10-Q 1 twc10qq32016.htm 10-Q Document

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

FORM 10-Q
(X)
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended October 2, 2016

OR
( )
 
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: 1-2207
THE WENDY’S COMPANY
(Exact name of registrants as specified in its charter)

Delaware
 
38-0471180
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
 
 
One Dave Thomas Blvd., Dublin, Ohio
 
43017
(Address of principal executive offices)
 
(Zip Code)

(614) 764-3100
(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 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 (section 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 [x] No [ ]

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.

Large accelerated filer [x]      Accelerated filer [ ]       Non-accelerated filer [ ]      Smaller reporting company [ ]

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

There were 257,028,237 shares of The Wendy’s Company common stock outstanding as of November 3, 2016.

 



THE WENDY’S COMPANY AND SUBSIDIARIES
INDEX TO FORM 10-Q
 
Page
 
 
 



2


PART I. FINANCIAL INFORMATION

Item 1. Financial Statements.

THE WENDY’S COMPANY AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In Thousands)
 
October 2,
2016
 
January 3,
2016
ASSETS
(Unaudited)
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
308,784

 
$
327,216

Restricted cash
40,776

 
42,869

Accounts and notes receivable
109,835

 
104,854

Inventories
2,653

 
4,312

Prepaid expenses and other current assets
60,026

 
69,919

Advertising funds restricted assets
90,763

 
67,399

Total current assets
612,837

 
616,569

Properties
1,207,938

 
1,227,944

Goodwill
742,234

 
770,781

Other intangible assets
1,326,134

 
1,339,587

Investments
59,687

 
58,369

Other assets
165,594

 
95,470

Total assets
$
4,114,424

 
$
4,108,720

 
 
 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
 

 
 

Current liabilities:
 

 
 

Current portion of long-term debt
$
23,830

 
$
23,290

Accounts payable
39,722

 
53,681

Accrued expenses and other current liabilities
110,671

 
124,404

Advertising funds restricted liabilities
90,763

 
67,399

Total current liabilities
264,986

 
268,774

Long-term debt
2,491,992

 
2,402,823

Deferred income taxes
444,220

 
459,713

Other liabilities
234,651

 
224,496

Total liabilities
3,435,849

 
3,355,806

Commitments and contingencies


 


Stockholders’ equity:
 
 
 
Common stock, $0.10 par value; 1,500,000 shares authorized; 470,424 shares issued
47,042

 
47,042

Additional paid-in capital
2,875,203

 
2,874,752

Accumulated deficit
(303,703
)
 
(356,632
)
Common stock held in treasury, at cost; 211,531 and 198,109 shares, respectively
(1,881,307
)
 
(1,741,425
)
Accumulated other comprehensive loss
(58,660
)
 
(70,823
)
Total stockholders’ equity
678,575

 
752,914

Total liabilities and stockholders’ equity
$
4,114,424

 
$
4,108,720


See accompanying notes to condensed consolidated financial statements.


3

THE WENDY’S COMPANY AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In Thousands Except Per Share Amounts)


 
Three Months Ended
 
Nine Months Ended
 
October 2,
2016
 
September 27,
2015
 
October 2,
2016
 
September 27,
2015
 
(Unaudited)
Revenues:
 
 
 
 
 
 
 
Sales
$
228,644

 
$
359,015

 
$
747,211

 
$
1,101,632

Franchise revenues
135,368

 
105,614

 
378,306

 
304,300

 
364,012

 
464,629

 
1,125,517

 
1,405,932

Costs and expenses:
 
 
 
 
 
 
 
Cost of sales
186,546

 
291,524

 
603,836

 
911,757

General and administrative
58,938

 
63,683

 
184,708

 
184,152

Depreciation and amortization
29,362

 
36,420

 
92,456

 
111,300

System optimization (gains) losses, net
(37,756
)
 
98

 
(48,106
)
 
(14,751
)
Reorganization and realignment costs
2,129

 
5,754

 
7,866

 
16,646

Impairment of long-lived assets
361

 
1,513

 
12,991

 
13,468

Other operating expense, net
18,344

 
9,698

 
36,201

 
25,202

 
257,924

 
408,690

 
889,952

 
1,247,774

Operating profit
106,088

 
55,939

 
235,565

 
158,158

Interest expense
(28,731
)
 
(27,938
)
 
(85,483
)
 
(57,882
)
Loss on early extinguishment of debt

 

 

 
(7,295
)
Other income, net
498

 
214

 
1,036

 
725

Income from continuing operations before income taxes
77,855

 
28,215

 
151,118

 
93,706

Provision for income taxes
(28,965
)
 
(19,892
)
 
(50,385
)
 
(42,408
)
Income from continuing operations
48,890

 
8,323

 
100,733

 
51,298

Discontinued operations:
 
 
 
 
 
 
 
(Loss) income from discontinued operations, net of income taxes

 
(417
)
 

 
9,171

(Loss) gain on disposal of discontinued operations, net of income taxes

 
(322
)
 

 
14,817

Net (loss) income from discontinued operations

 
(739
)
 

 
23,988

Net income
$
48,890

 
$
7,584

 
$
100,733

 
$
75,286

 
 
 
 
 
 
 
 
Basic income (loss) per share:
 
 
 
 
 
 
 
Continuing operations
$
.19

 
$
.03

 
$
.38

 
$
.15

Discontinued operations

 

 

 
.07

Net income
$
.19

 
$
.03

 
$
.38

 
$
.22

 
 
 
 
 
 
 
 
Diluted income (loss) per share:
 
 
 
 
 
 
 
Continuing operations
$
.18

 
$
.03

 
$
.37

 
$
.15

Discontinued operations

 

 

 
.07

Net income
$
.18

 
$
.03

 
$
.37

 
$
.22

 
 
 
 
 
 
 
 
Dividends per share
$
.06

 
$
.055

 
$
.18

 
$
.165


See accompanying notes to condensed consolidated financial statements.

4

THE WENDY’S COMPANY AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(In Thousands)


 
Three Months Ended
 
Nine Months Ended
 
October 2,
2016
 
September 27,
2015
 
October 2,
2016
 
September 27,
2015
 
(Unaudited)
 
 
 
 
 
 
 
 
Net income
$
48,890

 
$
7,584

 
$
100,733

 
$
75,286

Other comprehensive (loss) income, net:
 
 
 
 
 
 
 
Foreign currency translation adjustment
(3,369
)
 
(17,385
)
 
10,887

 
(29,879
)
Change in unrecognized pension loss, net of income tax benefit of $34 and $124, respectively

 

 
(56
)
 
(203
)
Effect of cash flow hedges, net of income tax (provision) benefit of $(279) and $(273) for the three months and $(838) and $1,217 for the nine months ended October 2, 2016 and September 27, 2015, respectively
444

 
435

 
1,332

 
(2,007
)
 Other comprehensive (loss) income, net
(2,925
)
 
(16,950
)
 
12,163

 
(32,089
)
 Comprehensive income (loss)
$
45,965

 
$
(9,366
)
 
$
112,896

 
$
43,197


See accompanying notes to condensed consolidated financial statements.

5

THE WENDY’S COMPANY AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands)

 
Nine Months Ended
 
October 2,
2016
 
September 27,
2015
 
(Unaudited)
Cash flows from operating activities:
 
 
 
Net income
$
100,733

 
$
75,286

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
94,056

 
118,708

Share-based compensation
14,260

 
18,784

Impairment of long-lived assets
12,991

 
13,468

Deferred income tax
(17,024
)
 
35,368

Excess tax benefits from share-based compensation
(2,376
)
 
(49,870
)
Non-cash rent (income) expense, net
(5,138
)
 
2,792

Net receipt of deferred vendor incentives
4,110

 
3,402

System optimization gains, net
(48,106
)
 
(14,783
)
Gain on disposal of the Bakery

 
(27,526
)
Distributions received from TimWen joint venture
8,451

 
9,198

Equity in earnings in joint ventures, net
(6,495
)
 
(6,968
)
Long-term debt-related activities, net (see below)
8,752

 
4,972

Other, net
4,229

 
307

Changes in operating assets and liabilities:
 
 
 
Restricted cash
181

 
(23,686
)
Accounts and notes receivable
(33,260
)
 
(29,046
)
Inventories
126

 
203

Prepaid expenses and other current assets
(3,958
)
 
(6,530
)
Accounts payable
(6,412
)
 
9,212

Accrued expenses and other current liabilities
5,677

 
(14,662
)
Net cash provided by operating activities
130,797

 
118,629

Cash flows from investing activities:
 

 
 

Capital expenditures
(108,744
)
 
(188,246
)
Acquisitions
(2,209
)
 
(1,232
)
Dispositions
173,849

 
46,357

Proceeds from sale of the Bakery

 
78,408

Payments for investments
(172
)
 
(2,082
)
Notes receivable, net
(2,282
)
 
2,631

Changes in restricted cash
1,912

 
484

Other, net
103

 
88

Net cash provided by (used in) investing activities
62,457

 
(63,592
)
Cash flows from financing activities:
 

 
 

Proceeds from long-term debt

 
2,294,000

Repayments of long-term debt
(18,678
)
 
(1,321,169
)
Deferred financing costs
(1,017
)
 
(42,098
)
Change in restricted cash

 
(5,687
)
Repurchases of common stock
(161,194
)
 
(1,078,404
)
Dividends
(47,793
)
 
