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Article by DailyStocks_admin    (06-30-08 05:23 AM)

The Daily Magic Formula Stock for 06/30/2008 is Rocky Mountain Chocolate Factory Inc. According to the Magic Formula Investing Web Site, the ebit yield is 13% and the EBIT ROIC is 75-100 %.

Dailystocks.com only deals with facts, not biased journalism. What is a better way than to go to the SEC Filings? It's not exciting reading, but it makes you money. We cut and paste the important information from SEC filings for you to get started on your research on a specific company.


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BUSINESS OVERVIEW

Founded in 1981 and incorporated in Colorado in 1982, Rocky Mountain Chocolate Factory, Inc. (the “Company”, and sometimes referred to herein with the pronouns “we,” “us,” or “our”) is an international franchisor and confectionery manufacturer. The Company is headquartered in Durango, Colorado and manufactures an extensive line of premium chocolate candies and other confectionery products. As of March 31, 2008 there were 5 Company-owned and 329 franchised Rocky Mountain Chocolate Factory stores operating in 38 states, Canada, and the United Arab Emirates.
The Company believes approximately 50% of the products sold at Rocky Mountain Chocolate Factory stores are prepared on the premises. The Company believes this in-store preparation creates a special store ambiance and the aroma and sight of products being made attracts foot traffic and assures customers that products are fresh.
The Company believes that its principal competitive strengths lie in its brand name recognition, its reputation for the quality, variety and taste of its products; the special ambiance of its stores; its knowledge and experience in applying criteria for selection of new store locations; its expertise in the manufacture of chocolate candy products and the merchandising and marketing of chocolate and other candy products; and the control and training infrastructures it has implemented to assure consistent customer service and execution of successful practices and techniques at its stores.
The Company believes its manufacturing expertise and reputation for quality has facilitated the sale of selected products through new distribution channels. The Company is currently selling its products in a select number of new distribution channels including wholesaling, fundraising, corporate sales, mail order and internet sales.
The Company’s revenues are currently derived from three principal sources: (i) sales to franchisees and others of chocolates and other confectionery products manufactured by the Company (75-72-69%); (ii) sales at Company-owned stores of chocolates and other confectionery products (including products manufactured by the Company) (5-8-11%) and (iii) the collection of initial franchise fees and royalties from franchisees (20-20-20%). The Company’s revenues are derived from domestic (97-98-98%) and international (3-2-2%) sources. The figures in parentheses show the percentage of total revenues attributable to each source for fiscal years ended February 28 (29), 2008, 2007 and 2006, respectively.
According to the National Confectioners Association, the total U.S. candy market approximated $29.1 billion of retail sales in 2007 with chocolate generating sales of approximately $16.3 billion. According to the Department of Commerce, per capita consumption of chocolate in 2006 was approximately 14 pounds per year nationally and decreased 1% when compared to 2005.
Business Strategy
The Company’s objective is to build on its position as a leading international franchisor and manufacturer of high quality chocolate and other confectionery products. The Company continually seeks opportunities to profitably expand its business. To accomplish this objective, the Company employs a business strategy that includes the following elements:
Product Quality and Variety
The Company maintains the unsurpassed taste and quality of its chocolate candies by using only the finest chocolate and other wholesome ingredients. The Company uses its own proprietary recipes, primarily developed by the Company’s master candy makers. A typical Rocky Mountain Chocolate Factory store offers up to 100 of the Company’s chocolate candies throughout the year and as many as 200, including many packaged candies, during the holiday seasons. Individual stores also offer numerous varieties of premium fudge and gourmet caramel apples, as well as other products prepared in the store from Company recipes.
Store Atmosphere and Ambiance
The Company seeks to establish an enjoyable and inviting atmosphere in each Rocky Mountain Chocolate Factory store. Each store prepares numerous products, including fudge, barks and caramel apples, in the store. In-store preparation is designed both to be fun and entertaining for customers and to convey an image of freshness and homemade quality. The Company’s design staff has developed easily replicable designs and specifications to ensure that the Rocky Mountain Chocolate Factory concept is consistently implemented throughout the system.

In February 2000, the Company retained a nationally recognized design firm to evaluate and update its existing store design. The objective of the store design project is threefold: (1) increase average revenue per unit thereby opening untapped real estate environments; (2) further emphasize the entertainment and freshness value of the Company’s in-store confectionery factory; and (3) improve operational efficiency through optimal store layout. The Company completed the store redesign project and the testing of the new design in fiscal 2002. Through March 31, 2008, 197 stores incorporating the new design have been opened.
Site Selection
Careful selection of a site is critical to the success of a Rocky Mountain Chocolate Factory store. Many factors are considered by the Company in identifying suitable sites, including tenant mix, visibility, attractiveness, accessibility, level of foot traffic and occupancy costs. Final site selection occurs only after the Company’s senior management has approved the site. The Company believes that the experience of its management team in evaluating a potential site is one of the Company’s competitive strengths.
Customer Service Commitment
The Company emphasizes excellence in customer service and seeks to employ and to sell franchises to motivated and energetic people. The Company also fosters enthusiasm for its customer service philosophy and the Rocky Mountain Chocolate Factory concept through its bi-annual franchisee convention, regional meetings and other frequent contacts with its franchisees.
Increase Same Store Retail Sales at Existing Locations

