year

    1,396     1,344     1,302     1,242     1,186  
 

New openings

                               
   

Company-developed

    1     1         4     4  
   

Franchise-developed

    69     65     59     57     58  
   

Area license

    6     5     1     8     5  
                       
     

Total new openings

    76     71     60     69     67  
 

Closings

                               
   

Company

        (1 )   (2 )       (1 )
   

Franchise

    (14 )   (16 )   (12 )   (8 )   (10 )
   

Area license

    (2 )   (2 )   (4 )   (1 )    
                       
     

Total closings

    (16 )   (19 )   (18 )   (9 )   (11 )
                       

Total restaurants, end of year

    1,456     1,396     1,344     1,302     1,242  
                       

Summary—end of year

                               
 

Franchise

    1,279     1,225     1,176     1,132     1,082  
 

Company

    13     11     11     10     7  
 

Area license

    164     160     157     160     153  
                       
     

Total

    1,456     1,396     1,344     1,302     1,242  
                       

IHOP Franchise Restaurant Activity

                               

Company-developed

                    3  

Domestic franchise-developed

    62     62     57     57     58  

International franchise-developed

    7     3     2          

Rehabilitated and refranchised

    2     13     4     9     26  
                       
     

Total restaurants franchised

    71     78     63     66     87  

Closings

                               
 

Domestic franchise

    (14 )   (15 )   (12 )   (8 )   (10 )
 

International franchise

        (1 )            
                       
     

Total franchise closings

    (14 )   (16 )   (12 )   (8 )   (10 )

Reacquired by the Company

    (3 )   (13 )   (7 )   (8 )   (23 )
                       
 

Net franchise restaurant additions

    54     49     44     50     54  
                       

Comparison of the fiscal years ended December 31, 2009 and 2008

Overview

        Our 2009 financial results were significantly impacted by (i) impairment charges related to intangible and long-lived assets; (ii) gains on the opportunistic early retirement of debt with excess cash flow; (iii) reductions of general and administrative and interest expenses; (iv) a 53rd calendar week included in fiscal 2009; and (v) the franchising of 110 Applebee's company-operated restaurants since the second quarter of 2008. In comparing the Company's financial results for 2009 to those of 2008, we note:

42


Table of Contents

Franchise operations

  $ 12.9  

Company restaurant operations

    (1.5 )

Rental operations

    3.3  

Financing operations

    (0.9 )
       

Total segment profit

  $ 13.8  
       

Franchise Operations

 
  2009   2008   Favorable
(Unfavorable)
Variance
  %
Change
 
 
  (In millions)
   
 

Franchise revenues

                         
 

Applebee's

  $ 154.0   $ 148.4   $ 5.6     3.8 %
 

IHOP

    218.2     204.9     13.3     6.5 %
                     

Total franchise revenues

    372.2     353.3     18.9     5.3 %
                     

Franchise expenses

                         
 

Applebee's

    4.9     4.1     (0.8 )   19.2 %
 

IHOP

    97.3     92.1     (5.2 )   5.7 %
                     

Total franchise expenses

    102.2     96.2     (6.0 )   6.2 %
                     

Franchise segment profit

                         
 

Applebee's

    149.1     144.3     4.8     3.3 %
 

IHOP

    120.9     112.8     8.1     7.1 %
                     

Total franchise segment profit

  $ 270.0   $ 257.1   $ 12.9     5.0 %
                     

Segment profit as % of revenue

    72.5 %   72.8 %            
                       

43


Table of Contents

        The increase in Applebee's franchise revenues was primarily attributable to higher royalties due to an increase in effective franchise restaurants of 91 units, the impact of a 53rd week of operations in 2009 and revenues from temporary liquor license agreements related to Applebee's company-operated restaurants in the Texas market that were franchised in October 2008, partially offset by a 4.4% decline in domestic same-store sales and a decline in franchise fees. The increase in effective restaurants was due to the franchising of 110 company-operated restaurants since the second quarter of 2008 while the decrease in franchise fees was due to fewer net franchise openings in 2009.

        The increase in IHOP franchise revenue was primarily attributable to growth in effective franchise and area license restaurants of 59 units and the 53rd week of operations that impacted revenues from royalties, pancake and waffle dry mix sales and franchise advertising fees, partially offset by a decrease of 0.8% in same-store sales for IHOP franchise restaurants. Same-store sales declined as a higher average guest check was offset by a decline in guest traffic. The Company believes that the decline experienced in comparable guest traffic is reflective of the current adverse economic conditions affecting customers and impacting the restaurant industry as a whole.

        The increase in IHOP franchise expenses is due to the costs of sales associated with the increased revenues from pancake and waffle dry mix sales and franchise advertising fees. Applebee's franchise expenses are relatively smaller than IHOP's due to advertising expenses. Franchise fees designated for IHOP's national advertising fund and local marketing and advertising cooperatives are recognized as revenue and expense of franchise operations; however, Applebee's national advertising fund and local advertising cooperatives constitute agency transactions and therefore are not recognized as franchise revenue and expense.

        The 53rd week contributed additional franchise segment profit of approximately $5.9 million in 2009.

Company Restaurant Operations

 
  2009   2008   Favorable
(Unfavorable)
Variance
  %
Change
 
 
  (In millions)
   
 

Company restaurant sales

  $ 890.0   $ 1,103.2   $ (213.2 )   19.3 %

Company restaurant expenses

    766.5     978.2     211.7     21.6 %
                     

Company restaurant segment profit

  $ 123.5   $ 125.0   $ (1.5 )   1.2 %
                     

Segment profit as % of revenue

    13.9 %   11.3 %            
                       

        As of December 31, 2009, Company restaurant operations were comprised of 399 Applebee's company-operated restaurants and 13 IHOP company-operated restaurants. The impact of the IHOP restaurants on all comparisons of fiscal 2009 with the same period of 2008 was negligible.

        Company restaurant sales declined $213.2 million. Applebee's company restaurant sales declined $213.8 million, of which $192.1 million was due to the franchising of 110 restaurants since the second quarter of 2008 and the full-year impact of three restaurant closures in 2008, in addition to a decrease in domestic same-store sales of 4.8%, partially offset by an increase of $19.7 million due to the 53rd week. The change in same-store sales was driven mainly by a decline in guest traffic that was partially offset by a slightly higher average guest check. An increase of 2.7% in effective pricing was substantially offset by an unfavorable mix shift due to promotional campaigns and customer selection of, on average, lower-priced menu items. The Company believes that the decline in comparable guest traffic is reflective of the current adverse economic conditions affecting customers and impacting the restaurant industry as a whole.

44


Table of Contents

        Company restaurant expenses declined $211.7 million. Applebee's company restaurant expenses declined $212.5 million, of which $169.6 million was due to the franchising of 110 restaurants since the second quarter of 2008, and declined $25.6 million due to the decrease in same-store sales. The operating margin for Applebee's company restaurant operations improved to 14.4% for 2009 from 11.7% for the same period of last year, as shown below:

Restaurant Expenses as Percentage of Restaurant Sales (Applebee's)
  2009   2008   Favorable
(Unfavorable)
Variance
 

Food and beverage

    26.2 %   26.9 %   0.7 %

Labor

    33.3 %   34.8 %   1.5 %

Direct and occupancy

    26.1 %   26.7 %   0.6 %
               

Total Company restaurant expenses(a)

    85.6 %   88.3 %   2.7 %
               

(a)
Percentages may not add due to rounding.

        Margins across all cost categories were favorably affected by three factors: (a) effective pricing increases partially offset by an unfavorable mix shift (b) the franchising of company-operated restaurants which, as a group, operated at margins less than the average of the remaining company-operated restaurants and (c) the impact of the 53rd week. Improvements in specific cost categories were as follows:

        The 53rd week contributed additional company restaurant segment profit of approximately $4.9 million for Applebee's in 2009.

Rental Operations

 
  2009   2008   Favorable
(Unfavorable)
Variance
  %
Change
 
 
  (In millions)
   
 

Rental revenues

  $ 133.9   $ 131.4   $ 2.5     1.9 %

Rental expenses

    97.3     98.1     0.8     0.8 %
                     

Rental operations segment profit

  $ 36.6   $ 33.3   $ 3.3     9.8 %
                     

Segment profit as % of revenue

    27.3 %   25.3 %            
                       

        Rental operations relate primarily to IHOP restaurants. Rental income includes revenue from operating leases and interest income from direct financing leases. Rental expenses are costs of prime operating leases and interest expense on prime capital leases on franchisee-operated restaurants.

        Rental segment profit increased by $3.3 million. Of that increase, $2.4 million was due to the 53rd week in 2009, in addition to a slight decline in depreciation and interest expense.