(55,414
)
Proceeds from stock option exercises
10,623

 
22,419

Excess tax benefits from share-based compensation
2,376

 
49,870

Net cash used in financing activities
(215,683
)
 
(136,483
)
Net cash used in operations before effect of exchange rate changes on cash
(22,429
)
 
(81,446
)
Effect of exchange rate changes on cash
3,997

 
(10,130
)
Net decrease in cash and cash equivalents
(18,432
)
 
(91,576
)
Cash and cash equivalents at beginning of period
327,216

 
267,276

Cash and cash equivalents at end of period
$
308,784

 
$
175,700


6

THE WENDY’S COMPANY AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS—CONTINUED
(In Thousands)

 
 
Nine Months Ended
 
 
October 2,
2016
 
September 27,
2015
 
 
(Unaudited)
Details of cash flows from operating activities:
 
 
 
 
Long-term debt-related activities, net:
 
 
 
 
Loss on early extinguishment of debt
 
$

 
$
7,295

Accretion of long-term debt
 
914

 
890

Amortization of deferred financing costs
 
5,668

 
3,416

Payments for termination of cash flow hedges
 

 
(7,337
)
Reclassification of unrealized losses on cash flow hedges
 
2,170

 
708

 
 
$
8,752

 
$
4,972

 
 
 
 
 
Supplemental cash flow information:
 
 
 
 
Cash paid for:
 
 

 
 

Interest
 
$
85,753

 
$
55,725

Income taxes, net of refunds
 
63,775

 
16,401

 
 
 
 
 
Supplemental non-cash investing and financing activities:
 
 
 
 
Capital expenditures included in accounts payable
 
$
20,108

 
$
25,970

Capitalized lease obligations
 
102,748

 
25,657

Accrued debt issuance costs
 
472

 
1,653


See accompanying notes to condensed consolidated financial statements.



7

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)


(1) Basis of Presentation

The accompanying unaudited condensed consolidated financial statements (the “Financial Statements”) of The Wendy’s Company (“The Wendy’s Company” and, together with its subsidiaries, the “Company,” “we,” “us” or “our”) have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and, therefore, do not include all information and footnotes required by GAAP for complete financial statements. In our opinion, the Financial Statements contain all adjustments necessary to present fairly our financial position as of October 2, 2016 and the results of our operations for the three and nine months ended October 2, 2016 and September 27, 2015 and cash flows for the nine months ended October 2, 2016 and September 27, 2015. The results of operations for the three and nine months ended October 2, 2016 are not necessarily indicative of the results to be expected for the full 2016 fiscal year. These Financial Statements should be read in conjunction with the audited consolidated financial statements for The Wendy’s Company and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended January 3, 2016 (the “Form 10-K”).

The principal subsidiary of the Company is Wendy’s International, LLC and its subsidiaries (“Wendy’s”). The Company manages and internally reports its business geographically. The operation and franchising of Wendy’s® restaurants in North America (defined as the United States of America (“U.S.”) and Canada) comprises virtually all of our current operations and represents a single reportable segment. The revenues and operating results of Wendy’s restaurants outside of North America are not material.

We report on a fiscal year consisting of 52 or 53 weeks ending on the Sunday closest to or on December 31. All three and nine month periods presented herein contain 13 weeks and 39 weeks, respectively. All references to years and quarters relate to fiscal periods rather than calendar periods.

On May 31, 2015, Wendy’s completed the sale of its company-owned bakery, The New Bakery Company, LLC and its subsidiaries (collectively, the “Bakery”), a 100% owned subsidiary of Wendy’s. As a result of the sale of the Bakery, as further discussed in Note 2, the Bakery’s results of operations for the period from December 29, 2014 through May 31, 2015 and the gain on disposal have been included in “Net (loss) income from discontinued operations” in our condensed consolidated statements of operations.

The Company records rental income, including any related amortization of favorable and unfavorable lease balances, for properties leased or subleased to franchisees to “Franchise revenues.” Lease expense, including any related amortization, for leased properties that are subsequently subleased to franchisees is recorded to “Other operating expense, net.” We further describe our accounting for leases in our Form 10-K.

The following table presents the franchise rental income and lease expense included in our condensed consolidated statements of operations:
 
Three Months Ended
 
Nine Months Ended
 
October 2,
2016
 
September 27,
2015
 
October 2,
2016
 
September 27,
2015
Rental income
$
37,329

 
$
22,492

 
$
102,420

 
$
60,548

Lease expense
17,534

 
12,428

 
49,684

 
33,736


In connection with the reimaging of restaurants as part of our Image Activation program, we have recorded accelerated depreciation of $2,930 and $6,578 during the nine months ended October 2, 2016 and September 27, 2015, respectively, on certain long-lived assets to reflect their use over shortened estimated useful lives. We describe the circumstances under which we record accelerated depreciation for properties in our Form 10-K.

Certain reclassifications have been made to the prior year presentation to conform to the current year presentation.


8

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

(2) Discontinued Operations

On May 31, 2015, Wendy’s completed the sale of 100% of its membership interest in the Bakery to East Balt US, LLC (the “Buyer”) for $78,500 in cash (subject to customary purchase price adjustments). The Company also assigned certain capital leases for transportation equipment to the Buyer but retained the related obligation, which was settled during 2015. Pursuant to the sale agreement, the Company was obligated to continue to provide health insurance benefits to the Bakery’s employees at the Company’s expense through December 31, 2015. The Company recorded a pre-tax gain on the disposal of the Bakery of $27,526 during the nine months ended September 27, 2015, which included transaction closing costs and a reduction of goodwill. The Company recognized income tax expense associated with the gain on disposal of $12,709 during the nine months ended September 27, 2015, which included the impact of the disposal of non-deductible goodwill.

In conjunction with the Bakery sale, Wendy’s entered into a transition services agreement with the Buyer, pursuant to which Wendy’s provided certain continuing corporate and shared services to the Buyer through March 31, 2016 for no additional consideration. A purchasing cooperative, Quality Supply Chain Co-op, Inc. (“QSCC”), established by Wendy’s and its franchisees, agreed to continue to source sandwich buns from the Bakery for a specified time period following the sale of the Bakery. As a result, Wendy’s paid the Buyer $7,718 and $4,699 for the purchase of sandwich buns during the nine months ended October 2, 2016 and for the period from June 1, 2015 through September 27, 2015, respectively, which has been recorded to “Cost of sales.”

Information related to the Bakery has been reflected in the accompanying condensed consolidated financial statements as follows:

Balance sheets - As a result of our sale of the Bakery on May 31, 2015, there are no remaining Bakery assets and liabilities.

Statements of operations - The Bakery’s results of operations for the period from December 29, 2014 through May 31, 2015 have been presented as discontinued operations. In addition, the gain on disposal of the Bakery has been included in “Net (loss) income from discontinued operations” for the three and nine months ended September 27, 2015.

Statements of cash flows - The Bakery’s cash flows prior to its sale (for the period from December 29, 2014 through May 31, 2015) have been included in, and not separately reported from, our consolidated statement of cash flows. The consolidated statement of cash flows for the nine months ended September 27, 2015 also includes the effects of the sale of the Bakery.

9

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)


The following table presents the Bakery’s results of operations and the gain on disposal, which have been included in discontinued operations:
 
Three Months
Ended
 
Nine Months Ended
 
September 27, 2015 (e)
 
September 27,
2015
Revenues (a)
$

 
$
25,885

Cost of sales (b)
(207
)
 
(7,543
)
 
(207
)
 
18,342

General and administrative
4

 
(1,093
)
Depreciation and amortization (c)

 
(2,297
)
Other income (expense), net (d)
15

 
(19
)
(Loss) income from discontinued operations before income taxes
(188
)
 
14,933

Provision for income taxes
(229
)
 
(5,762
)
(Loss) income from discontinued operations, net of income taxes
(417
)
 
9,171

Gain on disposal of discontinued operations before income taxes
188

 
27,526

Provision for income taxes on gain on disposal
(510
)
 
(12,709
)
(Loss) gain on disposal of discontinued operations, net of income taxes
(322
)
 
14,817

Net (loss) income from discontinued operations
$
(739
)
 
$
23,988

_______________

(a)
Includes sales of sandwich buns and related products previously reported in “Sales” as well as rental income.

(b)
The nine months ended September 27, 2015 includes employee separation costs of $791 as a result of the sale of the Bakery. In addition, the nine months ended September 27, 2015 includes a reduction to cost of sales of $12,486, as further described in the Form 10-K, resulting from the reversal of a liability recorded during 2013 associated with the Bakery’s withdrawal from a multiemployer pension plan.

(c)
Included in “Depreciation and amortization” in our condensed consolidated statement of cash flows for the period presented.

(d)
Includes net gains on sales of other assets.  During the nine months ended September 27, 2015, the Bakery received cash proceeds of $50 resulting in net gains on sales of other assets of $32.

(e)
Represents post-closing adjustments recorded during the third quarter of 2015.

The Bakery’s capital expenditures were $2,693 for the nine months ended September 27, 2015, which are included in “Capital expenditures” in our condensed consolidated statement of cash flows.


