Edgar Filing: DENNYS CORP

q2-2007_10q.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended June 27, 2007

Commission File Number 0-18051

DENNY’S CORPORATION

(Exact name of registrant as specified in its charter)

Delaware		13-3487402
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization		Identification No.)

203 East Main Street

Spartanburg, South Carolina 29319-0001

(Address of principal executive offices)

(Zip Code)

(864) 597-8000

(Registrant’s telephone number, including area code)

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 [X] No [ ]

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

Large accelerated filer [ ] Accelerated filer [X] Non-accelerated filer [ ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes [ ] No [X]

As of July 27, 2007, 93,920,452 shares of the registrant’s common stock, par value $.01 per share, were outstanding.

TABLE OF CONTENTS

	Page
Part I - FINANCIAL INFORMATION

Item 1. Financial Statements
Condensed Consolidated Statements of Operations
Quarter Ended June 27, 2007 and June 28, 2006	3
Two Quarters Ended June 27, 2007 and June 28, 2006	3
Condensed Consolidated Balance Sheets	4
Condensed Consolidated Statement of Shareholders' Deficit and Comprehensive Loss	5
Condensed Consolidated Statements of Cash Flows	6
Notes to Condensed Consolidated Financial Statements	7
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	13
Item 3. Quantitative and Qualitative Disclosures About Market Risk	21
Item 4. Controls and Procedures	21

PART II - OTHER INFORMATION

Item 1. Legal Proceedings	22
Item 4. Submission of Matters to a Vote of Security Holders	22
Item 6. Exhibits	22
Signatures	23

PART I - FINANCIAL INFORMATION

Item 1. Financial Statements

Denny’s Corporation and Subsidiaries

Condensed Consolidated Statements of Operations

(Unaudited)

	Quarter Ended						Two Quarters Ended
	June 27, 2007			June 28, 2006			June 27, 2007			June 28, 2006
	(In thousands, except per share amounts)
Revenue:
Company restaurant sales	$	218,316		$	221,008		$	434,117		$	446,030
Franchise and license revenue		22,626			22,483			43,576			45,446
Total operating revenue		240,942			243,491			477,693			491,476
Costs of company restaurant sales:
Product costs		56,323			54,981			111,449			110,710
Payroll and benefits		91,932			91,862			184,800			185,870
Occupancy		13,024			12,589			26,152			25,726
Other operating expenses		31,782			35,882			62,095			68,326
Total costs of company restaurant sales		193,061			195,314			384,496			390,632
Costs of franchise and license revenue		6,933			7,235			13,408			14,448
General and administrative expenses		17,167			15,590			33,093			32,819
Depreciation and amortization		12,480			14,120			25,358			28,185
Operating gains, losses and other charges, net		(13,047	)		(5,938	)		(15,680	)		(6,788	)
Total operating costs and expenses		216,594			226,321			440,675			459,296
Operating income		24,348			17,170			37,018			32,180
Other expenses:
Interest expense, net		10,953			14,847			22,294			29,490
Other nonoperating expense (income), net		(228	)		138			(425	)		(24	)
Total other expenses, net		10,725			14,985			21,869			29,466
Net income before income taxes and cumulative effect of change in accounting principle		13,623			2,185			15,149			2,714
Provision for income taxes		2,123			331			2,486			380
Net income before cumulative effect of change in accounting principle		11,500			1,854			12,663			2,334
Cumulative effect of change in accounting principle, net of tax		—			—			—			232
Net income	$	11,500		$	1,854		$	12,663		$	2,566

Basic net income per share:
Basic net income before cumulative effect of change in accounting principle, net of tax	$	0.12		$	0.02		$	0.14		$	0.03
Cumulative effect of change in accounting principle, net of tax		—			—			—			0.00
Basic net income per share	$	0.12		$	0.02		$	0.14		$	0.03

Diluted net income per share:
Diluted net income before cumulative effect of change in accounting principle, net of tax	$	0.12		$	0.02		$	0.13		$	0.02
Cumulative effect of change in accounting principle, net of tax		—			—			—			0.01
Diluted net income per share	$	0.12		$	0.02		$	0.13		$	0.03

Weighted average shares outstanding:
Basic		93,692			92,045			93,554			91,915
Diluted		98,967			97,741			98,796			97,435

See accompanying notes

Denny’s Corporation and Subsidiaries

Condensed Consolidated Balance Sheets

(Unaudited)

