** **

**SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

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**FORM 10-Q**

 

| **ý**                                                                                                                                                                                                                                 |   | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF  THE****SECURITIES  EXCHANGE ACT OF 1934** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------------------------------------------------------------------------------------|
|                                                                                                                                                                                                                                       |   |                                                                                                  |
| **For the quarterly period ended September 28, 2003**                                                                                                                                                                                 |
|                                                                                                                                                                                                                                       |   |                                                                                                  |
| **OR**                                                                                                                                                                                                                                     |
|                                                                                                                                                                                                                                       |   |                                                                                                  |
| **o**                                                                                                                                                                                                                                      |   | **TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF  THE SECURITIES EXCHANGE ACT OF 1934**    |
|                                                                                                                                                                                                                                       |   |                                                                                                  |
| **For the transition period from                    to                  ** |

 

**CommissionFile No. 0-3930**

 

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** **

**FRIENDLYICE CREAM CORPORATION**

(Exact Name of Registrant as Specified in ItsCharter)

 

| **Massachusetts**                                                                   |   | **04-2053130**                      |
|-------------------------------------------------------------------------------------|--------|-------------------------------------|
| (State or Other Jurisdiction of   Incorporation or Organization)                    |   | (IRS Employer   Identification No.) |
|                                                                                |   |                                |
| **1855 Boston Road****Wilbraham,  Massachusetts**                                   |   | **01095**                           |
| (Address of Principal Executive Offices)                                            |   | (Zip Code)                          |
|                                                                                |   |                                |
| **(413) 543-2400**                                                                  |
| (Registrant’s Telephone Number, Including  Area Code)                          |
|                                                                                |   |                                |
| **Not Applicable**                                                                  |
| (Former name, former address and former  fiscal year, if changed since last report) |

 

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

 

Indicate bycheck mark whether the registrant is an accelerated filer (as defined inExchange Act Rule 12b-2). Yes o  No ý

 

Indicatethe number of shares outstanding of each of the issuer’s classes of commonstock as of the latest practicable date.

 

| **Class**                    |   | **Outstanding at  October 15, 2003** |
|------------------------------|--------|-------------------------------------------|
|                         |   |                                      |
| Common Stock, $.01 par value |   | 7,459,009 shares                          |

** **

 

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**PART I - FINANCIALINFORMATION**

 

**Item 1. Financial Statements**

 

**FRIENDLY ICE CREAMCORPORATION AND SUBSIDIARIES**

 

**CONDENSEDCONSOLIDATED BALANCE SHEETS**

 

(In thousands)

 
|                                                                      |   | **September 28,  2003** |    | **December 29,  2002** |   |
|---------------------------------------------------------------------------|--------|------------------------------|---------|-----------------------------|--------|
|                                                                      |   | **(unaudited)**              |    |                        |   |
| ASSETS                                                                    |   |                         |    |                        |   |
| CURRENT ASSETS:                                                           |   |                         |    |                        |   |
| Cash and cash equivalents                                                 |   | $                            | 31,551  |                        | $      | 34,341 |   |
| Restricted cash                                                           |   | 1,945                        |    | —                      |   |
| Accounts receivable                                                       |   | 10,452                       |    | 10,853                      |   |
| Inventories                                                               |   | 15,393                       |    | 17,278                      |   |
| Deferred income taxes                                                     |   | 7,771                        |    | 7,771                       |   |
| Prepaid expenses and other current assets                                 |   | 2,885                        |    | 3,062                       |   |
| TOTAL CURRENT ASSETS                                                      |   | 69,997                       |    | 73,305                      |   |
| PROPERTY AND EQUIPMENT, net of accumulated  depreciation and amortization |   | 163,518                      |    | 158,373                     |   |
| INTANGIBLE ASSETS AND DEFERRED COSTS, net of  accumulated amortization    |   | 18,315                       |    | 19,642                      |   |
| OTHER ASSETS                                                              |   | 5,817                        |    | 5,878                       |   |
| TOTAL ASSETS                                                              |   | $                            | 257,647 |                        | $      | 257,198 |   |
|                                                                      |   |                         |    |                        |   |
| LIABILITIES AND STOCKHOLDERS’ DEFICIT                                |   |                         |    |                        |   |
| CURRENT LIABILITIES:                                                      |   |                         |    |                        |   |
| Current maturities of long-term debt                                      |   | $                            | 1,093   |                        | $      | 1,031 |   |
| Current maturities of capital lease and finance  obligations              |   | 759                          |    | 1,362                       |   |
| Accounts payable                                                          |   | 22,565                       |    | 23,902                      |   |
| Accrued salaries and benefits                                             |   | 10,301                       |    | 9,329                       |   |
| Accrued interest payable                                                  |   | 6,637                        |    | 1,961                       |   |
| Insurance reserves                                                        |   | 10,274                       |    | 11,330                      |   |
| Restructuring reserves                                                    |   | 530                          |    | 937                         |   |
| Other accrued expenses                                                    |   | 15,443                       |    | 22,885                      |   |
| TOTAL CURRENT LIABILITIES                                                 |   | 67,602                       |    | 72,737                      |   |
| DEFERRED INCOME TAXES                                                     |   | 3,856                        |    | 1,533                       |   |
| CAPITAL LEASE AND FINANCE OBLIGATIONS, less  current maturities           |   | 5,135                        |    | 5,044                       |   |
| LONG-TERM DEBT, less current maturities                                   |   | 228,258                      |    | 231,830                     |   |
| ACCRUED PENSION COST                                                      |   | 15,431                       |    | 16,281                      |   |
| OTHER LONG-TERM LIABILITIES                                               |   | 33,739                       |    | 33,475                      |   |
| COMMITMENTS AND CONTINGENCIES                                             |   |                         |    |                        |   |
| STOCKHOLDERS’ DEFICIT:                                               |   |                         |    |                        |   |
| Common stock                                                              |   | 74                           |    | 74                          |   |
| Additional paid-in capital                                                |   | 140,386                      |    | 139,974                     |   |
| Accumulated other comprehensive loss                                      |   | (14,559                      | )       | (14,559                     | )      |
| Accumulated deficit                                                       |   | (222,275                     | )       | (229,191                    | )      |
| TOTAL STOCKHOLDERS’ DEFICIT                                          |   | (96,374                      | )       | (103,702                    | )      |
| TOTAL LIABILITIES AND STOCKHOLDERS’ DEFICIT                          |   | $                            | 257,647 |                        | $      | 257,198 |   |

 

Theaccompanying notes are an integral part of these condensed consolidatedfinancial statements.

 

1

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## **FRIENDLY ICE CREAMCORPORATION AND SUBSIDIARIES**

 

**CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS**

(Unaudited)

(In thousands, except per share data)

 
|                                                             |   | **For the Three Months Ended** |    | **For the Nine Months Ended** |   |
|------------------------------------------------------------------|--------|--------------------------------|---------|-------------------------------|--------|
|                                                             |   | **September 28,  2003**   |    | **September 29,  2002**  |   | **September 28,  2003** |   | **September 29,  2002** |   |
|                                                             |   |                           |    |                          |   |   |   |   |   |
| REVENUES                                                         |   | $                              | 160,350 |                          | $      | 158,314 |   | $ | 444,688 |   | $ | 439,669 |   |
|                                                             |   |                           |    |                          |   |   |   |   |   |
| COSTS AND EXPENSES:                                              |   |                           |    |                          |   |   |   |   |   |
| Cost of sales                                                    |   | 56,561                         |    | 57,079                        |   | 157,717 |   | 156,071 |   |
| Labor and benefits                                               |   | 45,402                         |    | 43,457                        |   | 127,326 |   | 123,618 |   |
| Operating expenses                                               |   | 29,510                         |    | 30,946                        |   | 85,112 |   | 84,408 |   |
| General and administrative expenses                              |   | 9,939                          |    | 9,369                         |   | 28,397 |   | 26,649 |   |
| Reduction of restructuring reserve                               |   | —                         |    | —                        |   | — |   | (400 | ) |
| Write-downs of property and equipment                            |   | 26                             |    | —                        |   | 26 |   | 431 |   |
| Depreciation and amortization                                    |   | 5,391                          |    | 6,097                         |   | 16,764 |   | 19,170 |   |
| Loss on franchise sales of restaurant operations  and properties |   | —                         |    | 21                            |   | — |   | 21 |   |
| Loss (gain) on disposals of other property and  equipment, net   |   | 91                             |    | (150                          | )      | 1,499 |   | 491 |   |
|                                                             |   |                           |    |                          |   |   |   |   |   |
| OPERATING INCOME                                                 |   | 13,430                         |    | 11,495                        |   | 27,847 |   | 29,210 |   |
|                                                             |   |                           |    |                          |   |   |   |   |   |
| Interest expense, net                                            |   | 6,048                          |    | 6,212                         |   | 18,242 |   | 18,764 |   |
|                                                             |   |                           |    |                          |   |   |   |   |   |
| INCOME BEFORE PROVISION FOR INCOME TAXES                         |   | 7,382                          |    | 5,283                         |   | 9,605 |   | 10,446 |   |
|                                                             |   |                           |    |                          |   |   |   |   |   |
| Provision for income taxes                                       |   | (2,067                         | )       | (1,795                        | )      | (2,689 | ) | (3,551 | ) |
|                                                             |   |                           |    |                          |   |   |   |   |   |
| NET INCOME                                                       |   | $                              | 5,315   |                          | $      | 3,488 |   | $ | 6,916 |   | $ | 6,895 |   |
|                                                             |   |                           |    |                          |   |   |   |   |   |
| BASIC NET INCOME PER SHARE                                       |   | $                              | 0.71    |                          | $      | 0.47 |   | $ | 0.93 |   | $ | 0.94 |   |
|                                                             |   |                           |    |                          |   |   |   |   |   |
| DILUTED NET INCOME PER SHARE                                     |   | $                              | 0.70    |                          | $      | 0.46 |   | $ | 0.91 |   | $ | 0.91 |   |
|                                                             |   |                           |    |                          |   |   |   |   |   |
| WEIGHTED AVERAGE SHARES:                                         |   |                           |    |                          |   |   |   |   |   |
| Basic                                                            |   | 7,452                          |    | 7,379                         |   | 7,436 |   | 7,366 |   |
| Diluted                                                          |   | 7,606                          |    | 7,607                         |   | 7,577 |   | 7,574 |   |

 

Theaccompanying notes are an integral part of these condensed consolidatedfinancial statements.