10

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

The following table summarizes the gain on the disposal of our Bakery, which has been included in discontinued operations:
 
Nine Months
Ended
 
September 27,
2015
Proceeds from sale of the Bakery (a)
$
78,408

Net working capital (b)
(5,655
)
Net properties sold (c)
(30,664
)
Goodwill allocated to the sale of the Bakery
(12,067
)
Other (d)
(2,684
)
 
27,338

Post-closing adjustments on the sale of the Bakery
188

 
27,526

Provision for income taxes (e)
(12,709
)
Gain on disposal of discontinued operations, net of income taxes
$
14,817

_______________

(a)
Represents net proceeds received, which includes the purchase price of $78,500 less transaction closing costs paid directly by the Buyer on the Company’s behalf.

(b)
Primarily represents accounts receivable, inventory, prepaid expenses and accounts payable.

(c)
Net properties sold consisted primarily of buildings, equipment and capital leases for transportation equipment.

(d)
Primarily includes the recognition of the Company’s obligation, pursuant to the sale agreement, to provide health insurance benefits to the Bakery’s employees through December 31, 2015 of $1,993 and transaction closing costs paid directly by the Company.

(e)
Includes the impact of non-deductible goodwill disposed of as a result of the sale.

(3) System Optimization (Gains) Losses, Net

In July 2013, the Company announced a system optimization initiative, as part of its brand transformation, which includes a shift from company-owned restaurants to franchised restaurants over time, through acquisitions and dispositions, as well as facilitating franchisee-to-franchisee restaurant transfers. In February 2015, the Company announced plans to sell approximately 540 additional restaurants to franchisees and reduce its ongoing company-owned restaurant ownership to approximately 5% of the total system by the end of 2016. During 2015, 2014 and 2013, the Company completed the sale of 327, 255 and 244 company-owned restaurants to franchisees, respectively, which included the sale of all of its company-owned restaurants in Canada.

During the nine months ended October 2, 2016 and September 27, 2015, the Company completed the sale of 211 and 109 company-owned restaurants to franchisees, respectively. The Company recognized net gains totaling $48,106 and $14,751 on the sale of company-owned restaurants and other assets during the nine months ended October 2, 2016 and September 27, 2015, respectively. In addition, the Company facilitated the transfer of 144 restaurants between franchisees during the nine months ended October 2, 2016. The Company expects to complete its plan to reduce company-owned restaurant ownership to approximately 5% of the total system with the sale of 98 restaurants during the remainder of 2016, all of which were classified as held for sale as of October 2, 2016.

Gains and losses recognized on dispositions are recorded to “System optimization (gains) losses, net” in our condensed consolidated statements of operations. Costs related to our system optimization initiative are recorded to “Reorganization and realignment costs,” and include severance and employee related costs, professional fees and other associated costs, which are further described in Note 5.


11

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

The following is a summary of the disposition activity recorded as a result of our system optimization initiative:
 
Three Months Ended
 
Nine Months Ended
 
October 2,
2016
 
September 27,
2015
 
October 2,
2016
 
September 27,
2015
Number of restaurants sold to franchisees
156

 
9

 
211

 
109

 
 
 
 
 
 
 
 
Proceeds from sales of restaurants
$
124,765

 
$
3,084

 
$
164,380

 
$
39,133

Net assets sold (a)
(58,227
)
 
(1,867
)
 
(75,282
)
 
(19,247
)
Goodwill related to sales of restaurants
(24,254
)
 
(483
)
 
(30,630
)
 
(8,346
)
Net (unfavorable) favorable leases (b)
(6,225
)
 
(1,506
)
 
(11,131
)
 
5,889

Other (c)
(726
)
 

 
(1,521
)
 
(3,224
)
 
35,333

 
(772
)
 
45,816

 
14,205

Post-closing adjustments on sales of restaurants (d)
(120
)
 
(495
)
 
(1,710
)
 
(1,134
)
Gain (loss) on sales of restaurants, net
35,213

 
(1,267
)
 
44,106

 
13,071

 
 
 
 
 
 
 
 
Gain on sales of other assets, net (e)
2,543

 
1,169

 
4,000

 
1,680

System optimization gains (losses), net
$
37,756

 
$
(98
)
 
$
48,106

 
$
14,751

_______________

(a)
Net assets sold consisted primarily of inventory and equipment.

(b)
During the three and nine months ended October 2, 2016, the Company recorded favorable lease assets of $2,114 and $2,297, respectively, and unfavorable lease liabilities of $8,339 and $13,428, respectively, as a result of leasing and/or subleasing land, buildings and/or leasehold improvements to franchisees in connection with sales of restaurants. During the three and nine months ended September 27, 2015, the Company recorded favorable lease assets of $185 and $25,992, respectively, and unfavorable lease liabilities of $1,691and $20,103, respectively.

(c)
The nine months ended September 27, 2015 includes a deferred gain of $2,658 related to the sale of 14 Canadian restaurants to a franchisee during the second quarter of 2015, as a result of certain contingencies related to the extension of lease terms. The deferred gain is included in “Other liabilities.” The nine months ended September 27, 2015 also includes a note receivable of $1,801 from a franchisee in connection with the sale of 16 Canadian restaurants, which was recognized as part of the overall loss on sale during the second quarter of 2015.

(d)
The nine months ended September 27, 2015 includes the recognition of a gain on sale of $2,450 related to the repayment of notes receivable from franchisees in connection with sales of restaurants in 2014.

(e)
During the three and nine months ended October 2, 2016, the Company received cash proceeds of $4,006 and $9,469, respectively, primarily from the sale of surplus properties. During the three and nine months ended September 27, 2015, the Company received cash proceeds of $4,576 and $7,174, respectively.


12

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

Assets Held for Sale
 
October 2,
2016
 
January 3, 2016
Number of restaurants classified as held for sale
98

 
99

Net restaurant assets held for sale (a)
$
37,370

 
$
50,262

 
 
 
 
Other assets held for sale (a)
$
4,198

 
$
7,124

_______________

(a)
Net restaurant assets held for sale include company-owned restaurants and consist primarily of cash, inventory, equipment and an estimate of allocable goodwill. Other assets held for sale primarily consist of surplus properties. Assets held for sale are included in “Prepaid expenses and other current assets.”

As part of our system optimization initiative, the Company completed sales of certain assets used in the operation of 52 Wendy’s company-owned restaurants subsequent to October 2, 2016 for cash proceeds of approximately $36,600, subject to customary purchase price adjustments.

(4) Acquisitions

The table below presents the allocation of the total purchase price to the fair value of assets acquired and liabilities assumed for acquisitions of franchised restaurants:
 
Nine Months Ended
 
October 2,
2016
 
September 27,
2015
Restaurants acquired from franchisees
2

 
4

 
 
 
 
Total consideration paid, net of cash received
$
2,209

 
$
1,232

   Identifiable assets acquired and liabilities assumed:
 
 
 
       Properties
2,218

 
1,303

       Acquired franchise rights

 
760

       Other assets
9

 

       Capital lease obligations

 
(438
)
       Unfavorable leases

 
(440
)
       Other liabilities
(18
)
 
(80
)
            Total identifiable net assets
2,209
 
1,105
Goodwill
$

 
$
127



13

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

(5) Reorganization and Realignment Costs

The following is a summary of the initiatives included in “Reorganization and realignment costs:”
 
Three Months Ended
 
Nine Months Ended
 
October 2,
2016
 
September 27,
2015
 
October 2,
2016
 
September 27,
2015
G&A realignment
$
38

 
$
1,461

 
$
971

 
$
9,996

System optimization initiative
2,091

 
4,293

 
6,895

 
6,650

Reorganization and realignment costs
$
2,129

 
$
5,754

 
$
7,866

 
$
16,646


General and Administrative (G&A”) Realignment

In November 2014, the Company initiated a plan to reduce its general and administrative expenses. The plan included a realignment and reinvestment of resources to focus primarily on accelerated restaurant development and consumer-facing restaurant technology to drive long-term growth. The Company achieved the majority of the expense reductions through the realignment of its U.S. field operations and savings at its Restaurant Support Center in Dublin, Ohio, which was substantially completed by the end of the second quarter of 2015. The Company recognized costs totaling $971 during the nine months ended October 2, 2016 and $24,239 in aggregate since inception. The Company expects to incur additional costs aggregating approximately $350 during the remainder of 2016, comprised primarily of recruitment and relocation costs for the reinvestment in resources to drive long-term growth.

The following is a summary of the activity recorded as a result of our G&A realignment plan:
 
Three Months Ended
 
Nine Months Ended
 
Total
Incurred
Since
Inception
 
October 2,
2016
 
September 27,
2015
 
October 2,
2016
 
September 27,
2015
 
Severance and related employee costs (a)
$

 
$
513

 
$
11

 
$
3,132

 
$
14,939

Recruitment and relocation costs
29

 
270

 
922

 
1,254

 
2,789

Other
9

 
2

 
38

 
43

 
175

 
38

 
785

 
971

 
4,429

 
17,903

Share-based compensation (b)

 
676

 

 
5,567

 
6,336

   Total G&A realignment
$
38

 
$
1,461

 
$
971

 
$
9,996

 
$
24,239

_______________

(a)
The nine months ended October 2, 2016 includes a reversal of an accrual of $32 as a result of a change in estimate.

(b)
Represents incremental share-based compensation resulting from the modification of stock options and performance-based awards in connection with the termination of employees under our G&A realignment plan.

The tables below present a rollforward of our accruals for our G&A realignment plan, which are included in “Accrued expenses and other current liabilities.”
 