	June 27, 2007			December 27, 2006
	(In thousands)
Assets
Current Assets:
Cash and cash equivalents	$	47,263		$	26,226
Receivables, net		13,626			14,564
Inventories		8,065			8,199
Assets held for sale		4,178			4,735
Prepaid and other current assets		6,740			9,072
Total Current Assets		79,872			62,796

Property, net		216,224			236,264

Other Assets:
Goodwill		48,124			50,064
Intangible assets, net		64,873			66,882
Deferred financing costs, net		5,980			6,311
Other assets		23,570			21,595
Total Assets	$	438,643		$	443,912

Liabilities and Shareholders' Deficit
Current Liabilities:
Current maturities of notes and debentures	$	3,941		$	5,532
Current maturities of capital lease obligations		6,716			6,979
Accounts payable		36,637			42,148
Other		86,721			81,143
Total Current Liabilities		134,015			135,802

Long-Term Liabilities:
Notes and debentures, less current maturities		402,252			415,801
Capital lease obligations, less current maturities		21,828			24,948
Liability for insurance claims, less current portion		28,015			28,784
Deferred income taxes		11,759			12,126
Other noncurrent liabilities and deferred credits		47,988			50,469
Total Long-Term Liabilities		511,842			532,128
Total Liabilities		645,857			667,930

Total Shareholders’ Deficit		(207,214	)		(224,018	)
Total Liabilities and Shareholders’ Deficit	$	438,643		$	443,912

See accompanying notes

Denny’s Corporation and Subsidiaries

Condensed Consolidated Statement of Shareholders’ Deficit and Comprehensive Loss

(Unaudited)

	Common Stock									Accumulated Other Comprehensive			Total Shareholders'
	Shares		Amount		Paid-in Capital		Deficit			Loss, Net			Deficit
	(In thousands)
Balance, December 27, 2006		93,186	$	932	$	527,911	$	(735,438	)	$	(17,423	)	$	(224,018	)
Comprehensive income:
Net income		—		—		—		12,663			—			12,663
Recognition of unrealized gain on hedged transactions, net of tax		—		—		—		—			1,475			1,475
Comprehensive income		—		—		—		12,663			1,475			14,138
Share-based compensation on equity classified awards		—		—		1,637		—			—			1,637
Issuance of common stock for share-based compensation		44		—		222		—			—			222
Exercise of common stock options		487		5		802		—			—			807
Balance, June 27, 2007		93,717	$	937	$	530,572	$	(722,775	)	$	(15,948	)	$	(207,214	)

See accompanying notes

Denny’s Corporation and Subsidiaries

Condensed Consolidated Statements of Cash Flows

(Unaudited)

	Two Quarters Ended
	June 27, 2007			June 28, 2006
	(In thousands)
Cash Flows from Operating Activities:
Net income	$	12,663		$	2,566
Adjustments to reconcile net income to cash flows provided by operating activities:
Cumulative effect of change in accounting principle, net of tax		—			(232	)
Depreciation and amortization		25,358			28,185
Operating gains, losses and other charges, net		(15,680	)		(6,788	)
Amortization of deferred financing costs		585			1,747
Loss on early extinguishment of debt		67			—
Deferred income tax expense		2,161			—
Share-based compensation		2,319			3,673
Changes in assets and liabilities, net of effects of acquisitions and dispositions:
Decrease (increase) in assets:
Receivables		938			1,552
Inventories		134			(606	)
Other current assets		2,333			1,270
Other assets		(1,728	)		(2,280	)
Increase (decrease) in liabilities:
Accounts payable		(826	)		(5,744	)
Accrued salaries and vacations		(469	)		(2,461	)
Accrued taxes		(731	)		(26	)
Other accrued liabilities		6,231			(744	)
Other noncurrent liabilities and deferred credits		(4,505	)		(1,914	)
Net cash flows provided by operating activities		28,850			18,198

Cash Flows from Investing Activities:
Purchase of property		(10,992	)		(17,794	)
Proceeds from disposition of property		26,888			11,765
Acquisition of restaurant units		(2,208	)		(825	)
Collection of note receivable payments from former subsidiary		—			1,239
Net cash flows provided by (used in) investing activities		13,688			(5,615	)

Cash Flows from Financing Activities:
Long-term debt payments		(18,996	)		(4,445	)
Deferred financing costs paid		(321	)		—
Proceeds from exercise of stock options		807			588
Net bank overdrafts		(2,991	)		(1,209	)
Net cash flows used in financing activities		(21,501	)		(5,066	)

Increase in cash and cash equivalents		21,037			7,517

Cash and Cash Equivalents at:
Beginning of period		26,226			28,236
End of period	$	47,263		$	35,753

See accompanying notes

Denny’s Corporation and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(Unaudited)

Note 1. Introduction and Basis of Reporting

Denny’s Corporation, through its wholly owned subsidiaries, Denny’s Holdings, Inc. and Denny’s, Inc., owns and operates the Denny’s restaurant brand, or Denny’s.