45


Table of Contents

Financing Operations

 
  2009   2008   Favorable
(Unfavorable)
Variance
  %
Change
 
 
  (In millions)
   
 

Financing revenues

  $ 17.9   $ 25.7   $ (7.8 )   30.4 %

Financing expenses

    0.4     7.3     6.9     94.9 %
                     

Financing operations segment profit

  $ 17.5   $ 18.4   $ (0.9 )   4.8 %
                     

Segment profit as % of revenue

    97.9 %   71.6 %            
                       

        All of our financing operations relate to IHOP restaurants. Both revenues and expenses declined as there was minimal revenue or expense related to the rehabilitation and refranchising of one restaurant during 2009 as compared with revenues and expenses of $8.1 million and $7.3 million, respectively, in 2008 related to the rehabilitation and refranchising of 14 restaurants. Additionally, franchise and equipment note interest declined due to the expected reduction in note balances, partially offset by a 53rd week of revenue in 2009.

        The 53rd week contributed additional financing segment profit of approximately $0.3 million in 2009.

Other Expense and Income Components

 
  2009   2008   Favorable
(Unfavorable)
Variance
  % Change  
 
  (In millions)
   
 

General and administrative expenses

  $ 158.5   $ 182.3   $ 23.8     13.0 %

Interest expense

    186.5     203.2     16.7     8.2 %

Impairment and closure charges

    105.1     240.6     135.5     56.3 %

Amortization of intangible assets

    12.3     12.1     (0.2 )   1.4 %

Gain on extinguishment of debt

    (45.7 )   (15.2 )   30.5     200.7 %

(Gain) loss on disposition of assets

    (6.9 )   0.3     7.2     n.m.  

Other expense (income)

    1.3     (1.2 )   (2.5 )   207.0 %

Income tax provision (benefit)

    5.2     (33.7 )   (38.9 )   115.4 %

n.m.—percentage change not meaningful

        General and administrative expenses declined $23.7 million, primarily as the result of savings related to franchising of Applebee's company-operated restaurants, integration of Applebee's and IHOP administrative functions, other cost reduction initiatives and lower stock-based compensation expense. Additionally, transition-related costs recorded in 2008 did not recur. These favorable items were partially offset by $3.0 million of development incentive credits related to the Applebee's support center in 2008 that also did not recur in 2009 and higher litigation expenses.

        The $16.7 million decrease in interest expense is primarily due to the retirement of long-term debt over the past 12 months and, to a lesser extent, to lower interest rates on variable-rate debt. Average long-term obligations (long-term debt, capital lease obligations and financing obligations) declined

46


Table of Contents

$0.15 billion to $2.25 billion for 2009 from $2.40 billion during 2008. Additionally, the weighted average interest rate on variable rate debt was approximately 2.5% for 2009 compared to 4.7% for 2008.

        Impairment and closure charges for the years ended December 31, 2009 and 2008 were as follows:

 
  Year Ended
December 31,
 
 
  2009   2008  
 
  (In millions)
 
 

Goodwill impairment

  $   $ 124.8  
 

Tradename impairment

    93.5     44.1  
 

Long-lived tangible asset impairment

    10.4     71.4  
 

Closure charges

    1.2     0.3  
           

Total impairment and closure charges

  $ 105.1   $ 240.6  
           

        In accordance with U.S GAAP, goodwill must be evaluated for impairment, at a minimum, on an annual basis, and more frequently if the Company believes indicators of impairment exist. Such indicators include, but are not limited to, events or circumstances such as a significant adverse change in the business climate, unanticipated competition, a loss of key personnel, adverse legal or regulatory developments, or a significant decline in the market price of the Company's common stock. In the process of the annual impairment review, we primarily use the income approach method of valuation that uses a discounted cash flow model to estimate the fair value of reporting units. Significant assumptions used in the discounted cash flow model include future trends in sales, operating expenses, overhead expenses, depreciation, capital expenditures, and changes in working capital, along with an appropriate discount rate. During the course of fiscal 2009, we made periodic assessments as to whether there were indicators of impairment, particularly with respect to the significant assumptions underlying the discounted cash flow model, and determined an interim test of goodwill was not warranted. Accordingly, we performed the annual test of goodwill impairment in the fourth quarter of 2009. In performing the test, the Company revised downwards the same-store sales change assumption in its five-year forecast that had been used in the prior year. The Company also revised downward the assumed discount rate. In performing the first step of the impairment test, the estimated fair value of both the IHOP and Applebee's franchised restaurant units exceeded their respective carrying values and it was concluded there was no impairment of goodwill. The goodwill that had been allocated to the Applebee's company-operated restaurants unit was fully impaired in 2008.

        A significant majority of our goodwill arose from the November 29, 2007 acquisition of Applebee's; $10.8 million of goodwill resulted from a prior transaction related to the IHOP franchised restaurants unit. We allocated the goodwill from the acquisition to two reporting units, the Applebee's company-operated restaurants unit (the "Company unit") and the Applebee's franchised restaurants unit ("Applebee's franchise unit"). Consistent with our intent to franchise the significant majority of the company-operated Applebee's restaurants acquired, we determined the fair value of the Company unit for purposes of assigning goodwill to be the estimated sales value of the restaurants, the value that a market participant would have paid to purchase the restaurants on the day following the acquisition. The fair value of the Company unit was based on a multiple of approximately six times the operating cash flow for the trailing twelve months of the Company unit. This multiple was supported by actual refranchising transactions negotiated within a month after the acquisition. The fair value of the franchise unit was determined using a discounted cash flow based on forecast royalty revenues from the franchise operations. These fair values, which reconciled to the overall purchase price paid to acquire

47


Table of Contents


Applebee's, were then used to assign goodwill between the reporting units as the excess of the estimated fair value over the carrying value (as of November 29, 2007) of each reporting unit.

        During the course of fiscal 2008, we made periodic assessments as to whether there were indicators of impairment, particularly with respect to the significant assumptions underlying the discounted cash flow model. Those assessments included consideration of the uncertainty with respect to the depth and duration of the economic slowdown and the timing of a recovery, and the fact that the Company was in the process of implementing several initiatives designed to improve Applebee's same-store-sales and margin performance. These assessments concluded that the sales forecasts being used to assess potential impairment were achievable within ranges that did not indicate impairment. We therefore determined an interim test of goodwill during the first three quarters of 2008 was not warranted.

        In the fourth quarter of 2008, we performed the annual test for impairment of goodwill, utilizing a discounted cash flows model of the income approach as described above. The impairment test of goodwill of the two Applebee's units was performed as of October 31, 2008. The impairment test of the goodwill of the IHOP unit was performed as of December 31, 2008, the date as of which the analysis has been performed in prior years. Towards the latter part of 2008, while there was still considerable uncertainty with respect to the economic slowdown, the prevailing view was that a recovery was not likely to begin until the latter half of 2009 or early 2010. Therefore, during the fourth quarter of 2008, we revised downward our forecasted sales assumption for 2009 which also impacted the assumed cash flows for both 2009 and the following 2010-2013 time period due to an assumed lower base from which the 2010-2013 time period had originally been projected. We also revised our projections with respect to both the estimated timing and estimated proceeds to be received from the franchising of Applebee's company-operated restaurants.

        The first step of the impairment test compared the fair value of each of our reporting units to their carrying value. Based on this first step, we concluded that the fair value of the IHOP unit and the Applebee's franchise unit was in excess of their respective net carrying values and no impairment of goodwill was warranted. However, because of downward revisions to the 2009-2013 sales forecast and to franchising proceeds, the fair value of the Applebee's company unit was less than the net carrying value of its assets assigned, requiring the second step of the impairment test. In performing the second step of the impairment test we concluded that the goodwill allocated to the Applebee's company unit was fully impaired and an impairment charge of $113.5 million was recorded. No tax benefit was associated with the impairment of goodwill.

        Subsequent to the annual test of impairment as of October 31, 2008, the commercial real estate market continued to weaken, the credit markets continued constrained, economic forecasts were uncertain as to how long the recessionary period would last, and the company's stock price declined. We concluded an interim test of goodwill of the Applebee's franchise unit was warranted. We again revised the significant assumptions underlying the discounted cash flow model and updated our impairment analysis of the Applebee's franchise unit as of December 31, 2008. The Company determined the fair value of the Applebee's franchise unit was still in excess of its carrying value as of December 31, 2008 and no impairment was required.