Balance
January 3, 2016
 
Charges
 
Payments
 
Balance
October 2, 2016
Severance and related employee costs
$
3,431

 
$
11

 
$
(2,642
)
 
$
800

Recruitment and relocation costs
144

 
922

 
(991
)
 
75

Other

 
38

 
(38
)
 

 
$
3,575

 
$
971

 
$
(3,671
)
 
$
875



14

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

 
 
Balance
December 28, 2014
 
Charges
 
Payments
 
Balance
September 27,
2015
Severance and related employee costs
 
$
11,609

 
$
3,132

 
$
(9,256
)
 
$
5,485

Recruitment and relocation costs
 
149

 
1,254

 
(1,238
)
 
165

Other
 
5

 
43

 
(48
)
 

 
 
$
11,763

 
$
4,429

 
$
(10,542
)
 
$
5,650


System Optimization Initiative

The Company has recognized costs related to its system optimization initiative, which includes a shift from company-owned restaurants to franchised restaurants over time, through acquisitions and dispositions, as well as facilitating franchisee-to-franchisee restaurant transfers. The Company expects to incur additional costs of approximately $3,700 during the remainder of 2016, which are primarily comprised of professional fees.

The following is a summary of the costs recorded as a result of our system optimization initiative:
 
Three Months Ended
 
Nine Months Ended
 
Total
Incurred Since Inception
 
October 2,
2016
 
September 27,
2015
 
October 2,
2016
 
September 27,
2015
 
Severance and related employee costs
$
28

 
$
225

 
$
46

 
$
854

 
$
18,198

Professional fees
1,991

 
242

 
5,137

 
393

 
14,310

Other (a)
72

 
337

 
112

 
292

 
5,583

 
2,091

 
804

 
5,295

 
1,539

 
38,091

Accelerated depreciation and
   amortization (b)

 
3,489

 
1,600

 
5,111

 
25,398

Share-based compensation (c)

 

 

 

 
5,013

Total system optimization initiative
$
2,091

 
$
4,293

 
$
6,895

 
$
6,650

 
$
68,502

_______________

(a)
The nine months ended October 2, 2016 and September 27, 2015 include a reversal of an accrual of $50 and $210, respectively, as a result of a change in estimate.

(b)
Primarily includes accelerated amortization of previously acquired franchise rights related to company-owned restaurants in territories that have been sold in connection with our system optimization initiative.

(c)
Represents incremental share-based compensation resulting from the modification of stock options and performance-based awards in connection with the termination of employees under our system optimization initiative.

The tables below present a rollforward of our accrual for our system optimization initiative, which is included in “Accrued expenses and other current liabilities.”
 
Balance
January 3,
2016
 
Charges
 
Payments
 
Balance
October 2,
2016
Severance and related employee costs
$
77

 
$
46

 
$
(123
)
 
$

Professional fees
708

 
5,137

 
(5,740
)
 
105

Other
90

 
112

 
(202
)
 

 
$
875

 
$
5,295

 
$
(6,065
)
 
$
105



15

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

 
Balance
December 28,
2014
 
Charges
 
Payments
 
Balance
September 27,
2015
Severance and related employee costs
$
2,235

 
$
854

 
$
(3,003
)
 
$
86

Professional fees
146

 
393

 
(488
)
 
51

Other
423

 
292

 
(523
)
 
192

 
$
2,804

 
$
1,539

 
$
(4,014
)
 
$
329


(6) Investments

Equity Investments

Wendy’s has a 50% share in a partnership in a Canadian restaurant real estate joint venture (“TimWen”) with a subsidiary of Restaurant Brands International Inc., a quick-service restaurant company that owns the Tim Hortons® brand. (Tim Hortonsis a registered trademark of Tim Hortons USA Inc.) In addition, the Company has a 20% share in a joint venture for the operation of Wendy’s restaurants in Brazil (the “Brazil JV”). The Company has significant influence over these investees. Such investments are accounted for using the equity method of accounting, under which our results of operations include our share of the income (loss) of the investees in “Other operating expense, net.”

Presented below is activity related to our investment in TimWen and the Brazil JV included in our condensed consolidated financial statements:
 
Nine Months Ended
 
October 2,
2016
 
September 27,
2015
Balance at beginning of period
$
55,541

 
$
69,790

 
 
 
 
Investment
172

 

 
 
 
 
Equity in earnings for the period
8,207

 
8,689

Amortization of purchase price adjustments (a)
(1,712
)
 
(1,721
)
 
6,495

 
6,968

Distributions received
(8,451
)
 
(9,198
)
Foreign currency translation adjustment included in “Other comprehensive (loss) income, net”
3,204

 
(8,928
)
Balance at end of period
$
56,961

 
$
58,632

_______________

(a)
Purchase price adjustments that impacted the carrying value of the Company’s investment in TimWen are being amortized over the average original aggregate life of 21 years.


16

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

(7) Fair Value Measurements

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Valuation techniques under the accounting guidance related to fair value measurements are based on observable and unobservable inputs. Observable inputs reflect readily obtainable data from independent sources, while unobservable inputs reflect our market assumptions. These inputs are classified into the following hierarchy:

Level 1 Inputs - Quoted prices for identical assets or liabilities in active markets.

Level 2 Inputs - Quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; and model-derived valuations whose inputs are observable or whose significant value drivers are observable.

Level 3 Inputs - Pricing inputs are unobservable for the assets or liabilities and include situations where there is little, if any, market activity for the assets or liabilities. The inputs into the determination of fair value require significant management judgment or estimation.

Financial Instruments

The following table presents the carrying amounts and estimated fair values of the Company’s financial instruments:
 
October 2,
2016
 
January 3,
2016
 
 
 
Carrying
Amount
 
Fair
Value
 
Carrying
Amount
 
Fair
Value
 
Fair Value
Measurements
Financial assets
 
 
 
 
 
 
 
 
 
Cash equivalents
$
88,247

 
$
88,247

 
$
45,339

 
$
45,339

 
Level 1
Non-current cost method investments (a)
2,726

 
301,991

 
2,828

 
249,870

 
Level 3
 
 
 
 
 
 
 
 
 
 
Financial liabilities
 
 
 
 
 
 
 
 
 
Series 2015-1 Class A-2-I Notes (b)
866,250

 
866,943

 
872,813

 
849,106

 
Level 2
Series 2015-1 Class A-2-II Notes (b)
891,000

 
900,088

 
897,750

 
879,795

 
Level 2
Series 2015-1 Class A-2-III Notes (b)
495,000

 
491,090

 
498,750

 
484,648

 
Level 2
7% debentures, due in 2025 (b)
87,971

 
101,000

 
87,057

 
100,500

 
Level 2
Guarantees of franchisee loan obligations (c)
301

 
301

 
851

 
851

 
Level 3
_______________

(a)
The fair value of our indirect investment in Arby’s Restaurant Group, Inc. (“Arby’s”) is based on applying a multiple to Arby’s adjusted earnings before income taxes, depreciation and amortization per its current unaudited financial information. The carrying value of our indirect investment in Arby’s was reduced to zero during 2013 in connection with the receipt of a dividend. The fair values of our remaining investments are not significant and are based on our review of information provided by the investment managers or investees which was based on (1) valuations performed by the investment managers or investees, (2) quoted market or broker/dealer prices for similar investments and (3) quoted market or broker/dealer prices adjusted by the investment managers for legal or contractual restrictions, risk of nonperformance or lack of marketability, depending upon the underlying investments.

(b)
The fair values were based on quoted market prices in markets that are not considered active markets.

(c)
Wendy’s has provided loan guarantees to various lenders on behalf of franchisees entering into debt arrangements for new restaurant development and equipment financing. In addition, during 2012, Wendy’s provided a guarantee to a lender for a franchisee in connection with the refinancing of the franchisee’s debt. We have accrued a liability for the fair value of these guarantees, the calculation of which was based upon a weighted average risk percentage established at inception and adjusted for a history of defaults.


17

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

The carrying amounts of cash, accounts payable and accrued expenses approximated fair value due to the short-term nature of those items. The carrying amounts of accounts and notes receivable (both current and non-current) approximated fair value due to the effect of the related allowance for doubtful accounts. Our cash and cash equivalents and guarantees are the only financial assets and liabilities measured and recorded at fair value on a recurring basis.

Derivative Instruments

The Company’s primary objective for entering into interest rate swap agreements was to manage its exposure to changes in interest rates, as well as to maintain an appropriate mix of fixed and variable rate debt.

Our derivative instruments for the nine months ended September 27, 2015 included seven forward-starting interest rate swaps designated as cash flow hedges to change the floating rate interest payments for $350,000 and $100,000 in borrowings associated with the Term A and Term B Loans, respectively, under the Company’s prior credit agreement, to fixed rate interest payments beginning June 30, 2015 and maturing on December 31, 2017. In May 2015, the Company terminated these interest rate swaps and paid $7,275, which was recorded against the derivative liability. The unrealized loss on the cash flow hedges at termination of $7,275 is being reclassified on a straight-line basis from “Accumulated other comprehensive loss” to “Interest expense” beginning June 30, 2015 (the original effective date of the interest rate swaps) through December 31, 2017 (the original maturity date of the interest rate swaps). Reclassifications of unrealized losses on cash flow hedges from “Accumulated other comprehensive loss” to “Interest expense” were $723 and $2,170 for the three and nine months ended October 2, 2016, respectively, and $708 for both the three and nine months ended September 27, 2015.