Our unaudited condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Therefore, certain information and notes normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles have been condensed or omitted. In our opinion, all adjustments considered necessary for a fair presentation of the interim periods presented have been included. Such adjustments are of a normal and recurring nature. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. Actual results may differ from these estimates under different assumptions or conditions; however, we believe that our estimates, including those for the above-described items, are reasonable. These interim condensed consolidated financial statements should be read in conjunction with our consolidated financial statements and notes thereto for the year ended December 27, 2006 and the related Management’s Discussion and Analysis of Financial Condition and Results of Operations, both of which are contained in our Annual Report on Form 10-K for the fiscal year ended December 27, 2006. The results of operations for the interim periods presented are not necessarily indicative of the results for the entire fiscal year ending December 26, 2007.

Note 2. Summary of Significant Accounting Policies

Effective December 28, 2006, the first day of fiscal 2007, we adopted the Financial Accounting Standards Board's ("FASB") Interpretation No. 48 “Accounting for Uncertainty in Income Taxes,” or FIN 48. See Note 10 to the Condensed Consolidated Financial Statements, “Income Taxes.”

There have been no other material changes to our significant accounting policies and estimates from the information provided in Note 2 of our Consolidated Financial Statements included in our Form 10-K for the fiscal year ended December 27, 2006.

Note 3. Assets Held for Sale

Assets held for sale of $4.2 million and $4.7 million, as of June 27, 2007 and December 27, 2006, respectively, include real estate related to closed restaurants and restaurants operated by franchisees. We expect to sell each of these assets within 12 months. Our Credit Facility (defined in Note 6) requires us to make mandatory prepayments to reduce outstanding indebtedness with the net cash proceeds from the sale of the real estate related to the certain restaurants operated by franchisees. As a result, we have classified a corresponding $2.0 million and $3.5 million of our long-term debt as a current liability in the Condensed Consolidated Balance Sheet as of June 27, 2007 and December 27, 2006, respectively. These amounts represent the net book value of the specified properties as of the balance sheet dates.

Note 4. Goodwill and Other Intangible Assets

The changes in carrying amounts of goodwill for the two quarters ended June 27, 2007 are as follows:

	(In thousands)
Balance at December 27, 2006	$	50,064
Reversal of valuation allowance related to deferred tax assets		(2,528	)
Goodwill related to acquisition of restaurant unit		588
Balance at June 27, 2007	$	48,124

The following table reflects goodwill and intangible assets as of June 27, 2007 and December 27, 2006:

	June 27, 2007				December 27, 2006
	Gross Carrying Amount		Accumulated Amortization		Gross Carrying Amount		Accumulated Amortization
	(In thousands)
Goodwill	$	48,124	$	—	$	50,064	$	—

Intangible assets with indefinite lives:
Trade names	$	42,375	$	—	$	42,323	$	—
Liquor licenses		279		—		279		—
Intangible assets with definite lives:
Franchise and license agreements		62,477		40,258		65,602		41,322
Intangible assets	$	105,131	$	40,258	$	108,204	$	41,322

Note 5. Operating Gains, Losses and Other Charges, Net

Operating gains, losses and other charges, net represent gains or losses on the sale of assets, restructuring charges, exit costs and impairment charges and were comprised of the following:

	Quarter Ended						Two Quarters Ended
	June 27, 2007			June 28, 2006			June 27, 2007			June 28, 2006
	(In thousands)
Gains on sales of assets and other, net	$	(14,479	)	$	(7,098	)	$	(17,750	)	$	(8,669	)
Restructuring charges and exit costs		1,192			1,160			1,830			1,881
Impairment charges		240			—			240			—
Operating gains, losses and other charges, net	$	(13,047	)	$	(5,938	)	$	(15,680	)	$	(6,788	)

Gains on Sales of Assets

Proceeds and gains on sales of assets were comprised of the following:

	Quarter Ended June 27, 2007				Quarter Ended June 28, 2006
	Net Proceeds		Gains		Net Proceeds		Gains
	(In thousands)
Sales of restaurant operations and related real estate to franchisees	$	20,241	$	13,659	$	—	$	—
Sales of other real estate assets		911		305		8,692		7,067
Recognition of deferred gains		—		515		—		31
Total	$	21,152	$	14,479	$	8,692	$	7,098

	Two Quarters Ended June 27, 2007				Two Quarters Ended June 28, 2006
	Net Proceeds		Gains		Net Proceeds		Gains
	(In thousands)
Sales of restaurant operations and related real estate to franchisees	$	21,853	$	14,062	$	—	$	—
Sales of other real estate assets		5,035		3,142		11,765		8,607
Recognition of deferred gains		—		546		—		62
Total	$	26,888	$	17,750	$	11,765	$	8,669

Restructuring Charges and Exit Costs

Restructuring charges and exit costs were comprised of the following:

	Quarter Ended				Two Quarters Ended
	June 27, 2007		June 28, 2006		June 27, 2007		June 28, 2006
	(In thousands)
Exit costs	$	588	$	275	$	735	$	486
Severance and other restructuring charges		604		885		1,095		1,395
Total restructuring and exit costs	$	1,192	$	1,160	$	1,830	$	1,881

The components of the change in accrued exit cost liabilities are as follows:

	(In thousands)
Balance, beginning of year	$	11,934
Provisions for units closed during the year		50
Changes in estimate of accrued exit costs, net		685
Payments, net		(2,509	)
Accretion expense		486
Balance, end of quarter		10,646
Less current portion included in other current liabilities		2,536
Long-term portion included in other noncurrent liabilities	$	8,110

Estimated net cash payments related to exit cost liabilities in the next five years are as follows:

	(In thousands)
Remainder of 2007	$	1,833
2008		2,633
2009		2,069
2010		1,713
2011		1,469
Thereafter		3,627
Total		13,344
Less imputed interest		2,698
Present value of exit cost liabilities	$	10,646

At the beginning of fiscal 2007, the liability for severance and other restructuring charges was $0.5 million. During the two quarters ended June 27, 2007, an additional $1.1 million of expense was recorded and $0.7 million was paid related to these charges. The remaining balance of $0.9 million is expected to be paid during the next 12 months.

Note 6. Long-Term Debt

Credit Facility

Our subsidiaries, Denny's, Inc. and Denny's Realty, LLC (the "Borrowers"), have a senior secured credit agreement consisting of a $50 million revolving credit facility (including up to $10 million for a revolving letter of credit facility), a $230.6 million term loan and an additional $40 million letter of credit facility (together, the "Credit Facility"). At June 27, 2007, we had outstanding letters of credit of $37.8 million (comprised of $35.2 million under our letter of credit facility and $2.6 million under our revolving facility). There were no revolving loans outstanding at June 27, 2007. These balances result in availability of $4.8 million under our letter of credit facility and $47.4 million under the revolving facility.

The revolving facility matures on December 15, 2011. The term loan and the $40 million letter of credit facility mature on March 31, 2012. The term loan amortizes in equal quarterly installments at a rate equal to approximately 1% per annum with all remaining amounts due on the maturity date. The Credit Facility is available for working capital, capital expenditures and other general corporate purposes. We will be required to make mandatory prepayments under certain circumstances (such as required payments related to asset sales) typical for this type of credit facility and may make certain optional prepayments under the Credit Facility. Upon the event of a refinancing transaction, under certain circumstances before March 8, 2008, we would be required to pay the term loan and letter of credit facility lenders a 1.0% prepayment premium.

The Credit Facility is guaranteed by Denny's and its other subsidiaries and is secured by substantially all of the assets of Denny's and its subsidiaries. In addition, the Credit Facility is secured by first-priority mortgages on 132 company-owned real estate assets. The Credit Facility contains certain financial covenants (i.e., maximum total debt to EBITDA (as defined under the Credit Facility) ratio requirements, maximum senior secured debt to EBITDA ratio requirements, minimum fixed charge coverage ratio requirements and limitations on capital expenditures), negative covenants, conditions precedent, material adverse change provisions, events of default and other terms, conditions and provisions customarily found in credit agreements for facilities and transactions of this type. We were in compliance with the terms of the Credit Facility as of June 27, 2007.