 

2

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**FRIENDLY ICE CREAMCORPORATION AND SUBSIDIARIES**

 

**CONDENSED CONSOLIDATED STATEMENTSOF CASH FLOWS**

(Unaudited)

(In thousands)

 
|                                                                               |   | **For the Nine Months Ended** |   |
|------------------------------------------------------------------------------------|--------|-------------------------------|--------|
|                                                                               |   | **September 28,  2003**  |   | **September 29,  2002** |   |
| CASH FLOWS FROM OPERATING ACTIVITIES:                                              |   |                          |   |   |   |
| Net income                                                                         |   | $                             | 6,916  |   | $ | 6,895 |   |
| Adjustments to reconcile net income to net cash  provided by operating activities: |   |                          |   |   |   |
| Stock compensation expense                                                         |   | 184                           |   | 302 |   |
| Depreciation and amortization                                                      |   | 16,764                        |   | 19,170 |   |
| Write-offs of deferred financing costs                                             |   | 44                            |   | — |   |
| Write-downs of property and equipment                                              |   | 26                            |   | 431 |   |
| Deferred income tax expense                                                        |   | 2,323                         |   | 3,881 |   |
| Loss on disposals of other property and  equipment, net                            |   | 1,499                         |   | 491 |   |
| Changes in operating assets and liabilities:                                       |   |                          |   |   |   |
| Accounts receivable                                                                |   | 401                           |   | (122 | ) |
| Inventories                                                                        |   | 1,885                         |   | (2,259 | ) |
| Other assets                                                                       |   | (1,707                        | )      | (3,533 | ) |
| Accounts payable                                                                   |   | (1,337                        | )      | 4,932 |   |
| Accrued expenses and other long-term liabilities                                   |   | (4,086                        | )      | 1,609 |   |
| NET CASH PROVIDED BY OPERATING ACTIVITIES                                          |   | 22,912                        |   | 31,797 |   |
|                                                                               |   |                          |   |   |   |
| CASH FLOWS FROM INVESTING ACTIVITIES:                                              |   |                          |   |   |   |
| Purchases of property and equipment                                                |   | (21,291                       | )      | (9,004 | ) |
| Proceeds from sales of property and equipment                                      |   | 63                            |   | 3,426 |   |
| NET CASH USED IN INVESTING ACTIVITIES                                              |   | (21,228                       | )      | (5,578 | ) |
|                                                                               |   |                          |   |   |   |
| CASH FLOWS FROM FINANCING ACTIVITIES:                                              |   |                          |   |   |   |
| Repayments of debt                                                                 |   | (3,510                        | )      | (753 | ) |
| Repayments of capital lease and finance  obligations                               |   | (1,192                        | )      | (1,396 | ) |
| Stock options exercised                                                            |   | 228                           |   | 133 |   |
| NET CASH USED IN FINANCING ACTIVITIES                                              |   | (4,474                        | )      | (2,016 | ) |
|                                                                               |   |                          |   |   |   |
| NET (DECREASE) INCREASE IN CASH AND CASH  EQUIVALENTS                              |   | (2,790                        | )      | 24,203 |   |
|                                                                               |   |                          |   |   |   |
| CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD                                     |   | 34,341                        |   | 16,342 |   |
|                                                                               |   |                          |   |   |   |
| CASH AND CASH EQUIVALENTS, END OF PERIOD                                           |   | $                             | 31,551 |   | $ | 40,545 |   |
|                                                                               |   |                          |   |   |   |
| SUPPLEMENTAL DISCLOSURES:                                                          |   |                          |   |   |   |
| Cash paid (refunded) during the period for:                                        |   |                          |   |   |   |
| Interest                                                                           |   | $                             | 13,435 |   | $ | 13,030 |   |
| Income taxes                                                                       |   | 961                           |   | (9 | ) |
| Capital lease obligations incurred                                                 |   | 680                           |   | — |   |
| Lease incentive equipment received                                                 |   | 243                           |   | — |   |

 

Theaccompanying notes are an integral part of these condensed consolidatedfinancial statements.

 

3

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**FRIENDLY ICE CREAMCORPORATION AND SUBSIDIARIES**

 

**NOTES TO CONDENSEDCONSOLIDATED FINANCIAL STATEMENTS**

 

(Unaudited)

 

**1.  BASIS OF PRESENTATION ANDSIGNIFICANT ACCOUNTING POLICIES**

 

*Interim Financial Information -*

 

Theaccompanying condensed consolidated financial statements as ofSeptember 28, 2003 and for the three months and nine months endedSeptember 28, 2003 and September 29, 2002 are unaudited, but, in theopinion of management, include all adjustments which are necessary for a fairpresentation of the consolidated financial position, results of operations,cash flows and comprehensive income of Friendly Ice Cream Corporation (“FICC”)and subsidiaries (unless the context indicates otherwise, collectively, the “Company”).Such adjustments consist solely of normal recurring accruals. Operating resultsfor the three and nine month periods ended September 28, 2003 andSeptember 29, 2002 are not necessarily indicative of the results that maybe expected for the entire year due, in part, to the seasonality of theCompany’s business. Historically, higher revenues and operating income havebeen experienced during the second and third fiscal quarters. The Company’sconsolidated financial statements, including the notes thereto, which arecontained in the 2002 Annual Report on Form 10-K should be read in conjunctionwith these condensed consolidated financial statements. Capitalized terms nototherwise defined herein should be referenced to the 2002 Annual Report on Form10-K.

 

*Use of Estimates in the Preparation ofFinancial Statements -*

 

Thepreparation of financial statements in conformity with accounting principlesgenerally accepted in the United States requires management to make estimatesand assumptions that affect the reported amounts of assets and liabilities andthe disclosure of contingent assets and liabilities at the dates of thefinancial statements and the reported amounts of revenues and expenses duringthe reporting periods. The critical accounting policies and most significantestimates and assumptions relate to revenue recognition, insurance reserves,recoverability of accounts receivable, restructuring reserves, valuationallowances and pension and other post-retirement benefits expense. Actualamounts could differ significantly from the estimates.

 

*Revenue Recognition -*

 

The Company’srevenues are derived primarily from the operation of full-service restaurants,the distribution and sale of frozen desserts through retail and institutionallocations and franchising. The Company recognizes restaurant revenue uponreceipt of payment from the customer and retail revenue, net of discounts andallowances, upon delivery of product. Reserves for discounts and allowancesfrom retail sales are estimated and accrued when revenue is recorded. Actualamounts could differ materially from the estimates. Franchise royalty income,based on net sales of franchisees, is payable monthly and is recorded on theaccrual method. Initial franchise fees are recorded as revenue upon completionof all significant services, generally upon opening of the restaurant.

 

4

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*Insurance Reserves -*

 

The Company is self-insured throughretentions or deductibles for the majority of its workers’ compensation,automobile, general liability, employer’s liability, product liability andgroup health insurance programs. Self-insurance amounts vary up to $500,000 peroccurrence. Insurance with third parties, some of which is then reinsuredthrough Restaurant Insurance Corporation (“RIC”), the Company’s wholly-ownedsubsidiary, is in place for claims in excess of these self-insured amounts. RICreinsured 100% of the risk from $500,000 to $1,000,000 per occurrence throughSeptember 2, 2000 for FICC’s workers’ compensation, general liability,employer’s liability and product liability insurance. Subsequent toSeptember 2, 2000, the Company discontinued its use of RIC as a captiveinsurer for new claims. FICC’s and RIC’s liabilities for estimated incurred lossesare actuarially determined and recorded in the accompanying condensedconsolidated financial statements on an undiscounted basis. Actual incurredlosses may vary from the estimated incurred losses and could have a materialeffect on the Company’s insurance expense.