There was no hedge ineffectiveness from these cash flows hedges through their termination in May 2015.

Non-Recurring Fair Value Measurements

Assets and liabilities remeasured to fair value on a non-recurring basis during the nine months ended October 2, 2016 and the year ended January 3, 2016 resulted in impairment that we have recorded to “Impairment of long-lived assets” in our condensed consolidated statements of operations.

Total losses for the nine months ended October 2, 2016 and the year ended January 3, 2016 reflect the impact of remeasuring long-lived assets held and used (including land, buildings, leasehold improvements and favorable lease assets) to fair value as a result of (1) the Company’s decision to lease and/or sublease the land and/or buildings to franchisees in connection with the sale or anticipated sale of restaurants and (2) declines in operating performance at company-owned restaurants. The fair value of long-lived assets held and used presented in the tables below represents the remaining carrying value and was estimated based on either discounted cash flows of future anticipated lease and sublease income or current market values.

Total losses for the nine months ended October 2, 2016 and the year ended January 3, 2016 also include the impact of remeasuring long-lived assets held for sale, which primarily include surplus properties. The fair values of long-lived assets held for sale presented in the tables below represent the remaining carrying value and were estimated based on current market values. See Note 8 for more information on impairment of our long-lived assets.

 
 
 
Fair Value Measurements
 
Nine Months Ended
October 2, 2016
 Total Losses
 
October 2,
2016
 
Level 1
 
Level 2
 
Level 3
 
Held and used
$
5,471

 
$

 
$

 
$
5,471

 
$
12,768

Held for sale
1,642

 

 

 
1,642

 
223

Total
$
7,113

 
$

 
$

 
$
7,113

 
$
12,991


 
 
 
Fair Value Measurements
 
2015
Total Losses
 
January 3, 2016
 
Level 1
 
Level 2
 
Level 3
 
Held and used
$
10,244

 
$

 
$

 
$
10,244

 
$
22,346

Held for sale
4,328

 

 

 
4,328

 
2,655

Total
$
14,572

 
$

 
$

 
$
14,572

 
$
25,001


18

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

(8) Impairment of Long-Lived Assets

During the three and nine months ended October 2, 2016 and September 27, 2015, the Company recorded impairment charges on long-lived assets as a result of (1) the Company’s decision to lease and/or sublease properties to franchisees in connection with the sale or anticipated sale of company-owned restaurants, (2) closing company-owned restaurants and classifying such properties as held for sale and (3) the deterioration in operating performance of certain company-owned restaurants and charges for capital improvements in restaurants impaired in prior years which did not subsequently recover. The Company may recognize additional impairment charges resulting from leasing or subleasing additional properties to franchisees in connection with sales of company-owned restaurants to franchisees.

The following is a summary of impairment losses recorded, which represent the excess of the carrying amount over the fair value of the affected assets and are included in “Impairment of long-lived assets.”

 
Three Months Ended
 
Nine Months Ended
 
October 2,
2016
 
September 27,
2015
 
October 2,
2016
 
September 27,
2015
Restaurants leased or subleased to franchisees
$
163

 
$
1,235

 
$
12,654

 
$
9,491

Surplus properties
119

 
59

 
223

 
1,211

Company-owned restaurants
79

 
219

 
114

 
2,766

 
$
361

 
$
1,513

 
$
12,991

 
$
13,468


(9) Income Taxes

The Company’s effective tax rate on income from continuing operations for the three months ended October 2, 2016 and September 27, 2015 was 37.2% and 70.5%, respectively. The Company’s effective tax rate varies from the U.S. federal statutory rate of 35% due to the effect of (1) non-deductible goodwill disposed of in connection with our system optimization initiative described in Note 3, (2) state income taxes net of federal benefits, including non-recurring changes to state deferred taxes, (3) changes to valuation allowances on state net operating loss carryforwards due to changes in expected future state taxable income available to utilize certain state net operating loss carryforwards and (4) employment credits.

The Company’s effective tax rate on income from continuing operations for the nine months ended October 2, 2016 and September 27, 2015 was 33.3% and 45.3%, respectively. The Company’s effective tax rate varies from the U.S. federal statutory rate of 35% due to the effect of (1) changes to valuation allowances on state net operating loss carryforwards due to the expected sale of restaurants under our system optimization initiative, including a correction to a prior year identified and recorded in the first quarter of 2016, which resulted in a benefit of $2,878, (2) state income taxes net of federal benefits, including non-recurring changes to state deferred taxes, (3) non-deductible goodwill disposed of in connection with our system optimization initiative, including a correction to a prior year identified and recorded in the second quarter of 2016, which resulted in a benefit of $4,235 and (4) employment credits. The Company evaluated the corrections of the prior year errors in relation to the estimated income for the full fiscal year and to the trend on earnings. The Company concluded that correcting the errors did not materially affect the estimated 2016 full year income.

There were no significant changes to unrecognized tax benefits or related interest and penalties for the Company for the nine months ended October 2, 2016. During the next twelve months, we believe that it is reasonably possible the Company will reduce its unrecognized tax benefits by up to $393, primarily due to expected settlements with taxing authorities.

The Company includes refundable income taxes in “Accounts and notes receivable” in the accompanying condensed consolidated balance sheets.  Refundable income taxes were $22,411 and $23,508 as of October 2, 2016 and January 3, 2016, respectively.


19

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

(10) Net Income Per Share

Basic net income per share was computed by dividing net income amounts by the weighted average number of common shares outstanding.

The weighted average number of shares used to calculate basic and diluted net income per share were as follows:
 
Three Months Ended
 
Nine Months Ended
 
October 2,
2016
 
September 27,
2015
 
October 2,
2016
 
September 27,
2015
Common stock:
 
 
 
 
 
 
 
Weighted average basic shares outstanding
260,976

 
292,256

 
265,702

 
340,869

Dilutive effect of stock options and restricted shares
3,832

 
4,695

 
4,239

 
6,032

Weighted average diluted shares outstanding
264,808

 
296,951

 
269,941

 
346,901


Diluted net income per share for the three and nine months ended October 2, 2016 and September 27, 2015 was computed by dividing net income by the weighted average number of basic shares outstanding plus the potential common share effect of dilutive stock options and restricted shares. We excluded potential common shares of 2,233 and 2,072 for the three and nine months ended October 2, 2016, respectively, and 3,118 and 1,439 for the three and nine months ended September 27, 2015, respectively, from our diluted net income per share calculation as they would have had anti-dilutive effects.

(11) Stockholders’ Equity

Stockholders’ Equity

The following is a summary of the changes in stockholders’ equity:
 
Nine Months Ended
 
October 2,
2016
 
September 27,
2015
Balance at beginning of period
$
752,914

 
$
1,717,576

Comprehensive income
112,896

 
43,197

Cash dividends
(47,793
)
 
(55,414
)
Repurchases of common stock
(162,492
)
 
(1,078,404
)
Share-based compensation
14,260

 
18,784

Exercises of stock options
10,600

 
17,996

Vesting of restricted shares
(3,853
)
 
(7,323
)
Tax benefit from share-based compensation
1,898

 
48,897

Other
145

 
148

Balance at end of period
$
678,575

 
$
705,457



20

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

Repurchases of Common Stock

On June 1, 2015, our Board of Directors authorized a repurchase program for up to $1,400,000 of our common stock through January 1, 2017, when and if market conditions warrant and to the extent legally permissible. During the first nine months of 2016, the Company repurchased 16,034 shares with an aggregate purchase price of $162,252, of which $2,998 was accrued at October 2, 2016 and excluding commissions of $240. As of October 2, 2016, the Company had $215,904 of availability remaining under its June 2015 authorization. Subsequent to October 2, 2016 through November 3, 2016, the Company repurchased 2,108 shares with an aggregate purchase price of $22,734, excluding commissions of $32. The Company announced its intention to complete substantially all of the $1,400,000 share repurchase program by entering into an accelerated share repurchase agreement for $150,000 during the fourth quarter of 2016.

Also as part of the June 2015 authorization, the Company commenced an $850,000 share repurchase program on June 3, 2015, which included (1) a modified Dutch auction tender offer to repurchase up to $639,000 of our common stock and (2) a separate stock purchase agreement to repurchase up to $211,000 of our common stock from Nelson Peltz, Peter W. May (Messrs. Peltz and May are members of the Company’s Board of Directors) and Edward P. Garden (who served on the Company’s Board of Directors until December 14, 2015) and certain of their family members and affiliates, investment funds managed by Trian Fund Management, L.P. (an investment management firm controlled by Messrs. Peltz, May and Garden, “TFM”) and the general partner of certain of those funds (together with Messrs. Peltz, May and Garden, certain of their family members and affiliates and TFM, the “Trian Group”). On June 30, 2015, the tender offer expired and on July 8, 2015, the Company repurchased 55,808 shares at $11.45 per share for an aggregate purchase price of $639,000. On July 17, 2015, the Company repurchased 18,416 shares at $11.45 per share, pursuant to the separate stock purchase agreement, for an aggregate purchase price of $210,867. As a result, the $850,000 share repurchase program that commenced on June 3, 2015 was completed during the third quarter of 2015. During the nine months ended September 27, 2015, the Company incurred costs of $2,288 in connection with the tender offer and Trian Group stock purchase agreement, which were recorded to treasury stock.