Interest on loans under the new revolving facility is payable at per annum rates equal to LIBOR plus 250 basis points and will adjust over time based on our leverage ratio. Effective March 8, 2007, interest on the new term loan and letter of credit facility is payable at per annum rates equal to LIBOR plus 200 basis points. The weighted-average interest rate under the term loan was 7.1% as of June 27, 2007. The weighted average interest rate under the term loan facility was 8.7% as of June 28, 2006.

Interest Rate Swap

During the second quarter of fiscal 2007, we entered into an interest rate swap with a notional amount of $150 million to hedge a portion of the cash flows of our variable rate debt. We have designated the interest rate swap as a cash flow hedge of our exposure to variability in future cash flows attributable to interest payments on $150 million of floating rate debt. Under the terms of the swap, we will pay a fixed rate of 4.8925% on the $150 million notional amount and receive payments from the counterparties based on the 3-month LIBOR rate for a term ending on March 30, 2010, effectively resulting in a fixed rate of 6.8925% on the $150 million notional amount. Interest rate differentials paid or received under the swap agreement will be recognized as adjustments to interest expense.

To the extent the swap is effective in offsetting the variability of the hedged cash flows, changes in the fair value of the swap are not included in current earnings but are reported as other comprehensive income. The components of the cash flow hedge included in accumulated other comprehensive income in the Condensed Consolidated Statement of Shareholders’ Deficit for the two quarters ended June 27, 2007 and June 28, 2006, are as follows:

	Two Quarters Ended
	June 27, 2007			June 28, 2006
	(In thousands)
Net interest (income) expense recognized as a result of interest rate swap	$	(170	)	$	(370	)
Unrealized gain (loss) for changes in fair value of interest swap rates		1,645			739
Net increase in Accumulated Other Comprehensive Income, net of tax	$	1,475		$	369

We did not note any ineffectiveness in the hedge during the two quarters ended June 27, 2007. We do not enter into derivative financial instruments for trading or speculative purposes.

Note 7. Defined Benefit Plans

The components of net pension cost of the pension plan and other defined benefit plans as determined under Statement of Financial Accounting Standards No. 87, “Employers’ Accounting for Pensions,” as amended by Statement of Financial Accounting Standards No. 158, "Employer's Accounting for Defined Benefit Pension and Other Postretirement Plans," are as follows:

	Pension Plan						Other Defined Benefit Plans
	Quarter Ended						Quarter Ended
	June 27, 2007			June 28, 2006			June 27, 2007		June 28, 2006
	(In thousands)
Service cost	$	88		$	92		$	—	$	—
Interest cost		789			770			47		48
Expected return on plan assets		(879	)		(814	)		—		—
Amortization of net loss		224			252			6		6
Net periodic benefit cost	$	222		$	300		$	53	$	54

	Pension Plan						Other Defined Benefit Plans
	Two Quarters Ended						Two Quarters Ended
	June 27, 2007			June 28, 2006			June 27, 2007		June 28, 2006
	(In thousands)
Service cost	$	175		$	183		$	—	$	—
Interest cost		1,572			1,541			95		96
Expected return on plan assets		(1,764	)		(1,628	)		—		—
Amortization of net loss		441			503			12		12
Net periodic benefit cost	$	424		$	599		$	107	$	108

We made contributions of $1.8 million and $1.6 million to our qualified pension plan during the two quarters ended June 27, 2007 and June 28, 2006, respectively. We made contributions of $0.2 million and $0.1 million to our other defined benefit plans during the two quarters ended June 27, 2007 and June 28, 2006, respectively. We expect to contribute $1.4 million to our qualified pension plan and $0.1 million to our other defined benefit plans during the remainder of fiscal 2007.

Additional minimum pension liability of $17.4 million is reported as a component of accumulated other comprehensive loss in the Condensed Consolidated Statement of Shareholders’ Deficit and Comprehensive Loss as of June 27, 2007 and December 27, 2006.

Note 8. Share-Based Compensation

Total share-based compensation included as a component of net income was as follows:

	Quarter Ended					Two Quarters Ended
	June 27, 2007		June 28, 2006			June 27, 2007		June 28, 2006
	(In thousands)
Share-based compensation related to liability classified restricted stock units	$	209	$	(248	)	$	682	$	818
Share based compensation related to equity classified awards:
Stock options	$	421	$	862		$	619	$	1,654
Restricted stock units		426		546			858		1,033
Board deferred stock units		79		81			160		168
Total share-based compensation related to equity classified awards		926		1,489			1,637		2,855
Total share-based compensation	$	1,135	$	1,241		$	2,319	$	3,673

During the two quarters ended June 27, 2007, we issued approximately 44,000 shares of common stock in lieu of cash to pay approximately $0.2 million of incentive compensation.