 

*Concentration of Credit Risk -*

 

Financialinstruments, which potentially expose the Company to concentrations of creditrisk, consist principally of accounts receivable. The Company performs ongoingcredit evaluations of its customers and generally requires no collateral tosecure accounts receivable. The credit review is based on both financial andnon-financial factors. The Company maintains a reserve for potentiallyuncollectible accounts receivable based on its assessment of the collectibilityof accounts receivable.

 

*Restructuring Reserves -*

 

OnOctober 10, 2001, the Company eliminated approximately 70 positions atcorporate headquarters. In addition, approximately 30 positions in therestaurant construction and fabrication areas were eliminated byDecember 30, 2001. The purpose of the reduction was to streamlinefunctions and reduce redundancy among its business segments. As a result of theelimination of the positions and the outsourcing of certain functions, theCompany reported a pre-tax restructuring charge of approximately $2,536,000 forseverance, rent and unusable construction supplies in the year endedDecember 30, 2001.

 

InMarch 2000, the Company’s Board of Directors approved a restructuring planthat provided for the immediate closing of 81 restaurants at the end ofMarch 2000 and the disposition of an additional 70 restaurants over thenext 24 months. As a result of this plan, the Company reported a pre-taxrestructuring charge of approximately $12,100,000 for severance, rent, utilitiesand real estate taxes, demarking, lease termination costs and certain othercosts associated with the closing of the locations, along with a pre-taxwrite-down of property and equipment for these locations of approximately$17,000,000 in the year ended December 31, 2000. The Company reduced therestructuring reserve by $400,000 and $1,900,000 during the years endedDecember 29, 2002 and December 30, 2001, respectively, since thereserve exceeded estimated remaining payments.

 

As ofSeptember 28, 2003, the remaining restructuring reserve was $530,000.Based on information currently available, management believes that therestructuring reserve as of September 28, 2003 was adequate and not excessive.

 

5

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*Pension and Other Post-Retirement Benefits -*

 

Thedetermination of the Company’s obligation and expense for pension and otherpost-retirement benefits is dependent upon the selection of certain assumptionsused by actuaries in calculating such amounts. Those assumptions include, amongother things, the discount rate, expected long-term rate of return on planassets and rates of increase in compensation and health care costs. Inaccordance with accounting principles generally accepted in the United States,actual results that differ from the assumptions are accumulated and amortizedover future periods and, therefore, generally affect the recognized expense andrecorded obligation in such future periods. Significant differences in actualexperience or significant changes in the assumptions may materially affect thefuture pension and other post-retirement obligations and expense.

 

*Restricted Cash -*

 

RestaurantInsurance Corporation (“RIC”), an insurance subsidiary, is required to holdassets in trust whose value is at least equal to certain of RIC’s outstandingestimated insurance claim liabilities. Accordingly, as of September 28,2003, cash of approximately $1,945,000 was restricted. There was no restrictedcash as of December 29, 2002 as this requirement was satisfied with aletter of credit.

 

*Inventories -*

 

Inventorieswere stated at the lower of first-in, first-out cost or market. Inventories atSeptember 28, 2003 and December 29, 2002 were (in thousands):

 

|             |   | **September 28,  2003** |   | **December 29,  2002** |   |
|------------------|--------|------------------------------|--------|-----------------------------|--------|
|             |   |                         |   |                        |   |
| Raw materials    |   | $                            | 1,240  |                        | $      | 801 |   |
| Goods in process |   | 79                           |   | 203                         |   |
| Finished goods   |   | 14,074                       |   | 16,274                      |   |
| Total            |   | $                            | 15,393 |                        | $      | 17,278 |   |

 

6

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*Long-Lived Assets -*

 

In accordancewith Statement of Financial Accounting Standards (“SFAS”) No. 144, “Accountingfor the Impairment or Disposal of Long-Lived Assets,” the Company reviews itsNon-Friendly Marks, which were assigned to the Company by Hershey inSeptember 2002, for impairment on a quarterly basis. The Company recognizesimpairment has occurred when the carrying value of the Non-Friendly Marksexceeds the estimated future undiscounted cash flows of the trademarkedproducts.

 

The Companyreviews each restaurant property quarterly to determine which properties willbe disposed of, if any. This determination is made based on poor operatingresults, deteriorating property values and other factors. In addition, theCompany reviews all restaurants with negative cash flow for impairment on aquarterly basis. The Company recognizes an impairment has occurred when thecarrying value of property reviewed exceeds its estimated fair value, which isestimated based on the Company’s experience selling similar properties andlocal market conditions, less costs to sell for properties to be disposed of.

 

*Income Taxes -*

 

TheCompany accounts for income taxes in accordance with SFAS No. 109, “Accountingfor Income Taxes,” which requires recognition of deferred tax assets andliabilities for the expected future tax consequences of events that have beenincluded in the financial statements or tax returns. A valuation allowance isrecorded for deferred tax assets whose realization is not likely. The Companyrecords income taxes based on the effective rate expected for the year with anychanges in the valuation allowance reflected in the period of change. As ofSeptember 28, 2003 and December 29, 2002, a valuation allowance of$10,200,000 existed related to state NOL carryforwards due to restrictions onthe usage of state NOL carryforwards and short carryforward periods for certainstates. Taxable income by state for future periods is difficult to estimate.The amount and timing of any future taxable income may affect the usage of suchcarryforwards, which could result in a material change in the valuationallowance.

 

*Derivative Instruments and Hedging Agreements-*

 

TheCompany enters into commodity option contracts from time to time to managedairy cost pressures. The Company’s commodity option contracts do not meethedge accounting criteria as defined by SFAS No. 133, “Accounting forDerivative Instruments and Hedging Activities,” and, accordingly, are marked tomarket each period, with the resulting gains or losses recognized in cost ofsales.

 

7

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*Earnings Per Share -*

 

Basicearnings per share is calculated by dividing net income by the weighted averagenumber of common shares outstanding during the period. Diluted earnings pershare is calculated by dividing net income by the weighted average number ofshares of common stock and common stock equivalents outstanding during theperiod. Common stock equivalents are dilutive stock options and warrants thatare assumed exercised for calculation purposes. The number of common stockoptions which could dilute basic earnings per share in the future, that werenot included in the computation of diluted income per share because to do sowould have been antidilutive, was 158,236 and 50,960 for the three months endedSeptember 28, 2003 and September 29, 2002, respectively. The numberof common stock options which could dilute basic earnings per share in thefuture, that were not included in the computation of diluted income per sharebecause to do so would have been antidilutive, was 195,626 and 84,514 for thenine months ended September 28, 2003 and September 29, 2002,respectively.

 

Presentedbelow is the reconciliation between basic and diluted weighted average sharesfor the three and nine months ended September 28, 2003 andSeptember 29, 2002 (in thousands):

 
|                                                                    |   | **For the Three Months Ended** |   |
|-------------------------------------------------------------------------|--------|--------------------------------|--------|
|                                                                    |   | **Basic**                      |   | **Diluted** |   |
|                                                                    |   | **September 28,  2003**   |   | **September 29,  2002** |   | **September 28,  2003** |   | **September 29,  2002** |   |
|                                                                    |   |                           |   |   |   |   |   |   |   |
| Weighted average number of common shares  outstanding during the period |   | 7,452                          |   | 7,379 |   | 7,452 |   | 7,379 |   |
| Adjustments:                                                            |   |                           |   |   |   |   |   |   |   |
| Assumed  exercise of stock options                                      |   | —                         |   | — |   | 154 |   | 228 |   |
| Weighted average number of shares outstanding                           |   | 7,452                          |   | 7,379 |   | 7,606 |   | 7,607 |   |

 
|                                                                    |   | **For the Nine Months Ended** |
|-------------------------------------------------------------------------|--------|-------------------------------|
|                                                                    |   | **Basic**                     |   | **Diluted** |   |
|                                                                    |   | **September 28,  2003**  |   | **September 29,  2002** |   | **September 28,  2003** |   | **September 29,  2002** |   |
|                                                                    |   |                          |   |   |   |   |   |   |   |
| Weighted average number of common shares  outstanding during the period |   | 7,436                         |   | 7,366 |   | 7,436 |   | 7,366 |   |
| Adjustments:                                                            |   |                          |   |   |   |   |   |   |   |
| Assumed exercise of stock options                                       |   | —                        |   | — |   | 141 |   | 208 |   |
| Weighted average number of shares outstanding                           |   | 7,436                         |   | 7,366 |   | 7,577 |   | 7,574 |   |

 

8

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*Stock-Based Compensation -*

 

TheCompany accounts for stock-based compensation for employees under AccountingPrinciples Board (“APB”) Opinion No. 25, “Accounting for Stock Issued toEmployees,” and elected the disclosure-only alternative under SFAS No. 123,“Accounting for Stock-Based Compensation.” No stock-based compensation cost is included in net income for theCompany’s Stock Option Plan, as all options granted during periods presentedhad an exercise price equal to the market value of the stock on the date ofgrant.