In August 2015, the Company entered into an accelerated share repurchase agreement (the “ASR Agreement”) with a third-party financial institution to repurchase common stock as part of the Company’s existing share repurchase programs. Under the ASR Agreement, the Company paid the financial institution an initial purchase price of $164,500 in cash and received an initial delivery of 14,385 shares of common stock, representing an estimate of 85% of the total shares expected to be delivered under the ASR Agreement. The total number of shares of common stock ultimately purchased by the Company under the ASR Agreement was based on the average of the daily volume-weighted average prices of the common stock during the term of the ASR Agreement, less an agreed discount. On September 25, 2015, the Company completed the ASR Agreement and received an additional 3,551 shares of common stock. During the three and nine months ended September 27, 2015, the Company incurred costs of $32 in connection with the ASR Agreement, which were recorded to treasury stock.

In August 2014, our Board of Directors authorized a repurchase program for up to $100,000 of our common stock through December 31, 2015, when and if market conditions warrant and to the extent legally permissible. As part of the August 2014 authorization, $76,111 remained available as of December 28, 2014. During the first and second quarters of 2015, the Company repurchased 5,655 shares with an aggregate purchase price of $61,631, excluding commissions of $86. During the third quarter of 2015, the Company repurchased $14,480 through the accelerated share repurchase agreement described above. As a result, the $100,000 share repurchase program authorized in August 2014 was completed.


21

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

Accumulated Other Comprehensive Loss

The following table provides a rollforward of the components of accumulated other comprehensive loss, net of tax as applicable:
 
Foreign Currency Translation
 
Cash Flow Hedges (a)
 
Pension
 
Total
Balance at January 3, 2016
$
(66,163
)
 
$
(3,571
)
 
$
(1,089
)
 
$
(70,823
)
Current-period other comprehensive income (loss)
10,887

 
1,332

 
(56
)
 
12,163

Balance at October 2, 2016
$
(55,276
)
 
$
(2,239
)
 
$
(1,145
)
 
$
(58,660
)
 
 
 
 
 
 
 
 
Balance at December 28, 2014
$
(28,363
)
 
$
(2,044
)
 
$
(887
)
 
$
(31,294
)
Current-period other comprehensive loss
(29,879
)
 
(2,007
)
 
(203
)
 
(32,089
)
Balance at September 27, 2015
$
(58,242
)
 
$
(4,051
)
 
$
(1,090
)
 
$
(63,383
)
_______________

(a)
Current-period other comprehensive income (loss) includes the reclassification of unrealized losses on cash flow hedges from “Accumulated other comprehensive loss” to our condensed consolidated statements of operations of $444 and $1,332 for the three and nine months ended October 2, 2016, respectively, and $435 for both the three and nine months ended September 27, 2015. The reclassification of unrealized losses on cash flow hedges consists of $723 and $2,170 for the three and nine months ended October 2, 2016, respectively, and $708 for both the three and nine months ended September 27, 2015, recorded to “Interest expense,” net of the related income tax benefit of $279 and $838 for the three and nine months ended October 2, 2016, respectively, and $273 for both the three and nine months ended September 27, 2015, recorded to “Provision for income taxes.” Current-period other comprehensive loss for the nine months ended September 27, 2015 also includes the effect of changes in unrealized losses on cash flow hedges, net of tax. See Note 7 for more information.

(12) Transactions with Related Parties

Except as described below, the Company did not have any significant changes in or transactions with its related parties during the current fiscal period since those reported in the Form 10-K.

Transactions with QSCC

Wendy’s received $76 and $138 of lease income from its purchasing cooperative, QSCC, during the nine months ended October 2, 2016 and September 27, 2015, respectively, which has been recorded as a reduction to “General and administrative.”

TimWen Lease and Management Fee Payments

A wholly-owned subsidiary of Wendy’s leases restaurant facilities from TimWen for the operation of Wendy’s/Tim Hortons combo units in Canada. Prior to the second quarter of 2015, Wendy’s operated certain of the Wendy’s/Tim Hortons combo units in Canada and subleased some of the restaurant facilities to franchisees. As a result of the Company completing its plan to sell all of its company-owned restaurants in Canada to franchisees during the second quarter of 2015, all of the restaurant facilities are subleased to franchisees. During the nine months ended October 2, 2016 and September 27, 2015, Wendy’s paid TimWen $8,926 and $9,066, respectively, under these lease agreements. In addition, TimWen paid Wendy’s a management fee under the TimWen joint venture agreement of $156 and $164 during the nine months ended October 2, 2016 and September 27, 2015, respectively, which has been included as a reduction to “General and administrative.”


22

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

(13) Guarantees and Other Commitments and Contingencies

Refer to the Form 10-K for further information regarding the Company’s additional commitments and obligations.

Franchisee Image Activation Incentive Programs

In order to promote Image Activation new restaurant development, Wendy’s has an incentive program for franchisees that provides for reductions in royalty payments for the first three years of operation for qualifying new restaurants opened by January 1, 2017.

Wendy’s also has incentive programs for 2016 for franchisees that commence Image Activation restaurant remodels during the year. The incentive programs provide for reductions in royalty payments for one year or two years after the completion of construction, depending on the type of remodel. In 2015, Wendy’s added an additional incentive to the 2016 program described above to include waiving the franchise agreement renewal fee for certain types of remodels.

In addition, Wendy’s had incentive programs in 2015 that included reductions in royalty payments for franchisees’ participation in the Image Activation program.

Franchisee Image Activation Financing Program

Wendy’s executed an agreement in 2013 to partner with a third-party lender to establish a financing program for franchisees that participate in our Image Activation program. Under the program, the lender agreed to provide loans to franchisees to be used for the reimaging of restaurants according to the guidelines and specifications under Wendy’s Image Activation program. To support the program, Wendy’s provided to the lender a $6,000 irrevocable stand-by letter of credit, which was issued on July 1, 2013 and was cash collateralized. During the three months ended April 3, 2016, the Company entered into an agreement to reduce the letter of credit from $6,000 to $1,000 due to franchisees successfully obtaining financing independently. During the three months ended July 3, 2016, the new irrevocable letter of credit of $1,000 was issued against the Company’s $2,275,000 securitized financing facility and the $6,000 letter of credit was terminated. During the three months ended October 2, 2016, the Company executed an agreement to terminate the letter of credit agreement that had been previously executed as part of the financing program and was fully released from the $1,000 letter of credit against the securitized financing facility.

Lease Guarantees

Wendy’s has guaranteed the performance of certain leases and other obligations, primarily from former company-owned restaurant locations now operated by franchisees, amounting to $32,922 as of October 2, 2016. These leases extend through 2050. We have not received any notice of default related to these leases as of October 2, 2016. In the event of default by a franchise owner, Wendy’s generally retains the right to acquire possession of the related restaurant locations.

Wendy’s is contingently liable for certain other leases which have been assigned to unrelated third parties who have indemnified Wendy’s against future liabilities amounting to $974 as of October 2, 2016. These leases expire on various dates through 2021.

Letters of Credit

As of October 2, 2016, the Company had outstanding letters of credit with various parties totaling $33,961, of which $6,165 were cash collateralized. The outstanding letters of credit include amounts outstanding against the securitized financing facility. The related cash collateral is classified as “Restricted cash” in the condensed consolidated balance sheets. We do not expect any material loss to result from these letters of credit.

(14) Legal and Environmental Matters

We are involved in litigation and claims incidental to our current and prior businesses. We provide accruals for such litigation and claims when payment is probable and reasonably estimable. As of October 2, 2016, the Company had accruals for all of its legal and environmental matters aggregating $1,508. We cannot estimate the aggregate possible range of loss due to most proceedings being in preliminary stages, with various motions either yet to be submitted or pending, discovery yet to occur and significant factual matters unresolved. In addition, most cases seek an indeterminate amount of damages and many involve multiple parties. Predicting the outcomes of settlement discussions or judicial or arbitral decisions is thus inherently difficult. Based on

23

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

currently available information, including legal defenses available to us, and given the aforementioned accruals and our insurance coverage, we do not believe that the outcome of these legal and environmental matters will have a material effect on our consolidated financial position or results of operations.

(15) New Accounting Standards

New Accounting Standards

In August 2016, the Financial Accounting Standards Board (“FASB”) issued an amendment that provides guidance for proper classification of certain cash receipts and payments in the statement of cash flows. The amendment requires retrospective adoption for all periods presented in the statement of cash flows and is effective commencing with our 2018 fiscal year. We are currently evaluating the impact of the adoption of this guidance on our consolidated financial statements.

In June 2016, the FASB issued an amendment that will require the Company to determine impairment of financial instruments based on expected losses rather than incurred losses. The transition method varies with the type of instrument; however, most debt instruments will be transitioned using a modified retrospective approach. The amendment is effective commencing with our 2020 fiscal year. We are currently evaluating the impact of the adoption of this guidance on our consolidated financial statements.

In March 2016, the FASB issued an amendment that modifies several aspects of the accounting for employee share-based payment transactions, including the accounting for income taxes, forfeitures and statutory withholding requirements, as well as statement of cash flows presentation. The transition requirement is mostly modified retrospective, with the exception of recognition of excess tax benefits and tax deficiencies that requires prospective adoption. The amendment is effective commencing with our 2017 fiscal year. We are currently evaluating the impact of the adoption of this guidance on our consolidated financial statements.