        In accordance with U.S. GAAP, indefinite-lived intangible assets must be evaluated for impairment, at a minimum, on an annual basis, and more frequently if the Company believes indicators of impairment exist. Such indicators include, but are not limited to, events or circumstances such as a significant adverse change in the business climate, unanticipated competition, a loss of key personnel, adverse legal or regulatory developments, or a significant decline in the market price of the Company's common stock. In performing the impairment review of the tradename intangible asset, the Company

48


Table of Contents

primarily uses the relief of royalty method under the income approach method of valuation. Significant assumptions used to determine fair value under the relief of royalty method include future trends in sales, a royalty rate and a discount rate to be applied to the forecast revenue stream. During the course of fiscal 2009, the Company made periodic assessments as to whether there were indicators of impairment, particularly with respect to the significant assumptions noted above. In the first half of the year, same-store sales trends were within the range of the forecast used in the assessment. During the third quarter of 2009, same-store sales trended below the forecast range; however, during 2009 there were also indications that a lessening of underlying risk might result in a lower discount rate as well. As a result of these assessments, the Company determined an interim test of indefinite-lived intangibles was not necessary.

        During the fourth quarter of 2009, the Company performed the annual test of impairment for indefinite-lived intangibles, primarily the Applebee's tradename assigned in the purchase price allocation. The Company revised downwards two key assumptions in its five-year forecast: the same-store sales change and the assumed discount rate. All other assumptions used in the relief from royalty calculation were unchanged from the prior year. As the result of the revised assumptions, the estimated fair value of the tradename was less than the carrying value and an impairment of $93.5 million was recognized, along with a related tax benefit of $37.2 million.

        During the fourth quarter of 2008, the Company performed an impairment test of its indefinite-lived intangible assets, primarily the Applebee's tradename assigned in the purchase price allocation. We utilized the relief from royalty method under the income approach to determine the fair value of the tradename. We determined the fair value of the tradename as of December 31, 2008 was less than the carrying value. An impairment charge of $44.1 million was recorded with a tax benefit of $17.3 million associated with the charge.

        On a quarterly basis, the Company assesses whether events or changes in circumstances have occurred that potentially indicate the carrying value of tangible long-lived assets may not be recoverable. Recoverability of a restaurant's assets is measured by comparing the assets' carrying value to the undiscounted future cash flows expected to be generated over the assets' remaining useful life or remaining lease term, whichever is less. If the total expected undiscounted future cash flows are less than the carrying amount of the assets, this may be an indicator of impairment. If it is decided that there has been an impairment, the carrying amount of the asset is written down to the estimated fair value. The fair value is determined by discounting the future cash flows based on our cost of capital.

        In performing these assessments throughout 2009, the Company recognized impairments of long-lived tangible assets of $10.4 million. The impaired assets comprised three IHOP company-operated restaurants, various assets related to one IHOP franchise restaurant, one Applebee's company-operated restaurant, a write-down to the estimated sales value based on a current letter of intent of one Applebee's restaurant that had been closed in a prior period and included in assets held for sale as of December 31, 2008 and four parcels of Applebee's real estate. The Company had fee ownership of the properties on which four Applebee's company-operated restaurants were located. These restaurants were franchised in the fourth quarter of 2008 but the Company retained ownership of the land and continued to lease the property to the franchisee. The Company's strategy does not contemplate retaining such properties as a lessor on a long-term basis. During the third quarter of 2009, the Company determined the properties met the requirements under U.S. GAAP to be reclassified as assets held for sale. The properties were written down to the estimated fair value that will be received upon sale. The Company evaluated the causal factors of all impairments of long-lived assets as they were recorded during 2009 and concluded they were based on factors specific to each asset and were not potential indicators of an impairment of goodwill, indefinite-lived intangible assets or other long-lived assets. Closure costs of $1.2 million related to two IHOP franchise restaurants.

49


Table of Contents

        In June 2008, the Company entered into a sale-leaseback transaction relating to 181 parcels of real estate comprising land, buildings and improvements. The net book value of the real estate exceeded the proceeds received by $40.6 million. All of the parcels involved in the transactions had been acquired in the November 29, 2007 acquisition of Applebee's and their estimated fair value was assigned as part of the purchase price allocation as of that date. The Company evaluated events subsequent to November 29, 2007 and noted a deterioration in both the domestic real estate and credit markets between the date of the purchase price allocation and the June 2008 closing date of the sale-leaseback transactions. In the absence of objective evidence to the contrary, the Company concluded that the estimated fair value of the real estate determined in the purchase price allocation had been reasonable, and the decline in value related primarily to market events subsequent to the acquisition date necessitating an impairment charge as opposed to an adjustment to the allocated purchase price.

        The Company evaluated whether this charge, in addition to other macroeconomic data and the decline in the market price of the Company's common stock, were indicators of potential impairment of its goodwill, intangible assets and long-lived assets. The Company concluded that they were not indicators, because (i) the impairment charge was related to a specific transaction that resulted in the disposal of the majority of the Company's real estate; (ii) Applebee's June 30, 2008 year-to-date same-store sales for company-operated stores had increased slightly compared with the same period of the prior year; (iii) while directionally the U.S. economy was slowing down, there was considerable uncertainty as to the depth and duration of the slowdown, such that the Company believed its internal forecasts of same-store sales growth were achievable; and (iv) the Company's net book value was in excess of its market capitalization throughout the period up to and including the date of filing its Form 10-Q for the Quarterly Period ending June 30, 2008.

        As part of the ongoing assessment of the recoverability of its long-lived assets, the Company recorded impairment charges of $28.3 million for the three-month period ended September 30, 2008. Of that amount, $26.8 million related to Applebee's properties and primarily resulted from a continuing deterioration in credit markets in general and a decline in operating results of Applebee's company-operated restaurants expected to be franchised in particular geographic areas. The remainder of the impairment related to an individual underperforming IHOP property whose estimates of future cash flows indicated that the carrying value would not be recovered.

        The Company again evaluated whether the impairment charges taken in the third quarter of 2008, in addition to other macroeconomic data and the decline in the market price of the Company's common stock, were an indicator of potential impairment of its goodwill, intangible assets and long-lived assets. The Company concluded that they were not an indicator, because (i) the impairments were related to specific transactions in three geographic markets characterized as having a larger proportion of underperforming restaurants than the other geographic markets in which the remaining company-operated restaurants are located; (ii) while Applebee's year-to-date September 30, 2008 same-store sales for company-operated stores had decreased slightly compared with the same period of the prior year, the Company was in the process of implementing several initiatives designed to improve the same-store sales and did not believe there had been enough time to adequately assess the effectiveness of those initiatives; (iii) while economic data confirmed that the U.S. economy had been recessionary since December of 2007, there was still considerable uncertainty as to the depth and duration of the slowdown, and although Applebee's year-to-date same-store sales were lower than the prior period, Applebee's decline had been less than its competitors, such that the Company believed its internal forecasts of same-store sales growth were achievable; and (iv) the Company's net book value was in excess of its market capitalization throughout the third quarter ended September 30, 2008, and while the market capitalization did decline below the Company's net book value subsequent to September 30, 2008, by the October 31, 2008 date of filing its Form 10-Q for the Quarterly Period ending September 30, 2008, the Company's net book value was in excess of its market capitalization.

50


Table of Contents

        During 2009 and 2008, we recognized the following gains on the early retirement of debt:

Transaction Date
  Instrument   Face Amount
Retired
  Cash Paid   Gain(1)  
 
   
  (In millions)
 
March, 2009   Class A-2-II-X   $ 78.4   $ 49.0   $ 26.4  
May, 2009   Class A-2-II-A     35.2     24.3     9.6  
June, 2009   Class A-2-II-X     15.6     12.1     2.8  
November, 2009   Class A-2-II-X     53.4     46.5     5.3  
December, 2009   Class A-2-II-X     17.0     15.0     1.6  
                   
    Total 2009   $ 199.6   $ 146.9   $ 45.7  
                   
August, 2008   Class A-2-II-X   $ 23.5   $ 20.0   $ 2.4  
October, 2008   Class A-2-II-X     35.2     20.0     12.8  
                   
    Total 2008   $ 58.7   $ 40.0   $ 15.2  
                   

(1)
After write-off of the discount and deferred financing costs related to the debt retired.

        The Company intends to continue to dedicate a portion of excess cash flow towards opportunistic debt retirement. However, the difference between the face amount of debt retired and the amount we have paid has decreased over time and it is likely that gains on future extinguishments of debt, as a percentage of the face amount retired, will be smaller than the average gain recognized in 2008 and 2009, if they occur at all.

        The Company recognized a gain on disposition of assets of $6.9 million in 2009, primarily related to the franchising of seven Applebee's restaurants in the New Mexico market and sale of a parcel of land held by IHOP.

        In 2009, other items of income and expense netted to an expense of $1.3 million compared to income of $1.2 million in 2008. The primary reason for the change was lower interest income resulting from significantly lower interest rates on U.S. Treasury-based investments.