 

InDecember 2002, the Financial Accounting Standards Board (“FASB”) issuedSFAS No. 148, “Accounting for Stock-Based Compensation–Transition andDisclosure,” which amends SFAS No. 123. SFAS No. 148 allows for three methodsof transition for those companies that adopt SFAS No. 123’s provisions forfair value recognition. SFAS No. 148’s transition guidance and provisions forannual disclosures are effective for fiscal years ending afterDecember 15, 2002. The Company did not adopt fair value accounting foremployee stock options under SFAS No. 123 and SFAS No. 148, but will continueto disclose the required pro-forma information in the notes to the consolidatedfinancial statements.

 

Inaccordance with SFAS No. 148, the following table presents the effect on netincome and net income per share had compensation cost for the Company’s stockplans been determined consistent with SFAS No. 123:

 
|                                                                                                                                |   | **For the Three Months Ended** |      | **For the Nine Months Ended** |   |
|-------------------------------------------------------------------------------------------------------------------------------------|--------|--------------------------------|-----------|-------------------------------|--------|
|                                                                                                                                |   | **September 28,  2003**   |      | **September 29,  2002**  |   | **September 28,****2003** |   | **September 29,****2002** |   |
|                                                                                                                                |   |                           |      |                          |   |   |   |   |   |
| Net income, as reported                                                                                                             |   | $                              | 5,315,000 |                          | $      | 3,488,000 |   | $ | 6,916,000 |   | $ | 6,895,000 |   |
| Less stock based compensation expense  determined under fair value method for all stock options, net of related  income tax benefit |   | (528,000                       | )         | (236,000                      | )      | (620,000 | ) | (329,000 | ) |
|                                                                                                                                |   |                           |      |                          |   |   |   |   |   |
| Pro forma net income                                                                                                                |   | $                              | 4,787,000 |                          | $      | 3,252,000 |   | $ | 6,296,000 |   | $ | 6,566,000 |   |
| Basic net income per share, as reported                                                                                             |   | $                              | 0.71      |                          | $      | 0.47 |   | $ | 0.93 |   | $ | 0.94 |   |
| Basic net income per share, pro forma                                                                                               |   | $                              | 0.64      |                          | $      | 0.44 |   | $ | 0.85 |   | $ | 0.89 |   |
|                                                                                                                                |   |                           |      |                          |   |   |   |   |   |
| Diluted net income per share, as reported                                                                                           |   | $                              | 0.70      |                          | $      | 0.46 |   | $ | 0.91 |   | $ | 0.91 |   |
| Diluted net income per share, pro forma                                                                                             |   | $                              | 0.63      |                          | $      | 0.43 |   | $ | 0.83 |   | $ | 0.87 |   |

 

9

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Fair value wasestimated on the grant date using the Black-Scholes option pricing model withthe following assumptions:

 

|                    |   | **2003** |   | **2002** |   |
|-------------------------|--------|----------|--------|----------|--------|
| Risk free interest rate |   | 3.04     | %      | 3.60     | %      |
| Expected life           |   | 5 years  |   | 5 years  |   |
| Expected volatility     |   | 75.47    | %      | 79.97    | %      |
| Dividend yield          |   | 0.00     | %      | 0.00     | %      |
| Fair value              |   | $        | 4.20   |     | $      | 4.99 |   |
|                         |        |          |        |          |        |  |  |

 

*Reclassifications -*

 

Certainprior year amounts have been reclassified to conform with current yearpresentation.

 

**2.  SEGMENT REPORTING**

 

Operatingsegments are components of an enterprise about which separate financialinformation is available that is evaluated regularly by the chief operatingdecision-maker, or decision-making group, in deciding how to allocate resourcesand in assessing performance. The Company’s chief operating decision-maker isthe Chief Executive Officer and President of the Company. The Company’soperating segments include restaurant, foodservice and franchise. The revenuesfrom these segments include both sales to unaffiliated customers andintersegment sales, which generally are accounted for on a basis consistentwith sales to unaffiliated customers. Intersegment sales and other intersegmenttransactions have been eliminated in the accompanying condensed consolidatedfinancial statements.

 

The Company’srestaurants target families with children and adults who desire a reasonablypriced meal in a full-service setting. The Company’s menu offers a broad selectionof freshly-prepared foods which appeal to customers throughout all dayparts.The menu currently features over 100 items comprised of a broad selection ofbreakfast, lunch, dinner and afternoon and evening snack items. Foodserviceoperations manufactures frozen dessert products and distributes suchmanufactured products and purchased finished goods to the Company’s restaurantsand franchised operations. Additionally, it sells frozen dessert products todistributors and retail and institutional locations. The Company’s franchisesegment includes a royalty based on franchise restaurant revenue. In addition,the Company receives rental income from various franchised restaurants. TheCompany does not allocate general and administrative expenses associated withits headquarters operations to any business segment. These costs includeexpenses of the following functions: legal, accounting, personnel not directlyrelated to a segment, information systems and other headquarters activities.

 

The accountingpolicies of the operating segments are the same as those described in thesummary of significant accounting policies except that the financial resultsfor the foodservice operating segment, prior to intersegment eliminations, havebeen prepared using a management approach, which is consistent with the basisand manner in which the Company’s management internally reviews financialinformation for the purpose of assisting in making internal operatingdecisions. Using this approach, the Company evaluates performance based onstand-alone operating segment income (loss) before income taxes and generallyaccounts for intersegment sales and transfers as if the sales or transfers wereto third parties, that is, at current market prices.

 

Duringthe three and nine months ended September 28, 2003, the foodservicesegment did not charge additional zone pricing to the restaurant and franchisesegments. As a result, intercompany zone pricing of approximately $130,000 and$362,000 for the three and nine months ended September 29, 2002,respectively, was reclassified out of foodservice revenue, resulting in reducedcost of sales in the restaurant and franchise segments to conform with currentyear presentation. Additionally, ice cream promotion marketing costs of $471,000and $1,200,000 that were funded by the foodservice segment in 2002 werereclassified to the restaurant segment for the three and nine months endedSeptember 29, 2002, respectively.

 

EBITDArepresents net income before (i) provision for income taxes,(ii) interest expense, net, (iii) depreciation and amortization, (iv)write-downs of property and equipment and (v) other non-cash items. The Companyhas included information concerning 

 

10

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EBITDA in this Form 10-Q because theCompany’s management incentive plan pays bonuses based on achieving EBITDAtargets and the Company believes that such information is used by certaininvestors as one measure of a company’s historical ability to service debt.EBITDA should not be considered as an alternative to, or more meaningful than,earnings (loss) from operations or other traditional indications of a company’soperating performance.

 
|                   |   | **For the Three Months Ended** |    | **For the Nine Months Ended** |   |
|------------------------|--------|--------------------------------|---------|-------------------------------|--------|
|                   |   | **September 28,  2003**   |    | **September 29,  2002**  |   | **September 28,  2003** |   | **September 29,  2002** |   |
|                   |   | **(in thousands)**             |    |
| Revenues:              |   |                           |    |                          |   |   |   |   |   |
| Restaurant             |   | $                              | 127,605 |                          | $      | 124,885 |   | $ | 353,775 |   | $ | 351,034 |   |
| Foodservice            |   | 66,352                         |    | 66,331                        |   | 183,311 |   | 180,007 |   |
| Franchise              |   | 2,571                          |    | 2,663                         |   | 7,536 |   | 7,342 |   |
| Total                  |   | $                              | 196,528 |                          | $      | 193,879 |   | $ | 544,622 |   | $ | 538,383 |   |
|                   |   |                           |    |                          |   |   |   |   |   |
| Intersegment revenues: |   |                           |    |                          |   |   |   |   |   |
| Restaurant             |   | $                              | —  |                          | $      | — |   | $ | — |   | $ | — |   |
| Foodservice            |   | (36,178                        | )       | (35,565                       | )      | (99,934 | ) | (98,714 | ) |
| Franchise              |   | —                         |    | —                        |   | — |   | — |   |
| Total                  |   | $                              | (36,178 | )                             | $      | (35,565 | ) | $ | (99,934 | ) | $ | (98,714 | ) |
|                   |   |                           |    |                          |   |   |   |   |   |
| External revenues:     |   |                           |    |                          |   |   |   |   |   |
| Restaurant             |   | $                              | 127,605 |                          | $      | 124,885 |   | $ | 353,775 |   | $ | 351,034 |   |
| Foodservice            |   | 30,174                         |    | 30,766                        |   | 83,377 |   | 81,293 |   |
| Franchise              |   | 2,571                          |    | 2,663                         |   | 7,536 |   | 7,342 |   |
| Total                  |   | $                              | 160,350 |                          | $      | 158,314 |   | $ | 444,688 |   | $ | 439,669 |   |

 