In March 2016, the FASB issued an amendment that clarifies the steps for assessing triggering events of embedded contingent put and call options within debt instruments. The amendment requires modified retrospective adoption and is effective commencing with our 2017 fiscal year. We are currently evaluating the impact of the adoption of this guidance on our consolidated financial statements.

In March 2016, the FASB issued an amendment related to equity method accounting, which eliminates the requirement to retrospectively apply the equity method to an investment that subsequently qualifies for such accounting as a result of an increase in level of ownership interest or degree of influence. The amendment requires prospective adoption and is effective commencing with our 2017 fiscal year. We are currently evaluating the impact of the adoption of this guidance on our consolidated financial statements.

In February 2016, the FASB issued new guidance on leases, which outlines principles for the recognition, measurement, presentation and disclosure of leases applicable to both lessors and lessees. The new guidance requires lessees to recognize on the balance sheet the assets and liabilities for the rights and obligations created by finance and operating leases with lease terms of more than 12 months. The amendment requires the recognition and measurement of leases at the beginning of the earliest period presented using a modified retrospective approach and is effective commencing with our 2019 fiscal year.  We are currently evaluating the impact of the adoption of this guidance on our consolidated financial statements, but we expect this will have a material effect on our balance sheet since the Company has a significant amount of operating and capital lease arrangements.

In May 2014, the FASB issued amended guidance for revenue recognition. Subsequently, the FASB issued an amendment to defer for one year the effective date of the new guidance on revenue recognition, as well as issued additional clarifying amendments. The new guidance outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers. The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and services. Additionally, the guidance requires improved disclosure to help users of financial statements better understand the nature, amount, timing, and uncertainty of revenue that is recognized. The new guidance supersedes most current revenue recognition guidance, including industry-specific guidance, and is now effective commencing with our 2018 fiscal year. The guidance allows for either a full retrospective or modified retrospective transition method. We are continuing to evaluate which transition method to use. We do not believe this guidance will impact our recognition of revenue from company-owned restaurant sales or our recognition of continuing royalty revenues from franchisees, which are based on a percentage of franchise sales. We are continuing to evaluate the impact the adoption of this guidance will have on our business, including the recognition of transactions

24

THE WENDY’S COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In Thousands Except Per Share Amounts)

such as franchise development fees, initial fees from franchisees and sales of company-owned restaurants to franchisees, as well as the accounting for our national advertising funds.

New Accounting Standards Adopted

In September 2015, the FASB issued an amendment that requires an acquirer to recognize adjustments to provisional amounts during the measurement period, in the period such adjustments are identified, rather than retrospectively adjusting previously reported amounts. The Company adopted this amendment, prospectively, during the first quarter of 2016. The adoption of this guidance did not impact our consolidated financial statements.

In April 2015, the FASB issued an amendment that clarifies the accounting for fees paid in a cloud computing arrangement. The amendment provides guidance to customers about whether a cloud computing arrangement includes a software license. The Company adopted this amendment, prospectively, during the first quarter of 2016. The adoption of this guidance did not materially impact our consolidated financial statements.

In February 2015, the FASB issued an amendment that revises the consolidation requirements and significantly changes the consolidation analysis required under current guidance. The Company adopted this amendment, prospectively, during the first quarter of 2016. The adoption of this guidance did not impact our consolidated financial statements.

In June 2014, the FASB issued an amendment to clarify that a performance target that affects vesting and that could be achieved after the requisite service period should be treated as a performance condition and therefore should not be reflected in estimating the grant-date fair value of the award. The Company adopted this amendment during the first quarter of 2016. The adoption of this guidance did not impact our consolidated financial statements.


25


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

Introduction

This “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of The Wendy’s Company (“The Wendy’s Company” and, together with its subsidiaries, the “Company,” “we,” “us,” or “our”) should be read in conjunction with the accompanying unaudited condensed consolidated financial statements and the related notes included elsewhere within this report and “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the fiscal year ended January 3, 2016 (the “Form 10-K”). There have been no material changes as of October 2, 2016 to the application of our critical accounting policies as described in Item 7 of the Form 10-K. Certain statements we make under this Item 2 constitute “forward-looking statements” under the Private Securities Litigation Reform Act of 1995. See “Special Note Regarding Forward-Looking Statements and Projections” in “Part II - Other Information” preceding Item 1 of Part II of this report. You should consider our forward-looking statements in light of our unaudited condensed consolidated financial statements, related notes and other financial information appearing elsewhere in this report, the Form 10-K and our other filings with the Securities and Exchange Commission.

The Wendy’s Company is the parent company of its 100% owned subsidiary holding company, Wendy’s Restaurants, LLC (“Wendy’s Restaurants”). The principal 100% owned subsidiary of Wendy’s Restaurants is Wendy’s International, LLC and its subsidiaries (“Wendy’s”). Wendy’s franchises and operates company-owned Wendy’s® quick-service restaurants throughout North America (defined as the United States of America (“U.S.”) and Canada). Wendy’s also has franchised restaurants in 28 foreign countries and U.S. territories.

Wendy’s restaurants offer an extensive menu specializing in hamburger sandwiches and featuring fillet of chicken breast sandwiches, chicken nuggets, chili, french fries, baked potatoes, freshly prepared salads, soft drinks, Frosty® desserts and kids’ meals. In addition, the restaurants sell a variety of promotional products on a limited basis.

The Company manages and internally reports its business geographically. The operation and franchising of Wendy’s restaurants in North America comprises virtually all of our current operations and represents a single reportable segment. The revenues and operating results of Wendy’s restaurants outside of North America are not material. The results of operations discussed below may not necessarily be indicative of future results.

The Company reports on a fiscal year consisting of 52 or 53 weeks ending on the Sunday closest to or on December 31. All three and nine month periods presented herein contain 13 weeks and 39 weeks, respectively. All references to years and quarters relate to fiscal periods rather than calendar periods.

Executive Overview

Sale of the Bakery

On May 31, 2015, Wendy’s completed the sale of 100% of its membership interest in The New Bakery Company, LLC and its subsidiaries (collectively, the “Bakery”) to East Balt US, LLC (the “Buyer”) for $78.5 million in cash (subject to customary purchase price adjustments). The Company recorded a pre-tax gain on the disposal of the Bakery of $27.5 million during the first nine months of 2015, which included transaction closing costs and a reduction of goodwill. The Company recognized income tax expense associated with the gain on disposal of $12.7 million during the first nine months of 2015, which included the impact of the disposal of non-deductible goodwill. In conjunction with the Bakery sale, Wendy’s entered into a transition services agreement with the Buyer, pursuant to which Wendy’s provided certain continuing corporate and shared services to the Buyer through March 31, 2016 for no additional consideration. As a result of the sale of the Bakery, the Bakery’s results of operations for the period from December 29, 2014 through May 31, 2015 and the gain on disposal have been included in “Net income from discontinued operations” in our condensed consolidated statements of operations.

Our Continuing Business

As of October 2, 2016, the Wendy’s restaurant system was comprised of 6,503 restaurants, of which 427 were owned and operated by the Company. All of our company-owned restaurants are located in the U.S. as a result of the Company completing its initiative during the second quarter of 2015 to sell all company-owned restaurants in Canada to franchisees.

Wendy’s operating results are impacted by a number of external factors, including unemployment, general economic trends, intense price competition, commodity costs, labor costs and weather.

26


Wendy’s long-term growth opportunities will be driven by a combination of brand relevance and economic relevance. Key components of growth include (1) North America systemwide same-restaurant sales growth through continuing core menu improvement, product innovation and customer count growth, (2) investing in our Image Activation program, which includes innovative exterior and interior restaurant designs for our new and reimaged restaurants and focused execution of operational excellence, (3) growth in new restaurants, including global growth, (4) increased restaurant utilization in various dayparts and brand access utilizing mobile technology, (5) building shareholder value through financial management strategies and (6) our system optimization initiative.

Wendy’s revenues for the first nine months of 2016 include (1) $747.2 million of sales at company-owned restaurants and (2) $255.0 million of royalty revenue, $102.4 million of rental income and $20.9 million of franchise fees from franchisees. Substantially all of our Wendy’s royalty agreements provide for royalties of 4.0% of franchisees’ revenues.

Key Business Measures

We track our results of operations and manage our business using the following key business measures:
 
Same-Restaurant Sales - Beginning with the first quarter of 2016, the Company revised its reporting methodology for same-restaurant sales to simplify the reporting of its same-restaurant sales performance for reimaged restaurants and to better align with restaurant-industry practice. Under the new methodology, the Company includes restaurants in its comparable sales base as soon as reimaged restaurants reopen (the “New Method”). Reimaged restaurants previously entered the comparable sales base after they had been open for three continuous months (the “Old Method”). There was no change in the reporting methodology for new restaurants, which will continue to be excluded from same-restaurant sales until they have been open for 15 continuous months. The tables summarizing the results of operations below provide the same-restaurant sales percent change using the New Method, as well as the Old Method. The New Method is consistent with the metric used by our management for internal reporting and analysis. Same-restaurant sales exclude the impact of currency translation.

Restaurant Margin - We define restaurant margin as sales from company-owned restaurants less cost of sales divided by sales from company-owned restaurants. Cost of sales includes food and paper, restaurant labor and occupancy, advertising and other operating costs. Restaurant margin is influenced by factors such as restaurant openings, remodels and closures, price increases, the effectiveness of our advertising and marketing initiatives, featured products, product mix, the level of our fixed and semi-variable costs and fluctuations in food and labor costs.