The Company believes that the negative trend in fiscal 2008 was due to the overall weakening of the economy and retail environment. The Company experienced positive same store sales of 1.0% and 1.6% in its fiscal first and second quarters of 2008 followed by decreases in same store sales of (2.5%) and (4.7%) in its fiscal third and fourth quarters of fiscal 2008 compared with the same periods in fiscal 2007.
In February 2000, the Company retained a nationally recognized packaging design firm to completely redesign the packaging featured in the Company’s retail stores. The Company has designed a contemporary and coordinated line of packaged products that capture and convey the freshness, fun and excitement of the Rocky Mountain Chocolate Factory retail store experience. The Company completed the packaging redesign project during 2002. The Company also believes that the successful launch of new packaging has had a positive impact on same store sales.
Increase Same Store Pounds Purchased by Existing Locations
In fiscal 2008, same store pounds purchased by franchisees decreased 9.1% compared to the prior fiscal year. The Company continues to add new products and focus its existing product lines in an effort to increase same store pounds purchased by existing locations. The Company believes the decrease in same store pounds purchased was due to a product mix shift from factory-made products to products made in the store such as caramel apples and fudge.
Enhanced Operating Efficiencies
The Company seeks to improve its profitability by controlling costs and increasing the efficiency of its operations. Efforts in the last several years, include the purchase of additional automated factory equipment, implementation of a comprehensive Advanced Planning and Scheduling (APS) system, implementation of alternative manufacturing strategies and installation of enhanced Point-of-Sale (POS) systems in all of its Company-owned and 182 of its franchised stores through March 31, 2008. These measures have significantly improved the Company’s ability to deliver its products to its stores safely, quickly and cost-effectively and impact store operations. Additionally, the divestiture of substantially all of the Company-owned stores in fiscal 2002 has reduced the Company’s exposure to real estate risk, improved the Company’s operating margins and allowed the Company to increase its focus on franchising.

Expansion Strategy
Key elements of the Company’s expansion strategy include:
Unit Growth
The cornerstone of the Company’s growth strategy is to aggressively pursue unit growth opportunities in locations where the Company has traditionally been successful, to pursue new and developing real estate environments for franchisees which appear promising based on early sales results, and to improve and expand the retail store concept, such that previously untapped and unfeasible environments (such as most regional centers) generate sufficient revenue to support a successful Rocky Mountain Chocolate Factory location.
High Traffic Environments
The Company currently establishes franchised stores in the following environments: outlet centers, tourist environments, regional centers, street fronts, airports and other entertainment oriented environments. The Company, over the last several years, has had a particular focus on regional center locations. The Company is optimistic that its exciting new store design will allow it to continue targeting the over 1,400 regional centers in the United States. The Company has established a business relationship with most of the major developers in the United States and believes that these relationships provide it with the opportunity to take advantage of attractive sites in new and existing real estate environments.
Name Recognition and New Market Penetration
The Company believes the visibility of its stores and the high foot traffic at many of its locations has generated strong name recognition of Rocky Mountain Chocolate Factory and demand for its franchises. The Rocky Mountain Chocolate Factory system has historically been concentrated in the western and Rocky Mountain region of the United States, but recent growth has generated a gradual easterly momentum as new stores have been opened in the eastern half of the country. This growth has further increased the Company’s name recognition and demand for its franchises. Distribution of Rocky Mountain Chocolate Factory products through specialty markets also increases name recognition and brand awareness in areas of the country in which the Company has not previously had a significant presence. The Company believes that by distributing selected Rocky Mountain Chocolate Factory products through new distribution channels its name recognition will improve and benefit its entire store system.
Store Concept
The Company seeks to establish a fun and inviting atmosphere in its Rocky Mountain Chocolate Factory store locations. Unlike most other confectionery stores, each Rocky Mountain Chocolate Factory store prepares certain products, including fudge and caramel apples, in the store. Customers can observe store personnel making fudge from start to finish, including the mixing of ingredients in old-fashioned copper kettles and the cooling of the fudge on large granite or marble tables, and are often invited to sample the store’s products. The Company believes that an average of approximately 50% of the revenues of franchised stores are generated by sales of products prepared on the premises. The Company believes the in-store preparation and aroma of its products enhance the ambiance at Rocky Mountain Chocolate Factory stores, are fun and entertaining for its customers and convey an image of freshness and homemade quality.
Rocky Mountain Chocolate Factory stores opened prior to fiscal 2002 have a distinctive country Victorian decor, which further enhances their friendly and enjoyable atmosphere. Each store includes finely crafted wood cabinetry, copper and brass accents, etched mirrors and large marble tables on which fudge and other products are made. To ensure that all stores conform to the Rocky Mountain Chocolate Factory image, the Company’s design staff provides working drawings and specifications and approves the construction plans for each new store. The Company also controls the signage and building materials that may be used in the stores.
In fiscal 2002, the Company launched its revised store design concept intended specifically for high foot traffic regional shopping centers. The revised store design concept is modern with crisp and clean site lines and an even stronger emphasis on the Company’s unique upscale kitchen. The Company is requiring that all new Rocky Mountain Chocolate Factory stores incorporate the revised store design concept. The Company also requires that key elements of the revised store design concept be incorporated into existing store design upon renewal of the Franchise Agreement, or transfer in store ownership.