        We recognized a tax provision of $5.2 million in 2009 as compared to a tax benefit of $33.7 million in 2008. The change was primarily due to the increase in our pretax book income. The 2009 effective tax rate of 14.1% applied to pretax book income was lower than the statutory Federal tax rate of 35% primarily due to tax credits and changes in tax rates, state tax laws and unrecognized tax benefits, partially offset by state income taxes and changes in the tax asset valuation allowance. The tax credits are primarily FICA tip and other compensation-related tax credits associated with Applebee's company-owned restaurant operations and credits associated with the Applebee's Restaurant Support Center in Lenexa, Kansas.

Comparison of the fiscal years ended December 31, 2008 and 2007

        Our 2008 financial results were significantly impacted by (i) the inclusion of twelve months of Applebee's operations as compared with one month in fiscal 2007; (ii) impairment charges related to goodwill, intangible assets and real property; (iii) increased interest expense on $2.3 billion worth of

51


Table of Contents


funded debt; and (iv) a loss on a derivative financial instrument in 2007 that did not recur in 2008. In comparing the Company's financial results for 2008 to those in 2007, we note:

Franchise operations

  $ 139.4  

Company restaurant operations

    116.6  

Rental operations

    (0.7 )

Financing operations

    (0.9 )
       

Total segment profit

  $ 254.4  
       

Franchise Operations

 
  2008   2007   Favorable
(Unfavorable)
Variance
 
 
  (In millions)
 

Franchise Revenues

                   
 

Applebee's

  $ 148.4   $ 14.2   $ 134.2  
 

IHOP

    204.9     191.6     13.4  
               

Total franchise revenues

    353.3     205.8     147.6  
               

Franchise Expenses

                   
 

Applebee's

    4.1     0.2     (4.0 )
 

IHOP

    92.1     87.9     (4.2 )
               

Total franchise expenses

    96.2     88.1     (8.2 )
               

Franchise Segment Profit

                   
 

Applebee's

    144.3     14.0     130.3  
 

IHOP

    112.8     103.7     9.1  
               

Total franchise segment profit

  $ 257.1   $ 117.7   $ 139.4  
               

        Consolidated franchise revenues grew by $147.6 million or 71.7% in 2008 as compared to 2007, with $134.2 million of the increase due to the Applebee's acquisition (see "Pro Forma Comparison of the fiscal years ended December 31, 2008 and 2007—Applebee's"). In addition, IHOP franchise revenues increased $13.4 million, or 7.0%, in 2008 compared to 2007. The growth in IHOP franchise revenues was primarily due to a 5.9% increase in total IHOP franchise restaurant sales that was primarily attributable to the following:

52


Table of Contents

        Franchise restaurant retail sales are sales recorded at restaurants that are owned by franchisees and area licensees and are not attributable to the Company. Franchise restaurant retail sales are useful in analyzing our franchise revenues because franchisees and area licensees pay us royalties and other fees that are generally based on a percentage of their sales. "Effective restaurants" are the number of restaurants in a given fiscal period adjusted to account for restaurants open for only a portion of the period. IHOP effective franchise restaurants increased to 1,189 units, an increase of 45 due to net new restaurant openings in 2008 and the annualized effect of new restaurant development in 2007.

        Consolidated franchise expenses increased by $8.2 million in 2008 as compared to 2007, which was due to the increase in franchise expenses for IHOP restaurants of $4.2 million and the inclusion of twelve months of Applebee's franchise expenses in 2008 as opposed to one month in 2007. IHOP franchise expenses such as advertising and the cost of proprietary products are related to IHOP franchise restaurant retail sales. The increase in IHOP franchise expenses was primarily a result of the 5.9% increase in IHOP franchise restaurant retail sales, in addition to an increase in the amount of financial relief granted to IHOP franchisees. These increases were partially offset by lower bad debt expense. Applebee's franchise expenses are relatively smaller than IHOP's due to advertising expenses. Franchise fees designated for IHOP's national advertising fund and local marketing and advertising cooperatives are recognized as revenue and expense of franchise operation; however, Applebee's national advertising fund and local advertising cooperatives constitute agency transactions and therefore are not recognized as franchise revenue and expense.

        Consolidated franchise operations profit increased by $139.4 million in the 2008 compared to 2007. This increase was due primarily to the Applebee's acquisition. IHOP franchise operations profit as a percentage of revenue increased from 54.1% to 55.1%, or $9.1 million, in 2008 compared to 2007.

Company Restaurant Operations

 
  2008   2007   Favorable
(Unfavorable)
Variance
 
 
  (In millions)
 

Company restaurant sales

  $ 1,103.2   $ 125.9   $ 977.3  

Company restaurant expenses

    978.2     117.5     (860.7 )
               

Company restaurant segment profit

  $ 125.0   $ 8.4   $ 116.6  
               

        Total company restaurant sales increased in 2008 by $977.3 million as compared to 2007. The increase in total company restaurant sales was due to the Applebee's acquisition which contributed $979.3 million of the increase. The company restaurant expenses increased by $860.7 million as compared to 2007. This increase was due to Applebee's, which contributed $863.2 million of the increase (see "Pro Forma Comparison of the fiscal years ended December 31, 2008 and 2007—Applebee's").

        IHOP company restaurant operations, which are essentially research and development restaurants and restaurants reacquired from franchisees that are operated on a temporary basis, were relatively unchanged from the prior year. IHOP company restaurant sales and cost of sales were lower in 2008 as compared to 2007 due to two fewer effective restaurants, resulting in a slightly lower segment loss.

53


Table of Contents

Rental Operations

 
  2008   2007   Favorable
(Unfavorable)
Variance
 
 
  (In millions)
 

Rental revenues

  $ 131.4   $ 132.4   $ (1.0 )

Rental expenses

    98.1     98.4     0.3  
               

Rental operations segment profit

  $ 33.3   $ 34.0   $ (0.7 )
               

        Rental operations profit, which is rental income less rental expenses, decreased by $0.7 million or 2.1% in 2008 as compared to 2007. Rental operations profit was impacted by the write-off of deferred rent resulting from terminated subleases on restaurants reacquired in 2008. Deferred rent on operating subleases is the difference between straight-line rent and the actual amount received. Straight-line rent is the amount of rent over the full lease term spread over equal monthly amounts.

        Prior to 2008, rental operations were exclusively related to IHOP. As the result of several transactions related to the franchising of Applebee's company- operated restaurants, Applebee's now has rental income. The amount of Applebee's rental income in 2008 was $58,000 offset by $28,000 of expense. The activity relates only to the franchising of the restaurants; Applebee's is not entering into rental operations similar to those of IHOP.

Financing Operations

 
  2008   2007   Favorable
(Unfavorable)
Variance
 
 
  (In millions)
 

Financing revenues

  $ 25.7   $ 20.5   $ 5.2  

Financing expenses

    7.3     1.2     (6.1 )
               

Financing operations segment profit

  $ 18.4   $ 19.3   $ (0.9 )
               

        Financing operations profit, which is financing revenues less financing expenses, is exclusively attributable to the IHOP business unit. In 2008, financing operations profit decreased by $0.9 million compared to 2007. This decrease was primarily attributable to the decrease in franchise and equipment note interest due to the expected reduction in franchise fee note balances. These decreases were partially offset by an increase in net profit margin on the sale of franchises and equipment associated with company-developed and rehabilitated and refranchised restaurants. In 2008, the Company had a net profit margin of $0.6 million associated with 14 refranchised restaurants, compared to a margin of $0.1 million associated with four refranchised restaurants in 2007.

General and Administrative Expenses

        General and administrative expenses increased by $100.6 million or 123.3% in 2008 compared to the prior year, primarily due to the inclusion of twelve months of Applebee's expenses in 2008 as opposed to one month in 2007. The full year of Applebee's expenses represented $89.6 million of the increase. The remainder of the increase was primarily due to litigation settlements of $4.7 million, and increased professional and consulting services of $5.3 million, primarily related to the ongoing integration of Applebee's. The Company expects that general and administrative expenses will decrease in 2009 due to (i) the planned refranchising of approximately 200 Applebee's company-operated restaurants and (ii) cost-cutting measures implemented in February 2009.

54


Table of Contents

Interest Expense

        Interest expense increased by $174.5 million in 2008 compared to 2007, primarily attributable to a full year of interest expense associated with the debt incurred for the acquisition as compared to one month in 2007. Interest expense in 2008 was comprised primarily of interest on acquisition-related debt of $147.6 million; interest on Applebee's financing obligations related to sales- leaseback transactions of $14.4 million; non-cash amortization of deferred financing costs of $26.1 million; and non-cash amortization of the loss on the effective portion of an interest rate swap of $12.8 million.

Impairment and Closure Charges

        Impairment and closure charges increased significantly to $240.6 million in 2008 compared to $4.4 million in 2007, with closure charges representing $0.3 million and $1.1 million for the years ended December 31, 2008 and 2007, respectively.