Stock Options

During the two quarters ended June 27, 2007, we granted approximately 0.7 million stock options to certain employees. The options granted vest evenly over 3 years and have a 10-year contractual life. The weighted average fair value per option of options granted during the two quarters ended June 27, 2007 was $3.08.

The fair value of the stock options granted in the period ended June 27, 2007 was estimated at the date of grant using the Black-Scholes option pricing model. Use of this option pricing model requires the input of subjective assumptions. These assumptions include estimating the length of time employees will retain their vested stock options before exercising them (“expected term”), the estimated volatility of our common stock price over the expected term and the number of options that will ultimately not complete their vesting requirements (“forfeitures”). Changes in the subjective assumptions can materially affect the estimate of the fair value of share-based compensation and consequently, the related amount recognized in the Consolidated Statements of Operations.

We used the following weighted average assumptions for the stock option grants:

	Two Quarters Ended
	June 27, 2007
Dividend yield		0.0	%
Expected volatility		68	%
Risk-free interest rate		4.5	%
Weighted-average expected term	6.0 years

The dividend yield assumption was based on our dividend payment history and expectations of future dividend payments. The expected volatility was based on the historical volatility of our stock for a period approximating the expected life. The risk-free interest rate was based on published U.S. Treasury spot rates in effect at the time of grant with terms approximating the expected life of the option. The weighted average expected term of the options represents the period of time the options are expected to be outstanding based on historical trends.

As of June 27, 2007, there was approximately $3.0 million of unrecognized compensation cost related to unvested stock option awards granted, which is expected to be recognized over a weighted average of 2.0 years.

Restricted Stock Units

During the two quarters ended June 27, 2007, we granted approximately 0.5 million performance shares (which are equity classified) and performance units (which are liability classified) with a grant date fair value of $4.61 per share to certain employees. The award will be earned (from 0% to 200% of the target award) based on certain operating performance measures for fiscal 2007. Once earned, the performance shares and units will vest 15% as of December 26, 2007, 35% as of December 31, 2008 and 50% as of December 30, 2009. Subsequent to the vesting periods, the earned performance shares will be paid to the holder in shares of common stock and the earned performance units will be paid to the holder in cash, provided the holder is then still employed with Denny’s or an affiliate. Compensation expense related to the award is based on the number of shares and units expected to vest, the period over which they are expected to vest and the fair market value of the common stock on the date of grant.

Accrued compensation expense included as a component of the Condensed Consolidated Balance Sheet was as follows:

	June 27, 2007		December 27, 2006
	(In thousands)
Liability classified restricted stock units:
Other current liabilities	$	1,202	$	848
Other noncurrent liabilities	$	3,003	$	2,675

Equity classified restricted stock units:
Additional paid-in capital	$	4,028	$	3,170

As of June 27, 2007, there was approximately $6.4 million of unrecognized compensation cost (approximately $2.0 million for liability classified units and approximately $4.4 million for equity classified units) related to all unvested restricted stock unit awards granted, which is expected to be recognized over a weighted average of 2.6 years.

Board Deferred Stock Units

During the two quarters ended June 27, 2007, we granted approximately 0.1 million deferred stock units (which are equity classified) with a weighted-average grant date fair value of $5.37 to non-employee members of the Board of Directors in return for attendance at non-regularly scheduled meetings. These awards are restricted in that they may not be exercised until the recipient has ceased serving as a member of the Board of Directors for Denny's.

Note 9. Accumulated Other Comprehensive Income (Loss)

The components of Accumulated Other Comprehensive Income (Loss) in the Condensed Consolidated Statement of Shareholder’s Deficit are as follows:

	June 27, 2007			December 27, 2006
	(In thousands)
Additional minimum pension liability	$	(17,423	)	$	(17,423	)
Unrealized gain on hedged transaction		1,475			—
Accumulated other comprehensive income (loss)	$	(15,948	)	$	(17,423	)

Note 10. Income Taxes

Adoption of FIN 48

Effective December 28, 2006, the first day of fiscal 2007, we adopted FIN 48. This interpretation clarifies the accounting for uncertainty in income tax recognized in an entity’s financial statements in accordance with Statement of Financial Accounting Standards No. 109 “Accounting for Income Taxes.” FIN 48 requires companies to determine whether it is more-likely-than-not that a tax position will be sustained upon examination by the appropriate taxing authorities before any part of the benefit can be recorded in the financial statements. This interpretation also provides guidance on derecognition, classification, accounting in interim periods, and expanded disclosure requirements. FIN 48 does not require or permit retrospective application, thus the cumulative effect of the change in accounting principle, if any, is recorded as an adjustment to opening retained earnings.