11

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|                                              |   | **For the Three Months Ended** |   | **For the Nine Months Ended** |   |
|---------------------------------------------------|--------|--------------------------------|--------|-------------------------------|--------|
|                                              |   | **September 28,  2003**   |   | **September 29,  2002**  |   | **September 28,  2003** |   | **September 29,  2002** |   |
|                                              |   | **(in thousands)**             |   |
| EBITDA:                                           |   |                           |   |                          |   |   |   |   |   |
| Restaurant                                        |   | $                              | 17,308 |                          | $      | 15,088 |   | $ | 41,791 |   | $ | 42,356 |   |
| Foodservice                                       |   | 5,573                          |   | 5,439                         |   | 14,020 |   | 14,403 |   |
| Franchise                                         |   | 1,769                          |   | 1,862                         |   | 5,332 |   | 4,998 |   |
| Corporate                                         |   | (5,485                         | )      | (4,771                        | )      | (14,835 | ) | (13,154 | ) |
| (Loss) gain on property and equipment, net        |   | (264                           | )      | 143                           |   | (1,487 | ) | 110 |   |
| Reduction of restructuring reserve                |   | —                         |   | —                        |   | — |   | 400 |   |
| Total                                             |   | $                              | 18,901 |                          | $      | 17,761 |   | $ | 44,821 |   | $ | 49,113 |   |
|                                              |   |                           |   |                          |   |   |   |   |   |
| Interest expense, net-Corporate                   |   | $                              | 6,048  |                          | $      | 6,212 |   | $ | 18,242 |   | $ | 18,764 |   |
|                                              |   |                           |   |                          |   |   |   |   |   |
| Depreciation and amortization:                    |   |                           |   |                          |   |   |   |   |   |
| Restaurant                                        |   | $                              | 3,648  |                          | $      | 4,019 |   | $ | 11,412 |   | $ | 12,006 |   |
| Foodservice                                       |   | 770                            |   | 798                           |   | 2,253 |   | 2,469 |   |
| Franchise                                         |   | 39                             |   | 63                            |   | 116 |   | 202 |   |
| Corporate                                         |   | 934                            |   | 1,217                         |   | 2,983 |   | 4,493 |   |
| Total                                             |   | $                              | 5,391  |                          | $      | 6,097 |   | $ | 16,764 |   | $ | 19,170 |   |
|                                              |   |                           |   |                          |   |   |   |   |   |
| Other non-cash expenses:                          |   |                           |   |                          |   |   |   |   |   |
| Corporate                                         |   | $                              | 54     |                          | $      | 169 |   | $ | 184 |   | $ | 302 |   |
| Write-downs of property and equipment             |   | 26                             |   | —                        |   | 26 |   | 431 |   |
| Total                                             |   | $                              | 80     |                          | $      | 169 |   | $ | 210 |   | $ | 733 |   |
|                                              |   |                           |   |                          |   |   |   |   |   |
| Income (loss) before provision for income  taxes: |   |                           |   |                          |   |   |   |   |   |
| Restaurant                                        |   | $                              | 13,660 |                          | $      | 11,069 |   | $ | 30,379 |   | $ | 30,350 |   |
| Foodservice                                       |   | 4,803                          |   | 4,641                         |   | 11,767 |   | 11,934 |   |
| Franchise                                         |   | 1,730                          |   | 1,799                         |   | 5,216 |   | 4,796 |   |
| Corporate                                         |   | (12,521                        | )      | (12,369                       | )      | (36,244 | ) | (36,713 | ) |
| (Loss) gain on property and equipment, net        |   | (290                           | )      | 143                           |   | (1,513 | ) | (321 | ) |
| Reduction of restructuring reserve                |   | —                         |   | —                        |   | — |   | 400 |   |
| Total                                             |   | $                              | 7,382  |                          | $      | 5,283 |   | $ | 9,605 |   | $ | 10,446 |   |

 

12

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|                                                                   |   | **For the Nine  Months Ended  September 28,  2003** |    | **For the Year  Ended  December 29,  2002** |   |
|------------------------------------------------------------------------|--------|----------------------------------------------------------|---------|--------------------------------------------------|--------|
|                                                                   |   | **(in thousands)**                                       |    |
| Capital expenditures, including assets  acquired under capital leases: |   |                                                     |    |                                             |   |
| Restaurant                                                             |   | $                                                        | 17,882  |                                             | $      | 15,386 |   |
| Foodservice                                                            |   | 3,280                                                    |    | 1,667                                            |   |
| Corporate                                                              |   | 1,052                                                    |    | 1,039                                            |   |
| Total                                                                  |   | $                                                        | 22,214  |                                             | $      | 18,092 |   |
|                                                                   |   |                                                     |    |                                             |   |
|                                                                   |   | **September 28,  2003**                                  |    | **December 29,  2002**                           |   |
| Total assets:                                                          |   |                                                     |    |                                             |   |
| Restaurant                                                             |   | $                                                        | 150,162 |                                             | $      | 144,927 |   |
| Foodservice                                                            |   | 38,540                                                   |    | 39,631                                           |   |
| Franchise                                                              |   | 9,632                                                    |    | 9,062                                            |   |
| Corporate                                                              |   | 59,313                                                   |    | 63,578                                           |   |
| Total                                                                  |   | $                                                        | 257,647 |                                             | $      | 257,198 |   |

 

13

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**3. NEW ACCOUNTING PRONOUNCEMENTS**

 

InJanuary 2003, the Emerging Issues Task Force (“EITF”) issued EITF IssueNo. 02-16, “Accounting by a Customer (Including a Reseller) for CertainConsideration Received from a Vendor,” which states that cash considerationreceived from a vendor is presumed to be a reduction of the prices of thevendor’s products or services and should, therefore, be characterized as areduction of cost of sales when recognized in the statement of operations. Thatpresumption is overcome when the consideration is either a reimbursement ofspecific, incremental, identifiable costs incurred to sell the vendor’sproducts, or a payment for assets or services delivered to the vendor. EITFIssue No. 02-16 is effective for arrangements entered into afterNovember 21, 2002. The adoption of EITF Issue No. 02-16 had no materialimpact on the Company’s financial position or results of operations.

 

InJanuary 2003, the FASB issued Interpretation No. 46, “Consolidation ofVariable Interest Entities, an Interpretation of Accounting Research Bulletin(“ARB”) No. 51” (“FIN 46”). FIN 46 requires certain variable interest entitiesto be consolidated by the primary beneficiary of the entity if the equityinvestors in the entity do not have the characteristics of a controllingfinancial interest or do not have sufficient equity at risk for the entity tofinance its activities without additional subordinated financial support fromother parties. FIN 46 is effective for all new variable interest entitiescreated or acquired after January 31, 2003. For variable interest entitiescreated or acquired prior to February 1, 2003, the provisions of FIN 46must be applied for the first interim or annual period ending afterDecember 15, 2003. The Company is currently in the process of evaluatingthe impact of FIN 46 and has not yet determined the impact on the Company’sresults of operations or financial position.

 

In July 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities.” SFAS No. 146 addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies EITF Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring).” The principal difference between SFAS No. 146 and EITF Issue No. 94-3 relates to the timing of liability recognition. Under SFAS No. 146, a liability for a cost associated with an exit or disposal activity is recognized when the liability is incurred. Under EITF Issue No. 94-3, a liability for an exit cost was recognized at the date of an entity’s commitment to an exit plan. The provisions of SFAS No. 146 are effective for exit or disposal activities that are initiated after December 31, 2002. The adoption of SFAS No. 146 had no material effect on the Company’s financial position or results of operations.

 

In April 2002, the FASB issued SFAS No. 145, “Rescission of SFAS Nos. 4, 44, and 64, Amendment of SFAS No. 13, and Technical Corrections.” SFAS No. 4 required all gains and losses from the extinguishment of debt to be reported as extraordinary items and SFAS No. 64 related to the same matter. SFAS No. 145 requires gains and losses from certain debt extinguishment not to be reported as extraordinary items when the use of debt extinguishment is part of a risk management strategy. SFAS No. 44 was issued to establish transitional requirements for motor carriers. Those transitions are completed, therefore SFAS No. 145 rescinds SFAS No. 44. SFAS No. 145 also amends SFAS No. 13 requiring sale-leaseback accounting for certain lease modifications. SFAS No. 145 is effective for fiscal years beginning after May 15, 2002. The provisions relating to sale-leaseback accounting are effective for transactions occurring after May 15, 2002. The adoption of SFAS No. 145 had no material effect on the Company’s financial position or results of operations.