        In June 2008, the Company entered into a sale-leaseback transaction relating to 181 parcels of real estate comprising land, buildings and improvements. The net book value of the real estate exceeded the proceeds received by $40.6 million. All of the parcels involved in the transactions had been acquired in the November 29, 2007 acquisition of Applebee's and their estimated fair value was assigned as part of the purchase price allocation as of that date. The Company evaluated events subsequent to November 29, 2007 and noted a deterioration in both the domestic real estate and credit markets between the date of the purchase price allocation and the June 2008 closing date of the sale-leaseback transactions. In the absence of objective evidence to the contrary, the Company concluded that the estimated fair value of the real estate determined in the purchase price allocation had been reasonable, and the decline in value related primarily to market events subsequent to the acquisition date necessitating an impairment charge as opposed to an adjustment to the allocated purchase price.

        The Company evaluated whether this charge, in addition to other macroeconomic data and the decline in the market price of the Company's common stock, were indicators of potential impairment of its goodwill, intangible assets and long-lived assets. The Company concluded that they were not indicators, because (i) the impairment charge was related to a specific transaction that resulted in the disposal of the majority of the Company's real estate; (ii) Applebee's June 30, 2008 year-to-date same-store sales for company-operated stores had increased slightly compared with the same period of the prior year; (iii) while directionally the U.S. economy was slowing down, there was considerable uncertainty as to the depth and duration of the slowdown, such that the Company believed its internal forecasts of same-store sales growth were achievable; and (iv) the Company's net book value was in excess of its market capitalization throughout the period up to and including the date of filing its Form 10-Q for the Quarterly Period ending June 30, 2008.

        As part of the ongoing assessment of the recoverability of its long-lived assets, the Company recorded impairment charges of $28.3 million for the three-month period ended September 30, 2008. Of that amount, $26.8 million related to Applebee's properties and primarily resulted from a continuing deterioration in credit markets in general and a decline in operating results of Applebee's company-operated restaurants expected to be franchised in particular geographic areas. The remainder of the impairment related to an individual underperforming IHOP property whose estimates of future cash flows indicated that the carrying value would not be recovered.

        The Company again evaluated whether the impairment charges taken in the third quarter of 2008, in addition to other macroeconomic data and the decline in the market price of the Company's common stock, were an indicator of potential impairment of its goodwill, intangible assets and long-lived assets. The Company concluded that they were not an indicator, because (i) the impairments were related to specific transactions in three geographic markets characterized as having a larger proportion of underperforming restaurants than the other geographic markets in which the remaining company-operated restaurants are located; (ii) while Applebee's year-to-date September 30, 2008

55


Table of Contents


same-store sales for company-operated stores had decreased slightly compared with the same period of the prior year, the Company was in the process of implementing several initiatives designed to improve the same-store sales and did not believe there had been enough time to adequately assess the effectiveness of those initiatives; (iii) while economic data confirmed that the U.S. economy had been recessionary since December of 2007, there was still considerable uncertainty as to the depth and duration of the slowdown, and although Applebee's year-to-date same-store sales were lower than the prior period, Applebee's decline had been less than its competitors, such that the Company believed its internal forecasts of same-store sales growth were achievable; and (iv) the Company's net book value was in excess of its market capitalization throughout the third quarter ended September 30, 2008, and while the market capitalization did decline below the Company's net book value subsequent to September 30, 2008, by the October 31, 2008 date of filing its Form 10-Q for the Quarterly Period ending September 30, 2008, the Company's net book value was in excess of its market capitalization.

        In the fourth quarter of 2008, the Company completed its annual test for impairment of goodwill. We utilized a discounted cash flows model of the income approach to assess the fair value of our three reporting units, the IHOP franchised restaurants unit ("IHOP unit"), Applebee's company-operated restaurants unit ("Applebee's company unit") and Applebee's franchised restaurants unit ("Applebee's franchise unit"). The impairment test of goodwill of the two Applebee's units which hold the significant majority of the total goodwill was performed as of October 31, 2008. The impairment test of the goodwill of the IHOP unit was performed as of December 31, 2008, the date as of which the analysis has been performed in prior years.

        The first step of the impairment test compared the fair value of each of our reporting units to their carrying value. Significant assumptions used to determine fair value under the discounted cash flows model include future trends in sales, operating expenses, overhead expenses, depreciation, capital expenditures and changes in working capital along with an appropriate discount rate. Additional assumptions were made as to proceeds to be received from future franchising of company-operated restaurants. Based on this first step, we concluded that the fair value of the IHOP unit and the Applebee's franchise unit was in excess of their respective net carrying values and no impairment of goodwill was warranted. However, the fair value of the Applebee's company unit was less than the net carrying value of its assets assigned, requiring the second step of the impairment test. In performing the second step of the impairment test we concluded that the goodwill allocated to the Applebee's company unit was fully impaired and an impairment charge of $113.5 million was recorded. No tax benefit is associated with the impairment of goodwill.

        During the fourth quarter of 2008 the commercial real estate market continued to weaken, the credit markets continued to be constrained, economic forecasts were uncertain as to how long the recessionary period would last, and the company's stock price declined. The Company revised the significant assumptions underlying the discounted cash flows model and updated its impairment analysis of the Applebee's franchise unit. The Company determined the fair value of the Applebee's franchise unit was in excess of its carrying value as of December 31, 2008.

        In addition, the Company performed an impairment test of its indefinite-lived intangible assets, primarily the Applebee's tradename assigned in the purchase price allocation. We utilized the relief from royalty method under the income approach to determine the fair value of the tradename. We determined the fair value of the tradename as of December 31, 2008 was less than the carrying value. An impairment charge of $44.1 million was recorded with a tax benefit of $17.3 million associated with the charge.

        Impairment and closure charges in 2007 included the impairment of long lived assets for three restaurants closed in 2007, and impairment losses on two restaurants in which the reacquisition values exceeded the historical resale values. The decision to close or impair the restaurants in 2007 was a result of a comprehensive analysis that examined restaurants not meeting minimum return on

56


Table of Contents


investment thresholds and certain other operating performance criteria. The assets for these restaurants were written down to their estimated fair value.

Amortization of Intangible Assets

        Amortization of intangible assets was $12.1 million and $1.1 million for the years ended December 31, 2008 and 2007, respectively. The increase was due to the inclusion of twelve months of amortization in 2008 as compared to one month in 2007. The amortization relates to intangible assets with finite lives, primarily franchising rights, recorded as part the allocation of the Applebee's purchase price.

(Gain) Loss on Extinguishment of Debt

        In August 2008, the Company retired certain Series 2007-1 Class A-2-II-A Fixed Rate Term Senior Notes due December 2037 with a face amount of $23.5 million for a cash payment of $20.0 million. The transaction resulted in a gain of $2.4 million after the write-off of the discount and deferred financing costs related to the debt retired.

        In October 2008, the Company retired certain Series 2007-1 Class A-2-II-X Fixed Rate Term Senior Notes due December 2037 with a face amount of $35.2 million for a cash payment of $20.0 million. The Company recognized a gain on extinguishment of debt of approximately $12.8 million after the write-off of the discount and deferred financing costs related to the debt retired.

        The loss on extinguishment of debt of $2.2 million in 2007 resulted from early debt retirement with funds generated by the securitization transactions for IHOP. These costs include the write-off of deferred financing costs in the amount of $1.0 million, and $1.2 million for prepayment penalties as a result of paying off IHOP's pre-existing debt.

Loss on Derivative Financial Instrument

        As further described under "Liquidity and Capital Resources," we entered into a swap arrangement in July 2007. We terminated the swap arrangement upon the consummation of the Applebee's acquisition on November 29, 2007. Settlement of the swap resulted in a loss related to the decline in fair value of the undesignated portion of the hedge of $62.1 million for 2007. No such transaction occurred in 2008.

Provision for Income Taxes

        We recognized a tax benefit of $33.7 million in 2008 as compared to a tax benefit of $2.2 million in 2007. The change was primarily due to the decrease in our pretax book income, partially offset by impairment of non-deductible goodwill.

Pro Forma Comparison of the fiscal years ended December 31, 2008 and 2007—Applebee's

        The following section illustrates certain financial results of Applebee's on a stand-alone basis comparing 2008 as consolidated into the Company with 2007 information comprised of the 11-month data from Applebee's prior to the acquisition date of November 29, 2007 and the one-month data of Applebee's subsequent to the acquisition date ("Pro Forma 2007").