The average store size is approximately 1,000 square feet, approximately 650 square feet of which is selling space. Most stores are open seven days a week. Typical hours are 10 a.m. to 9 p.m., Monday through Saturday, and 12 noon to 6 p.m. on Sundays. Store hours in tourist areas may vary depending upon the tourist season.
Kiosk Concept
In fiscal 2002, the Company opened its first full service retail kiosk concept. The kiosk is a vehicle for retail environments where in-line real estate is unavailable or build-out costs and/or rent factors do not meet the Company’s financial criteria. The kiosk, which ranges from 150 to 250 square feet, incorporates the Company’s trademark cooking area where caramel apples, fudge and other popular confections are prepared in front of customers using traditional cooking utensils. The kiosk also includes the Company’s core product and gifting lines in order to provide the customer with a full Rocky Mountain Chocolate Factory experience.
The Company believes the kiosk concept enhances its franchise opportunity by providing more flexibility in support of existing franchisees’ expansion programs and allows new franchisees that otherwise would not qualify for an in-line location an opportunity to join the Rocky Mountain Chocolate Factory system. As of March 31, 2008 there were 18 kiosks in operation.
Products and Packaging
The Company typically produces approximately 300 chocolate candies and other confectionery products, using proprietary recipes developed primarily by the Company’s master candy makers. These products include many varieties of clusters, caramels, creams, mints and truffles. The Company continues to engage in a major effort to expand its product line by developing additional exciting and attractive new products. During the Christmas, Easter and Valentine’s Day holiday seasons, the Company may make as many as 100 additional items, including many candies offered in packages specially designed for the holidays. A typical Rocky Mountain Chocolate Factory store offers up to 100 of these candies throughout the year and up to an additional 100 during holiday seasons. Individual stores also offer more than 15 premium fudges and other products prepared in the store. The Company believes that, on average, approximately 40% of the revenues of Rocky Mountain Chocolate Factory stores are generated by products manufactured at the Company’s factory, 50% by products made in the store using Company recipes and ingredients purchased from the Company or approved suppliers and the remaining 10% by products, such as ice cream, coffee and other sundries, purchased from approved suppliers.
The Company uses only the finest chocolates, nut meats and other wholesome ingredients in its candies and continually strives to offer new confectionery items in order to maintain the excitement and appeal of its products. The Company develops special packaging for the Christmas, Valentine’s Day and Easter holidays, and customers can have their purchases packaged in decorative boxes and fancy tins throughout the year.
Chocolate candies manufactured by the Company are sold at prices ranging from $14.90 to $24.00 per pound, with an average price of $18.30 per pound. Franchisees set their own retail prices, though the Company does recommend prices for all of its products.
Operating Environment
The Company currently establishes Rocky Mountain Chocolate Factory stores in five primary environments: regional centers, tourist areas, outlet centers, street fronts, airports and other entertainment oriented shopping centers. Each of these environments has a number of attractive features, including high levels of foot traffic.
Outlet Centers
There are approximately 110 factory outlet centers in the United States, and as of February 29, 2008, there were Rocky Mountain Chocolate Factory stores in approximately 67 of these centers in over 25 states. The Company has established business relationships with most of the major outlet center developers in the United States. Although not all factory outlet centers provide desirable locations for the Company’s stores, management believes the Company’s relationships with these developers will provide it with the opportunity to take advantage of attractive sites in new and existing outlet centers.
Tourist Areas, Street Fronts and Other Entertainment Oriented Shopping Centers
As of February 29, 2008, there were approximately 40 Rocky Mountain Chocolate Factory stores in locations considered to be tourist areas, including Fisherman’s Wharf in San Francisco, California and the Riverwalk in San Antonio, Texas. Tourist areas are very attractive locations because they offer high levels of foot traffic and favorable customer spending characteristics, and greatly increase the Company’s visibility and name recognition. The Company believes significant opportunities exist to expand into additional tourist areas with high levels of foot traffic.
Regional Centers
There are approximately 1,400 regional centers in the United States, and as of February 29, 2008, there were Rocky Mountain Chocolate Factory stores in approximately 95 of these centers, including locations in the Mall of America in Bloomington, Minnesota; and Fort Collins, Colorado. Although often providing favorable levels of foot traffic, regional centers typically involve more expensive rent structures and competing food and beverage concepts. The Company’s new store concept is designed to unlock the potential of the regional center environment.
The Company believes there are a number of other environments that have the characteristics necessary for the successful operation of Rocky Mountain Chocolate Factory stores such as airports and sports arenas. Twelve franchised Rocky Mountain Chocolate Factory stores exist at airport locations: two at Atlanta International (Hartsfield-Jackson), two at Denver International Airport, one at Charlotte International Airport, one at Minneapolis International Airport, one at Phoenix Sky Harbor Airport, one at Salt Lake City International Airport, one at Dallas Fort Worth International Airport and three in Canada; one at Edmonton International Airport, one at Toronto Pearson International Airport and one at Vancouver International Airport.
On July 20, 2007 the Company entered into an exclusive airport development agreement (the “Agreement”) with The Grove, Inc. Pursuant to this Agreement, The Grove will have the exclusive right to open Rocky Mountain Chocolate Factory stores in all airports in the United States where there are no Rocky Mountain Chocolate Factory stores currently operating or under development. Additionally, the Agreement sets forth a commission on the initial franchise fee and future royalty revenue to be paid by the Company to The Grove, Inc. for any third-party, qualified, franchisees who develop an airport location under the Agreement. The Agreement expires on July 20, 2009 or upon 30 days written notice of default by the Franchisee.
Franchising Program
General