 

14

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**4.RESTRUCTURING RESERVES**

 

The following represents the reserve andactivity associated with the March 2000 and October 2001restructurings (in thousands):

 
|                            |   | **For the Nine Months Ended  September 28, 2003**    |   |
|---------------------------------|--------|-----------------------------------------------------------|--------|
|                            |   | **Restructuring  Reserves as of  December 29, 2002** |   | **Costs Paid** |   | **Restructuring  Reserves as of  September 28, 2003** |   |
|                            |   |                                                      |   |   |   |   |   |
| Rent                            |   | $                                                         | 679    |   | $ | (216 | ) | $ | 463 |   |
| Utilities and real estate taxes |   | 121                                                       |   | (85 | ) | 36 |   |
| Equipment                       |   | 77                                                        |   | (77 | ) | — |   |
| Other                           |   | 60                                                        |   | (29 | ) | 31 |   |
| Total                           |   | $                                                         | 937    |   | $ | (407 | ) | $ | 530 |   |

 
|                            |   | **For the Nine Months Ended September 29,  2002**    |       |
|---------------------------------|--------|-----------------------------------------------------------|------------|
|                            |   | **Restructuring  Reserves as of  December 30, 2001** |       | **Costs Paid** |   | **Reserve  Reduction** |   | **Restructuring  Reserves as of  September 29, 2002** |   |
|                            |   |                                                      | ** ** | ** ** | ** ** |
|                            |   |                                                      | ** ** | ** ** | ** ** |
|                            |   |                                                      |       |   |   |   |   |   |   |
| Severance pay                   |   | $                                                         | 516        |   | $ | (473 | ) | $ | (43 | ) | $ | — |   |
| Rent                            |   | 1,318                                                     |       | (320 | ) | (298 | ) | 700 |   |
| Utilities and real estate taxes |   | 185                                                       |       | (89 | ) | (3 | ) | 93 |   |
| Equipment                       |   | 480                                                       |       | (197 | ) | 219 |   | 502 |   |
| Outplacement services           |   | 6                                                         |       | (6 | ) | — |   | — |   |
| Other                           |   | 551                                                       |       | (126 | ) | (275 | ) | 150 |   |
| Total                           |   | $                                                         | 3,056      |   | $ | (1,211 | ) | $ | (400 | ) | $ | 1,445 |   |

 

Basedon information currently available, management believes that the restructuringreserve as of September 28, 2003 was adequate and not excessive.

 

15

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**5.RELATED PARTY TRANSACTIONS**

 

In 1994, TRCRealty LLC (a subsidiary of TRC, whose majority equity owner is the Company’sChairman) entered into a ten-year operating lease for an aircraft for use byboth the Company and TRC (which operates restaurants using the trademarkPerkins Restaurant and Bakery (“Perkins”)). In 1999, this lease was cancelledand TRC Realty LLC entered into a new ten-year operating lease for a newaircraft. The Company shared proportionately with Perkins in reimbursing TRCRealty LLC for leasing, tax and insurance expenses. In addition, the Companyalso incurred actual usage costs. During the year ended December 29, 2002,the Company expensed its share of the expected net loss on the termination ofthe cost sharing arrangement as TRC Realty LLC anticipated terminating thelease and disposing of the aircraft by May 2003. The Company’s share ofthe expected net loss was approximately $950,000 and was included in operatingexpenses in the consolidated statement of operations for the year endedDecember 29, 2002. At the Company’s July 23, 2003 Board of Directorsmeeting, the disinterested Board members approved a payment up to $1,000,000 toTRC Realty LLC and on August 26, 2003, a payment of approximately $868,000was made to TRC Realty LLC that terminated the Company’s cost sharingarrangement with Perkins. The payment exceeded the remaining reserve forexpected losses by approximately $86,000, which was reflected in operatingexpenses for the quarter ended September 28, 2003. Under the cost sharingarrangement, which would have expired in January 2010, the Company paidapproximately $500,000 annually.

 

DuringAugust 2003, Friendly’s entered into a single restaurant franchiseagreement with Treats of Huntersville LLC (“Treats”). The owner of Treats is afamily member of the Company’s Chairman of the Board of Directors. Thetransaction was a standard agreement in compliance with the terms andconditions of the Uniform Franchise Offering Circular allowing Treats tooperate one location. The location, which was initially opened by a formerfranchisee but closed in July 2002, was reopened by Treats inAugust 2003. Treats paid an initial franchise fee of $35,000, which wasincluded in income during the quarter ended September 28, 2003.

 

**6. FRANCHISE TRANSACTIONS**

 

In 2000, the Company and its first franchisee, Friendco RestaurantsInc., a subsidiary of Davco Restaurants, Inc. (“Davco”), agreed to terminateDavco’s rights as the exclusive developer of new Friendly’s restaurants inMaryland, Delaware, the District of Columbia and northern Virginia, effectiveDecember 28, 2000. At that time, Davco had the right to close up to 16existing franchised locations and operate the remaining 32 locations undertheir respective existing franchise agreements until such time as a newfranchisee was found for those locations. The existing franchise agreements forthe 32 locations were modified as of December 29, 2001 to allow earlytermination subject, however, to liquidated damages on 22 of the 32 franchiseagreements. During the year ended December 30, 2001, Davco transferred itsrights to three franchised locations to a third party and closed tworestaurants.  During the year endedDecember 29, 2002, Davco transferred its rights to 24 additionalfranchised locations to six separate third parties and closed six restaurants.During the nine months ended September 28, 2003, Davco closed fourrestaurants and transferred its rights to three additional franchised locationsto two third parties. As of September 28, 2003, Friendco Restaurants Inc.owned six restaurants. During June 2003, the Company entered into aSettlement Agreement and Mutual General Release (the “Agreement”) with Davco.The Agreement released Davco from all obligations and guarantees related tocertain leases associated with franchised locations. Proceeds received inconnection with the Agreement were $250,000, which was recorded as revenue inthe nine months ended September 28, 2003.

 

DuringJuly 2003, the Company entered into a development agreement granting JaxFamily Rest., Inc. (“Jax”) certain limited exclusive rights to operate anddevelop Friendly’s full-service restaurants in designated areas within Baker,Clay, Nassau, Putnam and St. John’s counties, Florida (the “Jax Agreement”).Pursuant to the Jax Agreement, Jax agreed to open 10 new restaurants over thenext seven years. The Company received development fees of $155,000, whichrepresent one-half of the initial franchise fees. The $155,000 will berecognized into income as restaurants are opened.

 

16

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**8. SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL INFORMATION**

 

FICC’s obligation related to the Senior Notesare guaranteed fully and unconditionally by one of FICC’s wholly ownedsubsidiaries. There are no restrictions on FICC’s ability to obtain dividendsor other distributions of funds from this subsidiary, except those imposed byapplicable law. The following supplemental financial information sets forth, ona condensed consolidating basis, balance sheets, statements of operations andstatements of cash flows for FICC (the “Parent Company”), Friendly’sRestaurants Franchise, Inc. (the “Guarantor Subsidiary”) and Friendly’sInternational, Inc., Restaurant Insurance Corporation, Friendly’s Realty I,LLC, Friendly’s Realty II, LLC and Friendly’s Realty III, LLC (collectively,the “Non-guarantor Subsidiaries”). All of the LLCs’ assets were owned by theLLCs, which are separate entities with separate creditors which will beentitled to be satisfied out of the LLCs’ assets. Separate complete financialstatements and other disclosures of the Guarantor Subsidiary as ofSeptember 28, 2003 and December 29, 2002 and for the nine monthsended September 28, 2003 and September 29, 2002 were not presentedbecause management has determined that such information is not material toinvestors.

 

Investments insubsidiaries are accounted for by the Parent Company on the equity method forpurposes of the supplemental consolidating presentation. Earnings of thesubsidiaries are, therefore, reflected in the Parent Company’s investmentaccounts and earnings. The principal elimination entries eliminate the ParentCompany’s investments in subsidiaries and intercompany balances andtransactions.

 

17

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**SupplementalCondensed Consolidating Balance Sheet**

**As ofSeptember 28, 2003**

(In thousands)

 
|                                                       |   | **Parent  Company** |    | **Guarantor  Subsidiary** |   | **Non-  guarantor  Subsidiaries** |   | **Eliminations** |   | **Consolidated** |   |
|------------------------------------------------------------|--------|---------------------|---------|---------------------------|--------|-----------------------------------|--------|------------------|--------|------------------|--------|
|                                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| **Assets**                                                 |   |                |    |                      |   |                              |   |             |   |             |   |
|                                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Current assets:                                            |   |                |    |                      |   |                              |   |             |   |             |   |
| Cash and cash equivalents                                  |   | $                   | 26,882  |                      | $      | 2,948                             |   | $                | 1,721  |             | $      | — |   | $ | 31,551 |   |
| Restricted cash                                            |   | —              |    | —                    |   | 1,945                             |   | —           |   | 1,945            |   |
| Accounts receivable, net                                   |   | 9,059               |    | 1,393                     |   | —                            |   | —           |   | 10,452           |   |
| Inventories                                                |   | 15,393              |    | —                    |   | —                            |   | —           |   | 15,393           |   |
| Deferred income taxes                                      |   | 7,718               |    | 18                        |   | —                            |   | 35               |   | 7,771            |   |
| Prepaid expenses and other current assets                  |   | 8,202               |    | 1,151                     |   | 7,780                             |   | (14,248          | )      | 2,885            |   |
| Total current assets                                       |   | 67,254              |    | 5,510                     |   | 11,446                            |   | (14,213          | )      | 69,997           |   |
| Deferred income taxes                                      |   | —              |    | 264                       |   | —                            |   | (264             | )      | —           |   |
| Property and equipment, net                                |   | 115,624             |    | —                    |   | 47,894                            |   | —           |   | 163,518          |   |
| Intangibles and deferred costs, net                        |   | 15,767              |    | —                    |   | 2,548                             |   | —           |   | 18,315           |   |
| Investments in subsidiaries                                |   | 5,183               |    | —                    |   | —                            |   | (5,183           | )      | —           |   |
| Other assets                                               |   | 4,902               |    | 8,141                     |   | 915                               |   | (8,141           | )      | 5,817            |   |
|                                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Total assets                                               |   | $                   | 208,730 |                      | $      | 13,915                            |   | $                | 62,803 |             | $      | (27,801 | ) | $ | 257,647 |   |
|                                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Liabilities and Stockholders’ (Deficit)  Equity       |   |                |    |                      |   |                              |   |             |   |             |   |
|                                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Current liabilities:                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Current maturities of long-term  obligations               |   | $                   | 8,535   |                      | $      | —                            |   | $                | 1,093  |             | $      | (7,776 | ) | $ | 1,852 |   |
| Accounts payable                                           |   | 22,565              |    | —                    |   | —                            |   | —           |   | 22,565           |   |
| Accrued expenses                                           |   | 38,320              |    | 4,514                     |   | 6,631                             |   | (6,280           | )      | 43,185           |   |
| Total current liabilities                                  |   | 69,420              |    | 4,514                     |   | 7,724                             |   | (14,056          | )      | 67,602           |   |
| Deferred income taxes                                      |   | 4,085               |    | —                    |   | —                            |   | (229             | )      | 3,856            |   |
| Long-term obligations, less current  maturities            |   | 181,112             |    | —                    |   | 52,281                            |   | —           |   | 233,393          |   |
| Other long-term liabilities                                |   | 50,487              |    | 890                       |   | 6,126                             |   | (8,333           | )      | 49,170           |   |
| Stockholders’ (deficit) equity                        |   | (96,374             | )       | 8,511                     |   | (3,328                            | )      | (5,183           | )      | (96,374          | )      |
|                                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Total liabilities and stockholders’  (deficit) equity |   | $                   | 208,730 |                      | $      | 13,915                            |   | $                | 62,803 |             | $      | (27,801 | ) | $ | 257,647 |   |