57


Table of Contents

Results of Operations—2008 with Pro Forma 2007

 
  2008   2007  
 
   
  (Pro Forma)  
 
  (In millions)
 

Franchise revenues

  $ 148.4   $ 143.7  

Company restaurant sales

    1,088.1     1,158.5  

Franchise expenses

    4.1     1.5  

Company restaurant expenses

    961.0     1,039.1  

General and administrative expenses

    101.8     199.5  

Franchise Operations

        Applebee's franchise revenues in 2008 increased 3.3% from $143.7 million to $148.4 million as compared to pro forma 2007, primarily due to an increase in effective restaurants from 1,429 restaurants in 2007 to 1,504 restaurants in 2008 and $1.7 million of revenue on temporary liquor agreements on company-operated restaurants in the Texas market that were franchised in October 2008. The increase in effective restaurants was mainly due to the company stores franchised during 2008 and new store openings in 2008. This increase was partially offset by a decrease in franchise domestic same-store sales of 2.4% in 2008 as compared to 2007.

        Applebee's franchise expenses in 2008 increased from $1.5 million to $4.1 million as compared to pro forma 2007. This increase was due primarily to $1.6 million of expenses related to temporary liquor agreements on the Texas restaurants noted above and $0.9 million increase in claims expense recognized related to the captive insurance subsidiary.

Company Restaurant Operations

        Applebee's company restaurant sales for the full fiscal year in 2008 decreased 6.1% from pro forma $1,158.5 million in 2007 to $1,088.1 million in 2008. This decrease was due primarily to the decrease in effective restaurants of 5.3% from 513 restaurants in 2007 to 486 restaurants in 2008 due to the franchising of company stores during 2008 and a decrease in company same-store sales of 1.3% in 2008 as compared to 2007. The decrease in same-store sales is driven mainly by decline in guest traffic partially offset by an increase in average guest check. The Company believes that the decrease experienced in comparable guest traffic is reflective of the current economic conditions impacting consumers. The increase in average guest check is due to menu price increases and a favorable mix shift.

        Applebee's company restaurant operations profit for 2008 increased by $7.7 million from $119.4 million in 2007 to $127.1 million in 2008. The components of company restaurant expenses, as a percentage of company restaurant sales, were as follows:

 
  2008   2007   Variance  
 
   
  (Pro forma)    
 

Food and beverage

    26.9 %   26.9 %   0.0 %

Labor

    34.8     34.9     0.1  

Direct and occupancy

    26.7     27.8     1.1  

Pre-opening expense

    0.0     0.2     0.2  
               

Total Cost of Company Restaurant Sales(a)

    88.3 %   89.7 %   1.4 %
               

(a)
Percentages may not add due to rounding.

58


Table of Contents

        Total food and beverage costs as a percent of company restaurant sales were flat in 2008 as compared to 2007. Food usage was impacted by increased commodity costs but offset by price increases and food cost improvement initiatives.

        Total labor costs as a percent of company restaurant sales decreased by 0.1% in 2008 as compared to 2007. The decrease in 2008 was due primarily to reductions in hourly labor costs as a percentage of sales due to an increased guest check offset by higher management incentive compensation driven by a more costly bonus program in place during the first fiscal quarter of 2008.

        Direct and occupancy costs decreased by 1.1% in 2008 as compared to 2007 due primarily to favorable depreciation expense, which resulted from purchase price allocations related to Applebee's acquisition and the reclassification of restaurants into assets held for sale, partially offset by an increase in rent expense and smallwares associated with purchase accounting and unfavorable utility expense. Pre-opening expense decreased by 0.2% in 2008 as compared to 2007 due to opening one company restaurant in early 2008 as compared to 14 in 2007. We do not currently plan to open any domestic company-operated restaurants in the foreseeable future.

Rental Operations

        As the result of several transactions related to the franchising of Applebee's company-operated restaurants, Applebee's now has rental income. The amount of Applebee's rental income in 2008 was $58,000 offset by $28,000 in expenses. This activity relates only to the franchising of the restaurants; Applebee's is not entering into rental operations similar to those of IHOP.

General and Administrative Expenses

        General and administrative expenses as a percentage of sales decreased from 15.3% in 2007 to 8.2% in 2008. The decrease was due primarily to the non-recurrence of stock-based compensation and severance costs incurred in connection with the Applebee's acquisition as well as non-recurrence of costs related to the exploration of strategic alternatives for enhancing shareholder value.

Liquidity and Capital Resources of the Company

        The acquisition of Applebee's in November 2007 had a significant impact on the liquidity and capital resources of the Company. While the addition of Applebee's increased our cash flow from operations, a significant portion of the increase was consumed by interest payments on $2.3 billion of indebtedness incurred to finance the acquisition. Cash paid for interest was $166.4 million in 2009 and $194.8 million in 2008 as compared to $31.3 million in 2007. The amount of indebtedness also limits our ability to obtain additional financing, due to both explicit limitations in the indenture under which the indebtedness was issued and marketplace perception of our remaining debt capacity.

        As described in Note 8 of the Notes to the Consolidated Financial Statements, the Fixed Rate Notes (the "Notes") issued as part of the Applebee's and IHOP November 2007 securitization transactions have a legal maturity of December 2037; however, the indentures under which the Notes were issued includes provisions which may require the early repayment, in whole or in part, of the Notes which, if not met, would require the Company to use all or part of the excess cash flow that would otherwise be available for general business purposes to fund a reserve account for the Notes or to begin to pay down the Notes (see "Debt Covenant Compliance" below). As of December 31, 2009, the conditions that would require an early repayment date for the Notes had not occurred.

        Irrespective of covenant compliance, the accelerated payment date for the Applebee's and IHOP November 2007 securitization debt is December 2012, subject to extensions as discussed below.

        In the event that we are unable to refinance the Applebee's and IHOP November 2007 securitization debt by December 2012, we will have the ability to extend the scheduled payment date

59


Table of Contents


for six months if we are in compliance with applicable covenant ratios at that time. The interest rate on this debt will increase by 0.50%, and any unpaid amount will accrue interest at such increased rate.

        Similarly, if we are unable to refinance the IHOP March 2007 securitization debt by March 2012, we will have the ability to extend the scheduled repayment date for up to two years with a 0.25% annual increase in the interest rate each year. However, if the IHOP November 2007 securitization debt goes into rapid amortization, the IHOP March 2007 securitization debt will go into rapid amortization as well.

        We intend to refinance all of the Applebee's and IHOP indebtedness prior to the expiration of such extension periods that are available. We may also seek to renegotiate the terms applicable to the repayment of principal under the relevant securitization program, raise capital or otherwise explore alternative measures to repay the securitization debt. In the event that we are unable to refinance the Applebee's or IHOP securitization debt upon the expiration of the relevant extension periods, a Rapid Amortization Event (see "Debt Covenant Compliance" below) will occur under the applicable securitization program and all excess cash flow (after all required payments have been made) will be deposited in the principal payment account for that program and used to repay principal of the applicable securitization debt.

        Currently, there is no specific plan to prepay any of the securitization debt prior to December 2012. However, we are constantly reviewing all available options to efficiently manage our debt portfolio in light of the general economic climate and market conditions. In the event a significant portion of the securitization debt is repaid prior to December 2012, we may be liable for certain make-whole prepayment penalties with respect to the securitization debt and the applicable insurance policies. The amount of any prepayment penalty with respect to the securitization debt would be determined based upon, among other things, the date of repayment, prevailing benchmark interest rates at the time of repayment and the percentage of debt repaid. Although generally speaking the amount of penalty will decline to zero in December 2012, the decline is not necessarily linear over time due to specific provisions under the indenture under which the debt was issued and the variability of interest rates. Detailed calculations of prepayment penalties are contained in the applicable series supplements filed as Exhibits 4.6 and 4.7 to our Form 10-Q filed on May 9, 2007 and Exhibits 4.20 and 4.22 to our Form 10-K filed on February 28, 2008. The prepayment penalty does not apply to open-market repurchases of the debt.

Debt Covenant Compliance

        As part of the financing for the Applebee's acquisition, certain subsidiaries of the Company completed two separate securitization transactions. The securitization transactions consisted of an issuance of debt collateralized by Applebee's restaurant assets (the "Applebee's Notes") and a separate issuance of debt collateralized by IHOP restaurant assets (the "IHOP Notes"). Previously, IHOP completed a $200 million securitization in March 2007, which is subject to the same debt covenants as IHOP's November 2007 securitization. This securitized debt is subject to a series of covenants and restrictions which are customary for transactions of this type. As of December 31, 2009, approximately $1.7 billion of securitized debt is subject to these covenants and restrictions.