The Company’s franchising philosophy is one of service and commitment to its franchise system, and the Company continuously seeks to improve its franchise support services. The Company’s concept has consistently been rated as an outstanding franchise opportunity by publications and organizations rating such opportunities. In January 2008, Rocky Mountain Chocolate Factory was rated the number one franchise opportunity in the candy category by Entrepreneur Magazine. As of March 31, 2008, there were 329 franchised stores in the Rocky Mountain Chocolate Factory system. See the audited financial statements and the related notes thereto included elsewhere in the report for a discussion of the revenues, profits or losses and total assets related to the franchising segment of the Company’s business.
Franchisee Sourcing and Selection
The majority of new franchises are awarded to persons referred by existing franchisees, to interested consumers who have visited Rocky Mountain Chocolate Factory stores and to existing franchisees. The Company also advertises for new franchisees in national and regional newspapers as suitable potential store locations come to the Company’s attention. Franchisees are approved by the Company on the basis of the applicant’s net worth and liquidity, together with an assessment of work ethic and personality compatibility with the Company’s operating philosophy.
In fiscal 1992, the Company entered into a franchise development agreement covering Canada with Immaculate Confections, Ltd. of Vancouver, British Columbia. Pursuant to this agreement, Immaculate Confections purchased the exclusive right to franchise and operate Rocky Mountain Chocolate Factory stores in Canada. Immaculate Confections, as of March 31, 2008, operated 38 stores under the agreement.
In fiscal 2000, the Company entered into a franchise development agreement covering the Gulf Cooperation Council States of United Arab Emirates, Qatar, Bahrain, Saudi Arabia, Kuwait and Oman with Al Muhairy Group of United Arab Emirates. Pursuant to this agreement, Al Muhairy Group purchased the exclusive right to franchise and operate Rocky Mountain Chocolate Factory stores in the Gulf Cooperation Council States. Al Muhairy Group, as of March 31, 2008, operated 3 stores under this agreement.
In fiscal 2008, the Company entered into an airport development agreement with The Grove, Inc. Pursuant to this Agreement, The Grove will have the exclusive right to open Rocky Mountain Chocolate Factory stores in all airports in the United States where there are no Rocky Mountain Chocolate Factory stores currently operating or under development. The Grove, Inc., as of March 31, 2008, operated 3 stores under this agreement.
Training and Support
Each domestic franchisee owner/operator and each store manager for a domestic franchisee is required to complete a 7-day comprehensive training program in store operations and management. The Company has established a training center at its Durango headquarters in the form of a full-sized replica of a properly configured and merchandised Rocky Mountain Chocolate Factory store. Topics covered in the training course include the Company’s philosophy of store operation and management, customer service, merchandising, pricing, cooking, inventory and cost control, quality standards, record keeping, labor scheduling and personnel management. Training is based on standard operating policies and procedures contained in an operations manual provided to all franchisees, which the franchisee is required to follow by terms of the franchise agreement. Additionally, and importantly, trainees are provided with a complete orientation to Company operations by working in key factory operational areas and by meeting with members of the senior management of the Company.
The Company’s operating objectives include providing Company knowledge and expertise in merchandising, marketing and customer service to all front-line store level employees to maximize their skills and ensure that they are fully versed in the Company’s proven techniques.
The Company provides ongoing support to franchisees through its field consultants, who maintain regular and frequent communication with the stores by phone and by site visits. The field consultants also review and discuss with the franchisee store operating results and provide advice and guidance in improving store profitability and in developing and executing store marketing and merchandising programs. The Company has developed a handbook containing a “pre-packaged” local store marketing plan, which allows franchisees to implement cost-effective promotional programs that have proven successful in other Rocky Mountain Chocolate Factory stores.
Quality Standards and Control
The franchise agreement for Rocky Mountain Chocolate Factory franchisees requires compliance with the Company’s procedures of operation and food quality specifications and permits audits and inspections by the Company.
Operating standards for Rocky Mountain Chocolate Factory stores are set forth in operating manuals. These manuals cover general operations, factory ordering, merchandising, advertising and accounting procedures. Through their regular visits to franchised stores, Company field consultants audit performance and adherence to Company standards. The Company has the right to terminate any franchise agreement for non-compliance with the Company’s operating standards. Products sold at the stores and ingredients used in the preparation of products approved for on-site preparation must be purchased from the Company or from approved suppliers.
The Franchise Agreement: Terms and Conditions
The domestic offer and sale of Rocky Mountain Chocolate Factory franchises is made pursuant to the Uniform Franchise Offering Circular prepared in accordance with federal and state laws and regulations. States that regulate the sale and operation of franchises require a franchiser to register or file certain notices with the state authorities prior to offering and selling franchises in those states.
Under the current form of domestic Rocky Mountain Chocolate Factory franchise agreement, franchisees pay the Company (i) an initial franchise fee for each store, (ii) royalties based on monthly gross sales, and (iii) a marketing fee based on monthly gross sales. Franchisees are generally granted exclusive territory with respect to the operation of Rocky Mountain Chocolate Factory stores only in the immediate vicinity of their stores. Chocolate products not made on the premises by franchisees must be purchased from the Company or approved suppliers. The franchise agreements require franchisees to comply with the Company’s procedures of operation and food quality specifications, to permit inspections and audits by the Company and to remodel stores to conform with standards in effect. The Company may terminate the franchise agreement upon the failure of the franchisee to comply with the conditions of the agreement and upon the occurrence of certain events, such as insolvency or bankruptcy of the franchisee or the commission by the franchisee of any unlawful or deceptive practice, which in the judgment of the Company is likely to adversely affect the Rocky Mountain Chocolate Factory system. The Company’s ability to terminate franchise agreements pursuant to such provisions is subject to applicable bankruptcy and state laws and regulations. See “Business — Regulation.”