We file income tax returns in the U.S. federal jurisdictions and various state jurisdictions. With few exceptions, we are no longer subject to U.S. Federal, state and local, or non-U.S. income tax examinations by tax authorities for years before 2003.

As a result of the implementation of FIN 48, we did not recognize any change to our liability for unrecognized tax benefits. The total amount of unrecognized tax benefits as of the date of adoption was approximately $0.7 million. These benefits, if recognized, would also affect our effective tax rate.

We recognize interest and penalties accrued related to unrecognized tax benefits in income tax expense. The total amount of accrued interest and penalties at date of adoption was less than $0.1 million.

We expect that, during the next twelve months, the liability for unrecognized tax benefits will be settled in full. We remain subject to examination for U.S. Federal taxes for 2003-2006 and in the following major state jurisdictions: California (2002-2006); Florida (2003-2006) and Texas (2002-2006).

Note 11. Net Income Per Share

	Quarter Ended				Two Quarters Ended
	June 27, 2007		June 28, 2006		June 27, 2007		June 28, 2006
	(In thousands, except for per share amounts)
Numerator:
Numerator for basic and diluted net income per share - net income from continuing operations before cumulative effect of change in accounting principle	$	11,500	$	1,854	$	12,663	$	2,334
Numerator for basic and diluted net income per share - net income	$	11,500	$	1,854	$	12,663	$	2,566

Denominator:
Denominator for basic net income per share – weighted average shares		93,692		92,045		93,554		91,915
Effect of dilutive securities:
Options		4,159		4,636		4,131		4,585
Restricted stock units and awards		1,116		1,060		1,111		935
Denominator for diluted net income per share - adjusted weighted average shares and assumed conversions of dilutive securities		98,967		97,741		98,796		97,435

Basic net income per share before cumulative effect of change in accounting principle	$	0.12	$	0.02	$	0.14	$	0.03
Diluted net income per share before cumulative effect of change in accounting principle	$	0.12	$	0.02	$	0.13	$	0.02
Basic net income per share	$	0.12	$	0.02	$	0.14	$	0.03
Diluted net income per share	$	0.12	$	0.02	$	0.13	$	0.03

Stock options excluded (1)		1,853		1,580		1,799		1,378
Restricted stock units and awards excluded (1)		—		—		—		—

(1) Excluded from diluted weighted-average shares outstanding as the impact would have been antidilutive.

Note 12. Supplemental Cash Flow Information

	Two Quarters Ended
	June 27, 2007		June 28, 2006
	(In thousands)
Income taxes paid, net	$	1,231	$	671
Interest paid	$	18,144	$	26,964

Noncash financing activities:
Issuance of common stock, pursuant to share-based compensation plans	$	222	$	209
Execution of capital leases	$	597	$	1,884

Note 13. Implementation of New Accounting Standards

In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159 ("SFAS 159"), “The Fair Value Options for Financial Assets and Financial Liabilities.” SFAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value. SFAS 159 is effective for the first fiscal period beginning after November 15, 2007. We may choose to apply SFAS 159 to eligible items, existing as of the effective date, in the first quarter of fiscal 2008. We are currently evaluating the impact of adopting SFAS 159 on the Condensed Consolidated Financial Statements.

In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157 ("SFAS 157"), “Fair Value Measurements.” SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. SFAS 157 applies under other accounting pronouncements that require or permit fair value measurements, the FASB having previously concluded in those accounting pronouncements that fair value is the relevant measurement attribute. Accordingly, SFAS 157 does not require any new fair value measurements. SFAS 157 is effective for the first fiscal period beginning after November 15, 2007. We are required to adopt SFAS 157 in the first quarter of fiscal 2008. We are currently evaluating the impact of adopting SFAS 157 on our Condensed Consolidated Financial Statements.

Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies that do not require adoption until a future date are not expected to have a material impact on the Condensed Consolidated Financial Statements upon adoption.