 

18

----

 

**Supplemental Condensed ConsolidatingStatement of Operations**

**For the Three Months Ended September 28, 2003**

(In thousands)

 
|                                                                                            |   | **Parent  Company** |    | **Guarantor  Subsidiary** |   | **Non-  guarantor  Subsidiaries** |   | **Eliminations** |   | **Consolidated** |   |
|-------------------------------------------------------------------------------------------------|--------|---------------------|---------|---------------------------|--------|-----------------------------------|--------|------------------|--------|------------------|--------|
|                                                                                            |   |                |    |                      |   |                              |   |             |   |             |   |
| Revenues                                                                                        |   | $                   | 158,083 |                      | $      | 2,267                             |   | $                | — |             | $      | — |   | $ | 160,350 |   |
|                                                                                            |   |                |    |                      |   |                              |   |             |   |             |   |
| Costs and expenses:                                                                             |   |                |    |                      |   |                              |   |             |   |             |   |
| Cost of sales                                                                                   |   | 56,561              |    | —                    |   | —                            |   | —           |   | 56,561           |   |
| Labor and benefits                                                                              |   | 45,402              |    | —                    |   | —                            |   | —           |   | 45,402           |   |
| Operating expenses and write-downs of  property and equipment                                   |   | 31,276              |    | —                    |   | (1,740                            | )      | —           |   | 29,536           |   |
| General and administrative expenses                                                             |   | 8,781               |    | 1,158                     |   | —                            |   | —           |   | 9,939            |   |
| Depreciation and amortization                                                                   |   | 4,821               |    | —                    |   | 570                               |   | —           |   | 5,391            |   |
| Loss on disposals of other property and  equipment, net                                         |   | 88                  |    | —                    |   | 3                                 |   | —           |   | 91               |   |
| Interest expense, net                                                                           |   | 4,883               |    | —                    |   | 1,165                             |   | —           |   | 6,048            |   |
|                                                                                            |   |                |    |                      |   |                              |   |             |   |             |   |
| Income before provision for income taxes  and equity in net income of consolidated subsidiaries |   | 6,271               |    | 1,109                     |   | 2                                 |   | —           |   | 7,382            |   |
|                                                                                            |   |                |    |                      |   |                              |   |             |   |             |   |
| Provision for income taxes                                                                      |   | (1,561              | )       | (455                      | )      | (51                               | )      | —           |   | (2,067           | )      |
|                                                                                            |   |                |    |                      |   |                              |   |             |   |             |   |
| Income (loss) before equity in net income  of consolidated subsidiaries                         |   | 4,710               |    | 654                       |   | (49                               | )      | —           |   | 5,315            |   |
|                                                                                            |   |                |    |                      |   |                              |   |             |   |             |   |
| Equity in net income of consolidated  subsidiaries                                              |   | 605                 |    | —                    |   | —                            |   | (605             | )      | —           |   |
|                                                                                            |   |                |    |                      |   |                              |   |             |   |             |   |
| Net income (loss)                                                                               |   | $                   | 5,315   |                      | $      | 654                               |   | $                | (49    | )                | $      | (605 | ) | $ | 5,315 |   |

 

19

----

 

**Supplemental Condensed ConsolidatingStatement of Operations**

**For the NineMonths Ended September 28, 2003**

(In thousands)

 
|                                                                                                   |   | **Parent  Company** |    | **Guarantor  Subsidiary** |   | **Non-  guarantor  Subsidiaries** |   | **Eliminations** |   | **Consolidated** |   |
|--------------------------------------------------------------------------------------------------------|--------|---------------------|---------|---------------------------|--------|-----------------------------------|--------|------------------|--------|------------------|--------|
|                                                                                                   |   |                |    |                      |   |                              |   |             |   |             |   |
| Revenues                                                                                               |   | $                   | 438,247 |                      | $      | 6,441                             |   | $                | — |             | $      | — |   | $ | 444,688 |   |
|                                                                                                   |   |                |    |                      |   |                              |   |             |   |             |   |
| Costs and expenses:                                                                                    |   |                |    |                      |   |                              |   |             |   |             |   |
| Cost of sales                                                                                          |   | 157,717             |    | —                    |   | —                            |   | —           |   | 157,717          |   |
| Labor and benefits                                                                                     |   | 127,326             |    | —                    |   | —                            |   | —           |   | 127,326          |   |
| Operating expenses and write-downs of  property and equipment                                          |   | 90,337              |    | —                    |   | (5,199                            | )      | —           |   | 85,138           |   |
| General and administrative expenses                                                                    |   | 24,921              |    | 3,476                     |   | —                            |   | —           |   | 28,397           |   |
| Depreciation and amortization                                                                          |   | 15,046              |    | —                    |   | 1,718                             |   | —           |   | 16,764           |   |
| Loss on disposals of other property and  equipment, net                                                |   | 1,379               |    | —                    |   | 120                               |   | —           |   | 1,499            |   |
| Interest expense, net                                                                                  |   | 14,772              |    | —                    |   | 3,470                             |   | —           |   | 18,242           |   |
|                                                                                                   |   |                |    |                      |   |                              |   |             |   |             |   |
| Income (loss) before provision for income  taxes and equity in net income of consolidated subsidiaries |   | 6,749               |    | 2,965                     |   | (109                              | )      | —           |   | 9,605            |   |
|                                                                                                   |   |                |    |                      |   |                              |   |             |   |             |   |
| Provision for income taxes                                                                             |   | (1,329              | )       | (1,216                    | )      | (144                              | )      | —           |   | (2,689           | )      |
|                                                                                                   |   |                |    |                      |   |                              |   |             |   |             |   |
| Income (loss) before equity in net income  of consolidated subsidiaries                                |   | 5,420               |    | 1,749                     |   | (253                              | )      | —           |   | 6,916            |   |
|                                                                                                   |   |                |    |                      |   |                              |   |             |   |             |   |
| Equity in net income of consolidated  subsidiaries                                                     |   | 1,496               |    | —                    |   | —                            |   | (1,496           | )      | —           |   |
|                                                                                                   |   |                |    |                      |   |                              |   |             |   |             |   |
| Net income (loss)                                                                                      |   | $                   | 6,916   |                      | $      | 1,749                             |   | $                | (253   | )                | $      | (1,496 | ) | $ | 6,916 |   |

 

20

----

 