The agreements prohibit the transfer or assignment of any interest in a franchise without the prior written consent of the Company. The agreements also give the Company a right of first refusal to purchase any interest in a franchise if a proposed transfer would result in a change of control of that franchise. The refusal right, if exercised, would allow the Company to purchase the interest proposed to be transferred under the same terms and conditions and for the same price as offered by the proposed transferee.
The term of each Rocky Mountain Chocolate Factory franchise agreement is ten years, and franchisees have the right to renew for one additional ten-year term.
Franchise Financing
The Company does not provide prospective franchisees with financing for their stores, but has developed relationships with several sources of franchisee financing to whom it will refer franchisees. Typically, franchisees have obtained their own sources of such financing and have not required the Company’s assistance.
Company Store Program
As of March 31, 2008 there were 5 Company-owned Rocky Mountain Chocolate Factory stores. Company-owned stores provide a training ground for Company-owned store personnel and district managers and a controllable testing ground for new products and promotions, operating and training methods and merchandising techniques, which may then be incorporated into the franchise store operations.
Managers of Company-owned stores are required to comply with all Company operating standards and undergo training and receive support from the Company similar to the training and support provided to franchisees. See “Franchising Program-Training and Support” and “Franchising Program-Quality Standards and Control.”
Manufacturing Operations
General
The Company manufactures its chocolate candies at its factory in Durango, Colorado. All products are produced consistent with the Company’s philosophy of using only the finest, highest quality ingredients to achieve its marketing motto of “ the Peak of Perfection in Handmade Chocolates ® .”
It has always been the belief of management that the Company should control the manufacturing of its own chocolate products. By controlling manufacturing, the Company can better maintain its high product quality standards, offer unique, proprietary products, manage costs, control production and shipment schedules and potentially pursue new or under-utilized distribution channels. See the audited financial statements and the related notes thereto included elsewhere in this report for a discussion of the revenues, profits or losses and total assets related to the manufacturing segment of the Company’s business.
Manufacturing Processes
The manufacturing process primarily involves cooking or preparing candy centers, including nuts, caramel, peanut butter, creams and jellies, and then coating them with chocolate or other toppings. All of these processes are conducted in carefully controlled temperature ranges, and the Company employs strict quality control procedures at every stage of the manufacturing process. The Company uses a combination of manual and automated processes at its factory. Although the Company believes that it is currently preferable to perform certain manufacturing processes, such as dipping of some large pieces, by hand, automation increases the speed and efficiency of the manufacturing process. The Company has from time to time automated processes formerly performed by hand where it has become cost-effective for the Company to do so without compromising product quality or appearance.
The Company seeks to ensure the freshness of products sold in Rocky Mountain Chocolate Factory stores with frequent shipments. Most Rocky Mountain Chocolate Factory stores do not have significant space for the storage of inventory, and the Company encourages franchisees and store managers to order only the quantities that they can reasonably expect to sell within approximately two to four weeks. For these reasons, the Company generally does not have a significant backlog of orders.
Ingredients
The principal ingredients used by the Company are chocolate, nuts, sugar, corn syrup, cream and butter. The factory receives shipments of ingredients daily. To ensure the consistency of its products, the Company buys ingredients from a limited number of reliable suppliers. In order to assure a continuous supply of chocolate and certain nuts, the Company frequently enters into purchase contracts of between six to eighteen months for these products. Because prices for these products may fluctuate, the Company may benefit if prices rise during the terms of these contracts, but it may be required to pay above-market prices if prices fall. The Company has one or more alternative sources for all essential ingredients and therefore believes that the loss of any supplier would not have a material adverse effect on the Company and its results of operations. The Company currently also purchases small amounts of finished candy from third parties on a private label basis for sale in Rocky Mountain Chocolate Factory stores.
Trucking Operations
The Company operates eight trucks and ships a substantial portion of its products from the factory on its own fleet. The Company’s trucking operations enable it to deliver its products to the stores quickly and cost-effectively. In addition, the Company back-hauls its own ingredients and supplies, as well as product from third parties, on return trips as a basis for increasing trucking program economics.
Marketing
The Company relies primarily on in-store promotion and point-of-purchase materials to promote the sale of its products. The monthly marketing fees collected from franchisees are used by the Company to develop new packaging and in-store promotion and point-of-purchase materials, and to create and update the Company’s local store marketing handbooks.
The Company focuses on local store marketing efforts by providing customizable marketing materials, including advertisements, coupons, flyers and mail order catalogs generated by its in-house Creative Services department. The department works directly with franchisees to implement local store marketing programs.
The Company aggressively seeks low cost, high return publicity opportunities through participation in local and regional events, sponsorships and charitable causes. The Company has not historically and does not intend to engage in national advertising in the near future.
Competition
The retailing of confectionery products is highly competitive. The Company and its franchisees compete with numerous businesses that offer confectionery products. Many of these competitors have greater name recognition and financial, marketing and other resources than the Company. In addition, there is intense competition among retailers for real estate sites, store personnel and qualified franchisees. Competitive market conditions could adversely affect the Company and its results of operations and its ability to expand successfully.
The Company believes that its principal competitive strengths lie in its name recognition and its reputation for the quality, value, variety and taste of its products and the special ambiance of its stores; its knowledge and experience in applying criteria for selection of new store locations; its expertise in merchandising and marketing of chocolate and other candy products; and the control and training infrastructures it has implemented to assure execution of successful practices and techniques at its store locations. In addition, by controlling the manufacturing of its own chocolate products, the Company can better maintain its high product quality standards for those products, offer proprietary products, manage costs, control production and shipment schedules and pursue new or under-utilized distribution channels.
Trade Name and Trademarks
The trade name “ Rocky Mountain Chocolate Factory Ò ,” the phrases, “ The Peak of Perfection in Handmade Chocolates Ò ”, “ America’s Chocolatier Ò ”, “The World’s Chocolatier â ” as well as all other trademarks, service marks, symbols, slogans, emblems, logos and designs used in the Rocky Mountain Chocolate Factory system, are proprietary rights of the Company. All of the foregoing are believed to be of material importance to the Company’s business. The registration for the trademark “Rocky Mountain Chocolate Factory” has been granted in the United States and Canada. Applications have been filed to register the Rocky Mountain Chocolate Factory trademark and/or obtained in certain foreign countries.
The Company has not attempted to obtain patent protection for the proprietary recipes developed by the Company’s master candy-maker and is relying upon its ability to maintain the confidentiality of those recipes.