        The most significant covenants related to the securitized debt require the maintenance of a consolidated leverage ratio and certain debt service coverage ratios. The consolidated leverage ratio is defined as (a) the sum of: (i) all securitized debt (assuming all variable funding facilities are fully drawn); (ii) all other debt of the Company; and (iii) current monthly operating lease expense multiplied

60


Table of Contents


by 96; divided by (b) the sum of: (i) the Company's EBITDA (as defined) for the preceding 12 months; and (ii) annualized operating lease expense. Maximum ratios for this test were as follows:

 
  Applebee's Notes   IHOP Notes  

Through November 2008

    8.0x     7.75x  

Through November 2009

    7.75x     7.5x  

Thereafter

    7.25x     7.0x  

        Failure to remain under these maximums could result in required early amortization of outstanding principal amounts of the Applebee's Notes or IHOP Notes. At December 31, 2009, the Company's consolidated leverage ratio was 5.71x. If the EBITDA component of the calculation had been $95.4 million, or 22.8%, lower, the Company would have exceeded the maximum ratio allowed for the IHOP Notes. The Company's consolidated leverage ratio was 6.8x at December 31, 2008. The consolidated leverage ratio has never fallen below a required maximum for either the Applebee's Notes or the IHOP Notes in any period since the Notes were issued.

        As noted above, the denominator of the consolidated leverage ratio includes EBITDA for the preceding 12 months. Our EBITDA has benefited from gains on debt extinguishment that will ultimately drop out of the calculation once they fall out of the rolling 12-month calculation period. To the extent gains on debt extinguishment do not continue to occur in amounts similar to those that have been recognized in the past 12 months, our consolidated leverage ratio will be adversely impacted. The consolidated leverage ratio calculated as of December 31, 2009, excluding all gains on extinguishment of debt from the rolling 12-month calculation period, would have been 6.26x.

        The formulas for calculating the debt service coverage ratios ("DSCR") for each securitization are fairly complex with numerous defined terms. In concept, DSCR is the ratio of restaurant net cash flow (as defined) divided by total debt service payments, which include, among other things, interest payments, insurance premiums and administrative expenses. The minimum DSCR for the preceding three months is 1.85x. The consequences of falling below specified minimum three-month DSCRs vary depending upon the actual ratio achieved. Three-month DSCRs below 1.85x can trigger a Cash Trapping Event, a Rapid Amortization Event, or a Default Event, as outlined in the table below. In a Cash Trapping Event, the indenture trustee for the affected securitization is required to retain a certain percentage of cash flow (after all required payments have been made) in a restricted account. No principal amounts of debt are retired in a Cash Trapping Event. In a Rapid Amortization Event, all excess cash flow (after all required payments have been made) is retained and used to retire principal amounts of debt. These events are triggered as follows:

 
  Applebee's Notes   IHOP Notes

Cash Trapping Event

  Less than 1.85x: 25% of cash flow   Less than 1.85x: 40% of cash flow

Cash Trapping Event

  Less than 1.75x: 50% of cash flow   Less than 1.65x: 80% of cash flow

Rapid Amortization Event

  Less than 1.5x   Less than 1.5x

Default Event

  Less than 1.2x   Less than 1.25x

        There are also provisions for a one-time cure of either a Cash Trapping Event or a Rapid Amortization Event if the DSCR recovers to certain levels for three consecutive payment dates. A Rapid Amortization Event can also be triggered in other defined circumstances unrelated to the DSCR, including Applebee's failure to maintain a minimum level of system-wide sales. At December 31, 2009, the Applebee's three-month DSCR was 2.60x and the IHOP three-month DSCR was 3.31x. If the restaurant cash flow components of the calculation had been $14.4 million, or 28.7%, and $10.0 million, or 44.1%, lower for purposes of the Applebee's and IHOP calculations, respectively, the Company would have fallen below the 1.85x minimum threshold. At December 31, 2008, the Applebee's

61


Table of Contents


three-month DSCR was 2.0x and the IHOP three-month DSCR was 3.0x. The DSCR has never fallen below 1.85x for either the Applebee's Notes or the IHOP Notes in any period since the Notes were issued.

        A second covenant test based on DSCR becomes effective under the Applebee's Notes beginning with the fiscal quarter commencing January 2010 and ending with the fiscal quarter commencing October 2012. This test is based on the same DSCR calculation described above but covering the preceding 12-month period as opposed to the preceding three-month period. A 12-month DSCR below minimum set forth in the following table can trigger a Partial Amortization Event. In a Partial Amortization Event, the indenture trustee for the Applebee's securitization is required to retain an amount equal to the lesser of (i) the sum of $5,583,000 plus the shortfall, if any, in the retained amount from a preceding period under a Partial Amortization Event and (ii) the outstanding principal amount of the Applebee's Notes plus the shortfall, if any, from a preceding period under a Partial Amortization Event. All retained amounts are used to retire principal amounts of debt in order of seniority. The initial minimum 12-month DSCR is 2.20x and that minimum increases by 5 basis points each quarter, as follows:

Fiscal Quarter Commencing in:
  Minimum
Twelve-Month
DCSR
 

January 2010

    2.20x  

April 2010

    2.25x  

July 2010

    2.30x  

October 2010

    2.35x  

January 2011

    2.40x  

April 2011

    2.45x  

July 2011

    2.50x  

October 2011

    2.55x  

January 2012

    2.60x  

April 2012

    2.65x  

July 2012

    2.70x  

October 2012

    2.75x  

        The test of Applebee's 12-month DSCR set forth above is not required until the payment date occurring in January 2010 and will end with the payment date occurring in December 2012. The Applebee's 12-month DSCR as of December 31, 2009 was 3.07x.

Franchising of Applebee's Company-Operated Restaurants

        Another effect of the Applebee's acquisition on our liquidity is the planned monetization of certain Applebee's assets. We are continuing to pursue a strategy which transitions from our current 80% franchised Applebee's system to an approximately 98% franchised Applebee's system, similar to IHOP's 99% franchised system. In order to accomplish this strategy, we plan to franchise substantially all of the company-operated Applebee's restaurants while retaining part of the Kansas City area as a company market. This heavily franchised business model is expected to require less capital investment, improve margins and reduce the volatility of cash flow performance over time, while also providing cash proceeds from the franchising of the restaurants. If our strategy to transition to a 98% franchised system is delayed or sales proceeds from franchising restaurants are less than anticipated, we believe that the company-operated Applebee's restaurants will continue to generate sufficient cash from operations to meet our obligations, such that we will not be compelled to enter into refranchising transactions at prices lower than we deem appropriate. Under the terms of the securitized debt agreements, all of the proceeds of asset dispositions must be used to retire long-term debt at par.

62


Table of Contents

        During 2009, we completed the franchising of seven company-operated Applebee's restaurants in the New Mexico markets. Proceeds from asset dispositions, including the seven restaurants, totaled $15.8 million for the twelve months ended December 31, 2009. Of that amount, $11.8 million was used to retire Applebee's Notes (see Note 8 of the Notes to the Consolidated Financial Statements).

Credit Facilities

        Applebee's has a $100 million revolving credit facility, the Series 2007-1 Class A-1 Variable Funding Senior Notes. IHOP has a $25 million revolving credit facility, the Series 2007-2 Variable Funding Notes. At December 31, 2009, both revolving credit facilities had been fully drawn and the Company does not presently have additional committed sources of credit. However, we believe that our unrestricted cash and cash equivalents, which totaled $82.3 million as of December 30, 2009, and cash generated from operating activities provide adequate liquidity for the foreseeable future in the absence of additional credit facilities.

        The payments up to $30.0 million of the Series 2007-1 Class A-1 Variable Funding Senior Notes and the entire issue of the Series 2007-1 Class A-2-II-A Fixed Rate Term Senior Notes issued in connection with the Applebee's securitization are insured under a financial guaranty insurance policy. If the insurance company were to become subject to insolvency or similar proceedings, an event of default would occur under the indenture pursuant to which the notes were issued, and the holders of the variable funding notes would no longer be required to fund draws on the facility. We have no reason to question the solvency of the insurance company that insures these payments, and its senior unsecured debt obligations are highly rated at the current time.

        The payments of the Series 2007-2 Variable Funding Senior Notes and the Series 2007-1 Fixed Rate Notes issued in connection with the March 2007 IHOP securitization are insured under a financial guaranty insurance policy. There are concerns about the solvency of FGIC and the effectiveness of the insurance policy as FGIC is presently required to suspend payment on all claims in accordance with an order issued by the New York Insurance Department on November 24, 2009. While the insolvency of FGIC will not cause an event of default under the Indenture pursuant to which these notes were issued, it will cause FGIC to cease being the controlling party with respect to the March 2007 Notes and will require the IHOP Co-Issuers to obtain consent from a majority of the Noteholders rather than FGIC for any actions to be taken with respect to the securitization program, including amendments that require the consent of the controlling party.