System Optimization Initiative

In July 2013, the Company announced a system optimization initiative, as part of its brand transformation, which includes a shift from company-owned restaurants to franchised restaurants over time, through acquisitions and dispositions, as well as facilitating franchisee-to-franchisee restaurant transfers. In February 2015, the Company announced plans to sell approximately 540 additional restaurants to franchisees and reduce its ongoing company-owned restaurant ownership to approximately 5% of the total system by the end of 2016. During 2015, 2014 and 2013, the Company completed the sale of 327, 255 and 244 company-owned restaurants to franchisees, respectively, which included the sale of all its company-owned restaurants in Canada.

During the first nine months of 2016 and 2015, the Company completed the sale of 211 and 109 company-owned restaurants to franchisees, respectively. The Company recognized net gains totaling $48.1 million and $14.8 million on the sale of company-owned restaurants and other assets during the first nine months of 2016 and 2015, respectively, which were recorded to “System optimization (gains) losses, net” in our condensed consolidated statements of operations. In addition, the Company facilitated the transfer of 144 restaurants between franchisees during the first nine months of 2016. The Company expects to complete its plan to reduce company-owned restaurant ownership to approximately 5% of the total system with the sale of 98 restaurants during the remainder of 2016, all of which were classified as held for sale as of October 2, 2016.

Costs related to our system optimization initiative are recorded to “Reorganization and realignment costs.” During the first nine months of 2016 and 2015, the Company recognized costs totaling $6.9 million and $6.6 million, respectively, which primarily included professional fees in 2016 and accelerated amortization of previously acquired franchise rights in both 2016 and 2015. The Company expects to incur additional costs of approximately $3.7 million during the remainder of 2016 in connection with its system optimization initiative, which are primarily comprised of professional fees.


27


General and Administrative (G&A”) Realignment

In November 2014, the Company initiated a plan to reduce its general and administrative expenses. The plan included a realignment and reinvestment of resources to focus primarily on accelerated restaurant development and consumer-facing restaurant technology to drive long-term growth. The Company achieved the majority of the expense reductions through the realignment of its U.S. field operations and savings at its Restaurant Support Center in Dublin, Ohio, which was substantially completed by the end of the second quarter of 2015. Costs related to G&A realignment are recorded to “Reorganization and realignment costs.” The Company recognized costs totaling $1.0 million and $10.0 million during the first nine months of 2016 and 2015, respectively, which primarily included recruitment and relocation costs in 2016 and share-based compensation and severance and related employee costs in 2015. The Company expects to incur additional costs aggregating approximately $0.4 million during the remainder of 2016, comprised primarily of recruitment and relocation costs for the reinvestment in resources to drive long-term growth.

Related Party Transactions

TimWen Lease and Management Fees

A wholly-owned subsidiary of Wendy’s leases restaurant facilities from TimWen for the operation of Wendy’s/Tim Hortons combo units in Canada. Prior to the second quarter of 2015, Wendy’s operated certain of the Wendy’s/Tim Hortons combo units in Canada and subleased some of the restaurant facilities to franchisees. As a result of the Company completing its plan to sell all of its company-owned restaurants in Canada to franchisees during the second quarter of 2015, all of the restaurant facilities are subleased to franchisees. During the first nine months of 2016 and 2015, Wendy’s paid TimWen $8.9 million and $9.1 million, respectively, under these lease agreements. In addition, TimWen paid Wendy’s a management fee under the TimWen joint venture agreement of $0.2 million during both the first nine months of 2016 and 2015, which has been included as a reduction to “General and administrative.”

Franchisee Incentive Programs

Franchisee Image Activation Financing Program

Wendy’s executed an agreement in 2013 to partner with a third-party lender to establish a financing program for franchisees that participate in our Image Activation program. Under the program, the lender agreed to provide loans to franchisees to be used for the reimaging of restaurants according to the guidelines and specifications under Wendy’s Image Activation program. To support the program, Wendy’s provided to the lender a $6.0 million irrevocable stand-by letter of credit, which was issued on July 1, 2013 and was cash collateralized. During the first quarter of 2016, the Company entered into an agreement to reduce the letter of credit from $6.0 million to $1.0 million due to franchisees successfully obtaining financing independently. During the second quarter of 2016, the new irrevocable letter of credit of $1.0 million was issued against the Company’s $2,275.0 million securitized financing facility and the $6.0 million letter of credit was terminated. During the third quarter of 2016, the Company executed an agreement to terminate the letter of credit agreement that had been previously executed as part of the financing program and was fully released from the $1.0 million letter of credit against the securitized financing facility.

Cybersecurity Incident

The Company first reported unusual payment card activity affecting some franchise-owned restaurants in February 2016 and that malware had been discovered on certain systems. Subsequently, on June 9, 2016, the Company reported that an additional malware variant had been identified and disabled. On July 7, 2016, the Company, on behalf of affected franchise locations, provided information about specific restaurant locations that may have been impacted by these attacks, all of which are located in the United States, along with support for customers who may have been affected by the malware variants. See “Item 1 - Legal Proceedings” and “Item 1A - Risk Factors” in “Part II - Other Information” for further information.




28


Results of Operations

The tables included throughout Results of Operations set forth in millions the Company’s consolidated results of operations for the third quarter of 2016 and 2015. As a result of the sale of the Bakery discussed above in “Executive Overview - Sale of the Bakery,” the Company recorded post-closing adjustments on the disposal of the Bakery during the third quarter of 2015, which have been included in “Net loss from discontinued operations” in the table below.
 
Three Months Ended
 
October 2,
2016
 
September 27,
2015
 
Change
Revenues:
 
 
 
 
 
Sales
$
228.6

 
$
359.0

 
$
(130.4
)
Franchise revenues
135.4

 
105.6

 
29.8

 
364.0

 
464.6

 
(100.6
)
Costs and expenses:
 
 
 
 
 

Cost of sales
186.5

 
291.5

 
(105.0
)
General and administrative
58.9

 
63.7

 
(4.8
)
Depreciation and amortization
29.4

 
36.4

 
(7.0
)
System optimization (gains) losses, net
(37.8
)
 
0.1

 
(37.9
)
Reorganization and realignment costs
2.1

 
5.8

 
(3.7
)
Impairment of long-lived assets
0.4

 
1.5

 
(1.1
)
Other operating expense, net
18.4

 
9.7

 
8.7

 
257.9

 
408.7

 
(150.8
)
Operating profit
106.1

 
55.9

 
50.2

Interest expense
(28.7
)
 
(27.9
)
 
(0.8
)
Other income, net
0.5

 
0.2

 
0.3

Income from continuing operations before income taxes
77.9

 
28.2

 
49.7

Provision for income taxes
(29.0
)
 
(19.9
)
 
(9.1
)
Income from continuing operations
48.9

 
8.3

 
40.6

Discontinued operations:
 
 
 
 
 
Loss from discontinued operations, net of income taxes

 
(0.4
)
 
0.4

Loss on disposal of discontinued operations, net of income taxes

 
(0.3
)
 
0.3

Net loss from discontinued operations

 
(0.7
)
 
0.7

Net income
$
48.9

 
$
7.6

 
$
41.3




29


 
Third
Quarter
2016
 
 
 
Third
Quarter
2015
 
 
Revenues:
 
 
 
 
 
 
 
Sales
$
228.6

 
 
 
$
359.0

 
 
Franchise revenues:
 
 
 
 
 
 
 
Royalty revenue
87.9

 
 
 
80.9

 
 
Rental income
37.4

 
 
 
22.5

 
 
Franchise fees
10.1

 
 
 
2.2

 
 
Total franchise revenues
135.4

 
 
 
105.6

 
 
Total revenues
$
364.0

 
 
 
$
464.6

 
 
 
 
 
 
 
 
 
 
 
Third
Quarter
2016
 
% of 
Sales
 
Third
Quarter
2015
 
% of 
Sales
Cost of sales:
 
 
 
 
 
 
 
Food and paper
$
69.3

 
30.3%
 
$
113.3

 
31.5%
Restaurant labor
64.8

 
28.4%
 
99.0

 
27.6%
Occupancy, advertising and other operating costs
52.4

 
22.9%
 
79.2

 
22.1%
Total cost of sales
$
186.5

 
81.6%
 
$
291.5

 
81.2%

 
Third
Quarter
2016
 
% of
Sales
 
Third
Quarter
2015
 
% of
Sales
Restaurant margin
$
42.1

 
18.4%
 
$
67.5

 
18.8%

 
New Method
 
Old Method
 
Third
Quarter
2016
 
Third
Quarter
2015
 
Third
Quarter
2016
 
Third
Quarter
2015
Same-restaurant sales:
 
 
 
 
 
 
 
North America same-restaurant sales:
 
 
 
 
 
 
 
Company-owned
2.7
%
 
2.0
%
 
2.4
%
 
1.7
%
Franchised
1.2
%
 
3.4
%
 
1.2
%
 
3.3
%
Systemwide
1.4
%
 
3.2
%
 
1.3
%
 
3.1
%
 
 
 
 
 
 
 
 
Total same-restaurant sales:
 
 
 
 
 
 
 
Company-owned
2.7
%
 
2.0
%
 
2.4
%
 
1.7
%
Franchised (a)
1.3
%
 
3.1
%
 
1.2
%
 
3.1
%
Systemwide (a)
1.4
%
 
3.0
%