CEO BACKGROUND

Mr. Crail co-founded the first Rocky Mountain Chocolate Factory store in May 1981. Since the incorporation of the Company in November 1982, he has served as its President and a Director. He was elected Chairman of the Board in March 1986. Prior to founding the Company, Mr. Crail was co-founder and president of CNI Data Processing, Inc., a software firm which developed automated billing systems for the cable television industry.

Mr. Merryman joined the Company in December 1997 as Vice President — Finance and Chief Financial Officer. Since April 1999 Mr. Merryman has also served the Company as the Chief Operating Officer and as a Director, and since January 2000 as its Treasurer. Prior to joining the Company, Mr. Merryman was a principal in Knightsbridge Holdings, Inc. (a leveraged buyout firm) from January 1997 to December 1997. Mr. Merryman also served as Chief Financial Officer of Super Shops, Inc., a retailer and manufacturer of aftermarket auto parts from July 1996 to November 1997 and was employed for more than eleven years by Deloitte and Touche LLP, most recently as a senior manager.

Mr. Pope became Sr. Vice President of Franchise Development and Operations in May 2004. Since joining the Company in October 1990, he has served in various positions including store manager, new store opener and franchise field consultant. In March 1996 he became Director of Franchise Development and Support. In June 2001 he became Vice President of Franchise Development, a position he held until he was promoted to his present position.

Mr. Dudley joined the Company in January 1997 to spearhead the Company’s newly formed Product Sales Development function as Vice President — Sales and Marketing, with the goal of increasing the Company’s factory and retail sales. He was promoted to Senior Vice President in June 2001. During his 10 year career with Baxter Healthcare Corporation, Mr. Dudley served in a number of senior marketing and sales management capacities, including most recently that of Director, Distribution Services from March 1996 to January 1997.

Mr. Jobson joined the Company in July 1998 as Director of Information Technology. In June 2001, he was promoted to Chief Information Officer, a position created to enhance the Company’s strategic focus on information and information technology. From July 1995 to July 1998, Mr. Jobson worked for ADAC Laboratories in Durango, Colorado, a leading provider of diagnostic imaging and information systems solutions in the healthcare industry, as Manager of Technical Services and before that, Regional Manager.

Mr. Haws joined the Company in August 1991 as Vice President of Creative Services. Since 1981, Mr. Haws had been closely associated with the Company both as a franchisee and marketing/graphic design consultant. From 1986 to 1991 he operated two Rocky Mountain Chocolate Factory franchises located in San Francisco, California. From 1983 to 1989 he served as Vice President of Marketing for Image Group, Inc., a marketing communications firm based in Northern California. Concurrently, Mr. Haws was co-owner of two other Rocky Mountain Chocolate Factory franchises located in Sacramento, and Walnut Creek California. From 1973 to 1983 he was principal of Jay Haws and Associates, an advertising and graphic design agency.

Ms. Perez joined the Company in June 1996 and has served as the Company’s corporate secretary since February, 1997. From 1992 until joining the Company, she was employed by Huettig & Schromm, Inc., a property management and development firm in Palo Alto, California as executive assistant to the president and owner. Huettig & Schromm developed, owned and managed over 1,000,000 square feet of office space in business parks and office buildings on the San Francisco peninsula. Ms. Perez is a paralegal and has held various administrative positions during her career including executive assistant to the Chairman and owner of Sunset Magazine & Books, Inc.

MANAGEMENT DISCUSSION FROM LATEST 10K

Fiscal 2008 Compared To Fiscal 2007

Results Summary
Basic earnings per share increased 5.4% from $.74 in fiscal 2007 to $.78 in fiscal 2008. Revenues increased 1.0% from fiscal 2007 to fiscal 2008. Operating income increased 4.7% from $7.6 million in fiscal 2007 to $7.9 million in fiscal 2008. Net income increased 4.6% from $4.7 million in fiscal 2007 to $5.0 million in fiscal 2008. The increase in revenue, earnings per share, operating income, and net income in fiscal 2008 compared to fiscal 2007 was due primarily to increased sales to specialty markets, increased number of franchised stores in operation and the corresponding increases in revenue.

Factory Sales
Factory sales increased in fiscal 2008 compared to fiscal 2007 due to an increase of 28.8% in product shipments to specialty markets and growth in the average number of stores in operation to 324 in fiscal 2008 from 310 in fiscal 2007. Same store pounds purchased in fiscal 2008 were down approximately 9% from fiscal 2007, more than offsetting the increase in the average number of franchised stores in operation and mostly offsetting the increase in specialty market sales. The Company believes the decrease in same store pounds purchased is due primarily to a product mix shift from factory products to products made in the stores and softening in the retail sector of the economy.
Retail Sales
The decrease in retail sales resulted primarily from a decrease in the average number of Company-owned stores in operation from 8 in fiscal 2007 to 5 in fiscal 2008. Same store sales at Company-owned stores increased 1.1% from fiscal 2007 to fiscal 2008.
Royalties, Marketing Fees and Franchise Fees
The increase in royalties and marketing fees resulted from growth in the average number of domestic units in operation from 266 in fiscal 2007 to 281 in fiscal 2008 partially offset by a decrease in same store sales of 0.9%. Franchise fee revenues decreased due to a decrease in the number of franchises sold during the same period last year.