        Our ability to pay the interest on our indebtedness, to make scheduled payments of principal and to fund planned capital expenditures will depend on future performance of our operations, which, to a certain extent, is subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control. Based upon the current level of operations and our current expectations for future periods in light of the current economic environment, we presently anticipate that our cash and cash equivalents, which totaled $82.3 million as of December 31, 2009, together with expected cash flows from operations will be sufficient to meet our anticipated cash requirements for working capital, retirement of securitized debt, capital expenditures and other obligations for at least the next 12 months. Further, based on current projections, we believe that we will remain in compliance with the debt covenants discussed above for at least the next 12 months. However, if we are not able to achieve forecasted revenue targets and operating improvements, this assessment would have to be reconsidered. Additionally, certain Applebee's Notes have accelerated payment dates in December 2012, and we will likely seek to refinance this debt if it has not been repaid prior to then. We may not be able to effect any future refinancing of our debt on commercially reasonable terms or at all.

63


Table of Contents

Cash Flows

        In summary, our cash flows were as follows:

 
  2009   2008   2007  
 
  (In millions)
 

Net cash provided by operating activities

  $ 157.9   $ 110.8   $ 106.3  

Net cash provided by (used in) investing activities

    18.8     35.2     (1,937.4 )

Net cash (used in) provided by financing activities

    (208.8 )   (58.4 )   1,838.4  
               

Net (decrease) increase in cash and cash equivalents

  $ (32.1 ) $ 87.6   $ 7.3  
               

        Cash provided by operating activities is primarily driven by revenues earned and collected from our franchisees, operating earnings from our company-operated restaurants and profit from our rental operations and financing operations. Franchise revenues consist of royalties, IHOP advertising fees and sales of proprietary products for IHOP, each of which fluctuates with increases or decreases in franchise retail sales. Franchise retail sales are impacted by the development of IHOP and Applebee's restaurants by our franchisees and by fluctuations in same-store sales. Operating earnings from company-operated restaurants are impacted by many factors which include but are not limited to changes in traffic patterns, pricing activities and changes in operating expenses. Rental operations profit is rental income less rental expenses. Rental income includes revenues from operating leases and interest income from direct financing leases. Rental expenses are costs of prime operating leases and interest expense on prime capital leases on franchisee-operated restaurants. Financing operations revenue consists of the portion of franchise fees not allocated to IHOP intellectual property, sales of equipment, as well as interest income from the financing of franchise fees and equipment leases. Financing expenses are primarily the cost of restaurant equipment.

        Cash provided by operating activities totaled $157.9 million during the 12 months ended December 31, 2009 from $110.8 million in the same period in 2008, primarily due to an increase in net income of $185.8 million, partially offset by a decrease of $137.5 million in noncash adjustments (primarily depreciation, non-cash interest, impairment charges, gains on debt extinguishment and asset sales and deferred taxes). Working capital changes used cash of $16.3 million during 2009 compared to a $21.4 million use in 2008. The decrease in working capital used was due primarily to the faster settlement of receivables from gift card sales and lower payments for retention bonuses, partially offset by an increase in prepayments related to the January 3, 2010 close of the 2009 fiscal year and the timing of payments for advertising. Cash paid for interest in 2009 was $166.4 million as compared to $194.8 million in 2008.

        Net cash provided by investing activities in 2009 was primarily attributable to $15.7 of proceeds from dispositions of assets, primarily the franchising of seven Applebee's company-operated restaurants, and $15.0 million of principal receipts from notes and equipment contracts receivable, partially offset by $15.4 million of capital expenditures. Capital expenditures are expected to range between $18 million and $20 million in fiscal 2010.

64


Table of Contents

        The following table represents the principal receipts on various receivables due from our franchisees as of December 31, 2009:

 
  Principal Receipts Due By Period  
 
  2010   2011   2012   2013   2014   Thereafter   Total  
 
  (In millions)
 

Equipment leases(1)

  $ 6.8   $ 6.9   $ 7.1   $ 7.4   $ 7.9   $ 110.4   $ 146.5  

Direct financing leases(2)

    4.1     4.8     5.5     6.5     7.4     83.0     111.3  

Franchise notes and other(3)

    5.3     2.9     2.4     1.0     0.8     2.7     15.1  
                               

Total

  $ 16.2   $ 14.6   $ 15.0   $ 14.9   $ 16.1   $ 196.1   $ 272.9  
                               

(1)
Equipment lease receivables extend through the year 2029.

(2)
Direct financing lease receivables extend through the year 2024.

(3)
Franchise note receivables extend through the year 2016.

Financing Activities

        Financing activities used net cash of $208.8 million during 2009. Cash used in financing activities primarily consisted of $173.8 million in repayments of long-term debt, payment of accrued debt issuance costs of $20.3 million, capital lease obligation and financing obligation repayments of $16.2 million and $24.1 million in dividend payments on Series A Preferred Stock. Of the long-term debt repayments, $146.9 million was related to the early retirement of securitzation debt with excess cash, $15.0 million was related to scheduled repayments and $11.8 million related to redemptions with proceeds of asset dispositions and other items as required under the securitization agreements. Cash provided by financing activities resulted from a decrease of $15.9 million in restricted cash related to the securitizations and a borrowing of $10.0 million from the IHOP revolving credit facility.

Share Repurchases and Dividends

        In January 2003, our Board of Directors authorized a program to repurchase shares of the Company's common stock. As of December 31, 2007, the Board approved the repurchase of up to 7.2 million shares of common stock. The Company has repurchased 6.3 million shares of its common stock since the inception of the program at a total cost of $280.0 million. The Company did not repurchase shares in 2009. In February 2009, the Board of Directors cancelled the authorization to repurchase any additional shares under this program.

        The Company had accrued $0.2 million as dividends for the Series A Perpetual Preferred Stock as of January 3, 2010, the close of fiscal 2009.

        The Company's most recent quarterly dividend of $0.25 per common share was paid in December 2008. Effective December 11, 2008, the Company suspended the payment of its quarterly cash dividend to common shareholders for the foreseeable future in order to maximize the financial flexibility of the Company. Future dividend payments on the common shares may be resumed at the discretion of the Board of Directors after consideration of the Company's earnings, financial condition, cash requirements, future prospects and other factors.

Off-Balance Sheet Arrangements

        As of December 31, 2009, we had no off-balance sheet arrangements, as defined in Item 303(a)(4) of SEC Regulation S-K.

65


Table of Contents

Contractual Obligations and Commitments

        The following are our significant contractual obligations and commitments as of December 31, 2009:

 
  Payments Due By Period  
Contractual Obligations
  1 Year   2-3 Years   4-5 Years   More than
5 Years
  Total  
 
  (in millions)
 

Debt

  $ 25.2   $ 1,637.2   $   $   $ 1,662.4  

Financing obligation

    31.6     61.2     64.0     415.1     571.9  

Operating leases

    88.7     174.8     176.4     1,096.6     1,536.5  

Capital leases

    25.0     49.6     49.8     165.8     290.2  

Purchase commitments

    62.8                 62.8  

Other obligations

    6.6                 6.6  
                       

Total minimum payments

    239.9     1,922.8     290.2     1,677.5     4,130.4  

Less interest

    (30.9 )   (72.5 )   (66.6 )   (204.1 )   (374.1 )
                       

  $ 209.0   $ 1,850.3   $ 223.6   $ 1,473.4   $ 3,756.3  
                       

        At December 31, 2009, we had a reserve for unrecognized tax benefit including potential interest and penalties, net of related tax benefit, totaling $15.9 million, of which approximately $3.0 million is expected to be paid within one year. For the remaining liability, due to the uncertainties related to these tax matters, we are unable to make a reasonably reliable estimate when cash settlement with a taxing authority will occur.

Critical Accounting Policies and Estimates

        The preparation of financial statements in accordance with U.S. generally accepted accounting principles requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of net revenues and expenses in the reporting period. We base our estimates and assumptions on current facts, historical experience and various other factors that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities and the accrual of costs and expenses that are not readily apparent from other sources. Accounting assumptions and estimates are inherently uncertain and actual results may differ materially from our estimates.

        We believe the following critical accounting policies require us to make significant judgments and estimates in the preparation of our consolidated financial statements:

Goodwill and Intangibles

        Goodwill is recorded when the aggregate purchase price of an acquisition exceeds the estimated fair value of the net identified tangible and intangible assets acquired. Intangible assets resulting from the acquisition are accounted for using the purchase method of accounting and are estimated by management based on the fair value of the assets received. Identifiable intangible assets are comprised primarily of trademarks, tradenames, liquor licenses, which are considered to have an indefinite life, and franchise agreements, recipes and menus, favorable lease agreements, which are considered to have a finite life. Intangible assets with finite lives are being amortized over the period of estimated benefit using the straight-line method and estimated useful lives. Goodwill and indefinite life intangible assets are not subject to amortization.

66