Note 14. Commitments and Contingencies

There are various claims and pending legal actions against or indirectly involving us, including actions concerned with civil rights of employees and customers, other employment related matters, taxes, sales of franchise rights and businesses and other matters. Based on our examination of these matters and our experience to date, we have recorded our best estimate of liabilities, if any, with respect to these matters. However, the ultimate disposition of these matters cannot be determined with certainty.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion is intended to highlight significant changes in our financial position as of June 27, 2007 and results of operations for the quarter and two quarters ended June 27, 2007 compared to the quarter and two quarters ended June 28, 2006. The forward-looking statements included in Management’s Discussion and Analysis of Financial Condition and Results of Operations, which reflect our best judgment based on factors currently known, involve risks, uncertainties, and other factors which may cause our actual performance to be materially different from the performance indicated or implied by such statements. Such factors include, among others: competitive pressures from within the restaurant industry; the level of success of our operating initiatives and advertising and promotional efforts; adverse publicity; changes in business strategy or development plans; terms and availability of capital; regional weather conditions; overall changes in the general economy (including with regard to energy costs), particularly at the retail level; political environment (including acts of war and terrorism); and other factors included in the discussion below, or in Part II. Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations and Part I. Item 1A. Risk Factors, contained in our Annual Report on Form 10-K for the year ended December 27, 2006.

Statements of Operations

The following table contains information derived from our Condensed Consolidated Statements of Operations expressed as a percentage of total operating revenues, except as noted below. Percentages may not add due to rounding.

	Quarter Ended										Two Quarters Ended
	June 27, 2007					June 28, 2006					June 27, 2007					June 28, 2006
	(Dollars in thousands)										(Dollars in thousands)
Revenue:
Company restaurant sales	$	218,316		90.6	%	$	221,008		90.8	%	$	434,117		90.9	%	$	446,030		90.8	%
Franchise and license revenue		22,626		9.4	%		22,483		9.2	%		43,576		9.1	%		45,446		9.2	%
Total operating revenue		240,942		100.0	%		243,491		100.0	%		477,693		100.0	%		491,476		100.0	%

Costs of company restaurant sales (a):
Product costs		56,323		25.8	%		54,981		24.9	%		111,449		25.7	%		110,710		24.8	%
Payroll and benefits		91,932		42.1	%		91,862		41.6	%		184,800		42.6	%		185,870		41.7	%
Occupancy		13,024		6.0	%		12,589		5.7	%		26,152		6.0	%		25,726		5.8	%
Other operating expenses		31,782		14.6	%		35,882		16.2	%		62,095		14.3	%		68,326		15.3	%
Total costs of company restaurant sales		193,061		88.4	%		195,314		88.4	%		384,496		88.6	%		390,632		87.6	%

Costs of franchise and license revenue (a)		6,933		30.6	%		7,235		32.2	%		13,408		30.8	%		14,448		31.8	%

General and administrative expenses		17,167		7.1	%		15,590		6.4	%		33,093		6.9	%		32,819		6.7	%
Depreciation and amortization		12,480		5.2	%		14,120		5.8	%		25,358		5.3	%		28,185		5.7	%
Operating gains, losses and other charges		(13,047	)	(5.4	%)		(5,938	)	(2.4	%)		(15,680	)	(3.3	%)		(6,788	)	(1.4	%)
Total operating costs and expenses		216,594		89.9	%		226,321		92.9	%		440,675		92.3	%		459,296		93.5	%
Operating income		24,348		10.1	%		17,170		7.1	%		37,018		7.7	%		32,180		6.5	%
Other expenses:
Interest expense, net		10,953		4.5	%		14,847		6.1	%		22,294		4.7	%		29,490		6.0	%
Other nonoperating expense (income), net		(228	)	(0.1	%)		138		0.1	%		(425	)	(0.1	%)		(24	)	(0.0	%)
Total other expenses, net		10,725		4.5	%		14,985		6.2	%		21,869		4.6	%		29,466		6.0	%
Net income before income taxes and cumulative effect of change in accounting principle		13,623		5.7	%		2,185		0.9	%		15,149		3.2	%		2,714		0.6	%
Provision for income taxes		2,123		0.9	%		331		0.1	%		2,486		0.5	%		380		0.1	%
Net income before cumulative effect of change in accounting principle		11,500		4.8	%		1,854		0.8	%		12,663		2.7	%