Adjusted gross margin is equal to gross margin minus depreciation and amortization expense. We believe adjusted gross margin is helpful in understanding our past performance as a supplement to gross margin and other performance measures calculated in conformity with accounting principles generally accepted in the United States (“GAAP”). We believe that adjusted gross margin is useful to investors because it provides a measure of operating performance and our ability to generate cash that is unaffected by non-cash accounting measures. Additionally, we use adjusted gross margin rather than gross margin to make incremental pricing decisions. Adjusted gross margin has limitations as an analytical tool because it excludes the impact of depreciation and amortization expense and you should not consider it in isolation or as a substitute for any measure reported under GAAP. Our use of capital assets makes depreciation and amortization expense a necessary element of our costs and our ability to generate income. Due to these limitations, we use adjusted gross margin as a measure of performance only in conjunction with GAAP measures of performance such as gross margin. The following table provides a reconciliation of adjusted gross margin to gross margin, the most comparable performance measure under GAAP:

Cost of Sales
Factory adjusted gross margin declined 130 basis points from fiscal 2007 to fiscal 2008 due primarily to increased costs and mix of product sold during fiscal 2008 versus fiscal 2007. Company-owned store margin declined 70 basis points from fiscal 2007 to fiscal 2008 due primarily to a change in mix of product sold associated with a decrease in the average number of company stores in operation.
Franchise Costs
The decrease in franchise costs is due to lower incentive compensation costs. As a percentage of total royalty and marketing fees and franchise fee revenue, franchise costs decreased to 23.7% in fiscal 2008 from 25.2% in fiscal 2007.
Sales and Marketing
The decrease in sales and marketing was due primarily to lower incentive compensation costs.
General and Administrative
The decrease in general and administrative costs is due primarily to lower incentive compensation costs related to Company performance. As a percentage of total revenues, general and administrative expenses decreased to 7.9% in fiscal 2008 compared to 8.0% in fiscal 2007.
Retail Operating Expenses
The decrease in retail operating expenses was due primarily to a decrease in the average number of Company-owned stores during fiscal 2008 versus fiscal 2007. Retail operating expenses, as a percentage of retail sales, decreased from 57.2% in fiscal 2007 to 55.3% in fiscal 2008 due to a larger decrease in costs relative to the decrease in revenues associated with a decrease in the average number of Company stores in operation.
Depreciation and Amortization
Depreciation and amortization of $783,000 in fiscal 2008 decreased 10.4% from $874,000 incurred in fiscal 2007 due to the sale or closure of four Company-owned stores and certain assets becoming fully depreciated.
Other, Net
Other, net of $101,000 realized in fiscal 2008 represents an increase of $34,000 from the $67,000 realized in fiscal 2007, due primarily to higher average outstanding balances of invested cash during fiscal 2008. Notes receivable balances and related interest income declined in fiscal 2008 because of two notes maturing or being paid in full compared with fiscal 2007. The Company also incurred interest expense related to use of an operating line of credit.
Income Tax Expense
The Company’s effective income tax rate in fiscal 2008 was 38.1% which is an increase of 0.3% compared to fiscal 2007. The increase in the effective tax rate is primarily due to increased income in states with higher income tax rates.
In July 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes (“FIN 48”). FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB Statement No. 109, Accounting for Income Taxes. FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The Company adopted FIN 48 effective March 1, 2007 with no impact on the Company’s financial statements.

Fiscal 2007 Compared To Fiscal 2006
Results Summary
Basic earnings per share increased 18.5% from $.62 in fiscal 2006 to $.74 in fiscal 2007. Revenues increased 12.5% from fiscal 2006 to fiscal 2007. Operating income increased 17.1% from $6.5 million in fiscal 2006 to $7.6 million in fiscal 2007. Net income increased 16.7% from $4.1 million in fiscal 2006 to $4.7 million in fiscal 2007. The increase in revenue, earnings per share, operating income, and net income in fiscal 2007 compared to fiscal 2006 was due primarily to increased number of franchised stores in operation, increased sales to speciality markets and the corresponding increases in revenue.

Factory Sales
The increase in factory sales was due to the growth in the average number of franchised stores in operation to 302 in fiscal 2007 from 285 in fiscal 2006 and an increase of 53.3% in sales to specialty markets. Partially offsetting this increase was a 2.6% decrease in same store pounds purchased from the factory by franchised stores when compared to the same period in the prior year. The Company believes that this same store pounds decrease reflects an unseasonably hot summer in many regions of the country. Historically, retail sales of chocolate products suffer when weather conditions are unusually hot in particular markets.
Retail Sales
The decrease in retail sales resulted primarily from a decrease in the average number of Company-owned stores in operation from 9 in fiscal 2006 to 7 in fiscal 2007. Same store sales at Company-owned stores increased 6.9% from fiscal 2006 to fiscal 2007.
Royalties, Marketing Fees and Franchise Fees
The increase in royalties and marketing fees resulted from growth in the average number of domestic units in operation from 251 in fiscal 2006 to 266 in fiscal 2007 plus an increase in same store sales of 0.3%. Franchise fee revenues decreased due to a decrease in the number of franchises sold during the same period last year.

Adjusted gross margin is equal to gross margin minus depreciation and amortization expense. We believe adjusted gross margin is helpful in understanding our past performance as a supplement to gross margin and other performance measures calculated in conformity with accounting principles generally accepted in the United States (“GAAP”). We believe that adjusted gross margin is useful to investors because it provides a measure of operating performance and our ability to generate cash that is unaffected by non-cash accounting measures. Additionally, we use adjusted gross margin rather than gross margin to make incremental pricing decisions. Adjusted gross margin has limitations as an analytical tool because it excludes the impact of depreciation and amortization expense and you should not consider it in isolation or as a substitute for any measure reported under GAAP. Our use of capital assets makes depreciation and amortization expense a necessary element of our costs and our ability to generate income.

Due to these limitations, we use adjusted gross margin as a measure of performance only in conjunction with GAAP measures of performance such as gross margin

MANAGEMENT DISCUSSION FOR LATEST QUARTER

Three Months Ended August 31, 2007 Compared to the Three Months Ended August 31, 2006
Basic earnings per share increased 31.3% from $.16 for the three months ended August 31, 2006 to $.21 for the three months ended August 31, 2007. Revenues increased 11.3% from the second quarter of fiscal 2007 to the second quarter of fiscal 2008. Operating income increased 28.8% from $1.7 million in the second quarter of fiscal 2007 to $2.1 million in the second quarter of fiscal 2008. Net income increased 28.2% from $1.0 million in the second quarter of fiscal 2007 to $1.3 million in the second quarter of fiscal 2008. The increase in earnings per share, operating income, and net income for the second quarter of fiscal 2008 versus the same period in fiscal 2007 was due primarily to an increase in sales to specialty markets and an increase in the average number of franchise stores in operation.

Factory Sales
The increase in factory sales for the second quarter of fiscal 2008 versus the same period in fiscal 2007 was primarily due to a 219% increase in sales to customers outside our system of franchise retail stores and a 5.6% increase in the average number of stores in operation from 303 in the second quarter of fiscal 2007 to 320 in the second quarter of fiscal 2008. Same store pounds purchased in the second quarter of fiscal 2008 were down approximately 9% from the same period in the prior year, more than offsetting the increase in the average number of franchised stores in operation and partially offsetting the increase in specialty market sales. The decrease in same store pounds purchased is due primarily to a product mix shift from factory products to products made in the stores.
Retail Sales
The decrease in retail sales resulted primarily from a decrease in the average number of stores in operation from 9 during the second quarter of fiscal 2007 to 5 in the second quarter of fiscal 2008. Same store retail sales were approximately the same in the second quarter of fiscal 2008 compared to the same period in fiscal year 2007.
Royalties, Marketing Fees and Franchise Fees
The increase in royalties and marketing fees resulted from growth in the average number of domestic units in operation and an increase of 1.6% in same store sales in the second quarter of fiscal 2008 compared with the same period in fiscal 2007. The average number of domestic units in operation grew 7.3% from 260 in the second quarter of fiscal 2007 to 279 in the second quarter of 2008. Franchise fee revenues in the second quarter of fiscal 2008 decreased as a result of a change in the revenue recognition policy for franchise fee revenue compared with the same period in the prior year. Historically the Company has recognized franchise fees upon completion of all significant initial services provided to the franchisee and upon satisfaction of all material conditions of the franchise agreement. Effective with the fourth quarter of fiscal 2007, the Company changed that policy to more closely coincide with industry practice, that is, to recognize franchise fees when the franchise store opens.

Adjusted gross margin is equal to gross margin minus depreciation and amortization expense. We believe adjusted gross margin is helpful in understanding our past performance as a supplement to gross margin and other performance measures calculated in conformity with accounting principles generally accepted in the United States (“GAAP”). We believe that adjusted gross margin is useful to investors because it provides a measure of operating performance and our ability to generate cash that is unaffected by non-cash accounting measures. Additionally, we use adjusted gross margin rather than gross margin to make incremental pricing decisions. Adjusted gross margin has limitations as an analytical tool because it excludes the impact of depreciation and amortization expense and you should not consider it in isolation or as a substitute for any measure reported under GAAP. Our use of capital assets makes depreciation and amortization expense a necessary element of our costs and our ability to generate income. Due to these limitations, we use adjusted gross margin as a measure of performance only in conjunction with GAAP measures of performance such as gross margin.

Cost of Sales
Factory margins increased 90 basis points from the second quarter fiscal 2007 compared to the second quarter fiscal 2008 due to manufacturing efficiencies associated with higher production volume. These efficiencies were mostly offset by higher commodity prices during the second quarter of fiscal 2008 compared with the same period in fiscal 2007.
Franchise Costs
The decrease in franchise costs for the second quarter of fiscal 2008 compared to the same period in fiscal 2007 is primarily due to a decrease in stock option compensation expense. As a percentage of total royalty and marketing fees and franchise fee revenue, franchise costs decreased to 22.0% in the second quarter of fiscal 2008 from 24.9% in the second quarter of fiscal 2007. This decrease as a percentage of royalty, marketing and franchise fees is primarily a result of lower franchise costs relative to revenues.
Sales and Marketing
The decrease in sales and marketing for the second quarter of fiscal 2008 compared to the same period in fiscal 2007 is due primarily to a decrease in stock option compensation expense as well as lower promotional costs related to specialty market sales.
General and Administrative
The increase in general and administrative costs for the second quarter of fiscal 2008 compared to the same period in fiscal 2007 is due primarily to increased professional fees and a loss realized on the sale of assets, partially offset by lower stock option compensation expense. As a percentage of total revenues, general and administrative expense was unchanged at 8.6% in the second quarter of fiscal 2008 compared to 8.6% in the second quarter of fiscal 2007.
Retail Operating Expenses
The decrease in retail operating expenses during the second quarter of fiscal 2008 versus the second quarter fiscal 2007 was due primarily to a decrease in the average number of stores resulting from the sale or closure of four Company-owned stores. Retail operating expenses, as a percentage of retail sales, decreased from 55.2% in the second quarter of fiscal 2007 to 52.5% in the second quarter of fiscal 2008 due to a smaller decrease in revenues relative to the decrease in costs.
Depreciation and Amortization
Depreciation and amortization of $196,000 in the second quarter of fiscal 2008 decreased 13.3% from $226,000 incurred in the second quarter of fiscal 2007 due to the sale or closure of four Company-owned stores and certain assets becoming fully depreciated.

Other, Net
Other, net of $25,000 realized in the second quarter of fiscal 2008 represents an increase of $13,000 from the $12,000 realized in the second quarter of fiscal 2007, due to increased interest income from notes receivable and invested cash due to higher average cash and notes receivable balances.
Income Tax Expense
The Company’s effective income tax rate in the second quarter of fiscal 2008 was 38.1% which is an increase of 0.3% compared to the second quarter of fiscal 2007. The increase in the effective tax rate is primarily due to increased income in states with higher income tax rates.

CONF CALL

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