**SupplementalCondensed Consolidating Statement of Cash Flows**

**For the NineMonths Ended September 28, 2003**

(In thousands)

 
|                                                  |   | **Parent  Company** |   | **Guarantor  Subsidiary** |   | **Non-  guarantor  Subsidiaries** |   | **Eliminations** |   | **Consolidated** |   |
|-------------------------------------------------------|--------|---------------------|--------|---------------------------|--------|-----------------------------------|--------|------------------|--------|------------------|--------|
|                                                  |   |                |   |                      |   |                              |   |             |   |             |   |
| Net cash provided by (used in) operating  activities  |   | $                   | 21,572 |                      | $      | 1,004                             |   | $                | (592   | )                | $      | 928 |   | $ | 22,912 |   |
|                                                  |   |                |   |                      |   |                              |   |             |   |             |   |
| Cash flows from investing activities:                 |   |                |   |                      |   |                              |   |             |   |             |   |
| Purchases of property and equipment                   |   | (21,291             | )      | —                    |   | —                            |   | —           |   | (21,291          | )      |
| Proceeds from sales of property and  equipment        |   | 63                  |   | —                    |   | —                            |   | —           |   | 63               |   |
| Return of investment in subsidiary                    |   | 535                 |   | —                    |   | —                            |   | (535             | )      | —           |   |
| Net cash used in investing activities                 |   | (20,693             | )      | —                    |   | —                            |   | (535             | )      | (21,228          | )      |
|                                                  |   |                |   |                      |   |                              |   |             |   |             |   |
| Cash flows from financing activities:                 |   |                |   |                      |   |                              |   |             |   |             |   |
| Repayments of obligations                             |   | (3,942              | )      | —                    |   | (760                              | )      | —           |   | (4,702           | )      |
| Stock options exercised                               |   | 228                 |   | —                    |   | —                            |   | —           |   | 228              |   |
| Reinsurance deposits received                         |   | —              |   | —                    |   | 2,207                             |   | (2,207           | )      | —           |   |
| Reinsurance payments made from deposits               |   | —              |   | —                    |   | (1,279                            | )      | 1,279            |   | —           |   |
| Dividends paid                                        |   | —              |   | —                    |   | (535                              | )      | 535              |   | —           |   |
| Net cash used in financing activities                 |   | (3,714              | )      | —                    |   | (367                              | )      | (393             | )      | (4,474           | )      |
|                                                  |   |                |   |                      |   |                              |   |             |   |             |   |
| Net (decrease) increase in cash and cash  equivalents |   | (2,835              | )      | 1,004                     |   | (959                              | )      | —           |   | (2,790           | )      |
|                                                  |   |                |   |                      |   |                              |   |             |   |             |   |
| Cash and cash equivalents, beginning of  period       |   | 29,717              |   | 1,944                     |   | 2,680                             |   | —           |   | 34,341           |   |
|                                                  |   |                |   |                      |   |                              |   |             |   |             |   |
| Cash and cash equivalents, end of period              |   | $                   | 26,882 |                      | $      | 2,948                             |   | $                | 1,721  |             | $      | — |   | $ | 31,551 |   |
|                                                  |   |                |   |                      |   |                              |   |             |   |             |   |
| Supplemental disclosures:                             |   |                |   |                      |   |                              |   |             |   |             |   |
| Interest paid                                         |   | $                   | 9,945  |                      | $      | —                            |   | $                | 3,490  |             | $      | — |   | $ | 13,435 |   |
| Income taxes (refunded) paid                          |   | (653                | )      | 1,251                     |   | 363                               |   | —           |   | 961              |   |
| Capital lease obligations incurred                    |   | 680                 |   | —                    |   | —                            |   | —           |   | 680              |   |
| Lease incentive equipment received                    |   | 243                 |   | —                    |   | —                            |   | —           |   | 243              |   |

 

21

----

 

**Supplemental Condensed Consolidating BalanceSheet**

**As of December 29, 2002**

 

(In thousands)

 
|                                                       |   | **Parent  Company** |    | **Guarantor  Subsidiary** |   | **Non-  guarantor  Subsidiaries** |   | **Eliminations** |   | **Consolidated** |   |
|------------------------------------------------------------|--------|---------------------|---------|---------------------------|--------|-----------------------------------|--------|------------------|--------|------------------|--------|
|                                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Assets                                                     |   |                |    |                      |   |                              |   |             |   |             |   |
|                                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Current assets:                                            |   |                |    |                      |   |                              |   |             |   |             |   |
| Cash and cash equivalents                                  |   | $                   | 29,717  |                      | $      | 1,944                             |   | $                | 2,680  |             | $      | — |   | $ | 34,341 |   |
| Accounts receivable, net                                   |   | 9,695               |    | 1,158                     |   | —                            |   | —           |   | 10,853           |   |
| Inventories                                                |   | 17,278              |    | —                    |   | —                            |   | —           |   | 17,278           |   |
| Deferred income taxes                                      |   | 7,718               |    | 18                        |   | —                            |   | 35               |   | 7,771            |   |
| Prepaid expenses and other current assets                  |   | 8,624               |    | 1,175                     |   | 7,778                             |   | (14,515          | )      | 3,062            |   |
| Total current assets                                       |   | 73,032              |    | 4,295                     |   | 10,458                            |   | (14,480          | )      | 73,305           |   |
| Deferred income taxes                                      |   | —              |    | 264                       |   | —                            |   | (264             | )      | —           |   |
| Property and equipment, net                                |   | 108,805             |    | —                    |   | 49,568                            |   | —           |   | 158,373          |   |
| Intangibles and deferred costs, net                        |   | 16,930              |    | —                    |   | 2,712                             |   | —           |   | 19,642           |   |
| Investments in subsidiaries                                |   | 4,222               |    | —                    |   | —                            |   | (4,222           | )      | —           |   |
| Other assets                                               |   | 4,963               |    | 6,742                     |   | 915                               |   | (6,742           | )      | 5,878            |   |
|                                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Total assets                                               |   | $                   | 207,952 |                      | $      | 11,301                            |   | $                | 63,653 |             | $      | (25,708 | ) | $ | 257,198 |   |
|                                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Liabilities and Stockholders’ (Deficit) Equity        |   |                |    |                      |   |                              |   |             |   |             |   |
|                                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Current liabilities:                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Current maturities of long-term  obligations               |   | $                   | 9,138   |                      | $      | —                            |   | $                | 1,031  |             | $      | (7,776 | ) | $ | 2,393 |   |
| Accounts payable                                           |   | 23,902              |    | —                    |   | —                            |   | —           |   | 23,902           |   |
| Accrued expenses                                           |   | 42,581              |    | 3,654                     |   | 6,861                             |   | (6,654           | )      | 46,442           |   |
| Total current liabilities                                  |   | 75,621              |    | 3,654                     |   | 7,892                             |   | (14,430          | )      | 72,737           |   |
| Deferred income taxes                                      |   | 1,762               |    | —                    |   | —                            |   | (229             | )      | 1,533            |   |
| Long-term obligations, less current  maturities            |   | 183,771             |    | —                    |   | 53,103                            |   | —           |   | 236,874          |   |
| Other long-term liabilities                                |   | 50,500              |    | 885                       |   | 5,198                             |   | (6,827           | )      | 49,756           |   |
| Stockholders’ (deficit) equity                        |   | (103,702            | )       | 6,762                     |   | (2,540                            | )      | (4,222           | )      | (103,702         | )      |
|                                                       |   |                |    |                      |   |                              |   |             |   |             |   |
| Total liabilities and stockholders’  (deficit) equity |   | $                   | 207,952 |                      | $      | 11,301                            |   | $                | 63,653 |             | $      | (25,708 | ) | $ | 257,198 |   |

 

22

----

 

**SupplementalCondensed Consolidating Statement of Operations**

**For the ThreeMonths Ended September 29, 2002**

(In thousands)

 
|                                                                                                   |   | **Parent  Company** |    | **Guarantor  Subsidiary** | ** ** | **Non-  guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|--------------------------------------------------------------------------------------------------------|--------|---------------------|---------|---------------------------|------------|-----------------------------------|------------|------------------|------------|------------------|------------|
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Revenues                                                                                               |   | $                   | 156,103 |                      | $          | 2,211                             |       | $                | —     |             | $          | — |   | $ | 158,314 |   |
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Costs and expenses:                                                                                    |   |                |    |                      |       |                              |       |             |       |             |       |
| Cost of sales                                                                                          |   | 57,079              |    | —                    |       | —                            |       | —           |       | 57,079           |       |
| Labor and benefits                                                                                     |   | 43,457              |    | —                    |       | —                            |       | —           |       | 43,457           |       |
| Operating expenses and write-downs of property and equipment                                           |   | 32,680              |    | —                    |       | (1,734                            | )          | —           |       | 30,946           |       |
| General and administrative expenses                                                                    |   | 8,204               |    | 1,165                     |       | —                            |       | —           |       | 9,369            |       |
| Depreciation and amortization                                                                          |   | 5,515               |    | —                    |       | 582                               |       | —           |       | 6,097            |       |
| Loss on franchise sales of restaurant operations and properties                                        |   | 21                  |    | —                    |       | —                            |       | —           |       | 21               |       |
| (Gain) loss on disposals of other property and equipment, net                                          |   | (219                | )       | —                    |       | 69                                |       | —           |       | (150             | )          |
| Interest expense, net                                                                                  |   | 5,027               |    | —                    |       | 1,185                             |       | —           |       | 6,212            |       |
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Income (loss) before provision for income taxes and equity in net  income of consolidated subsidiaries |   | 4,339               |    | 1,046                     |       | (102                              | )          | —           |       | 5,283            |       |
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Provision for income taxes                                                                             |   | (1,312              | )       | (429                      | )          | (54                               | )          | —           |       | (1,795           | )          |
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Income (loss) before equity in net income of consolidated  subsidiaries                                |   | 3,027               |    | 617                       |       | (156                              | )          | —           |       | 3,488            |       |
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Equity in net income of consolidated subsidiaries                                                      |   | 461                 |    | —                    |       | —                            |       | (461             | )          | —           |       |
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Net income (loss)                                                                                      |   | $                   | 3,488   |                      | $          | 617                               |       | $                | (156       | )                | $          | (461 | ) | $ | 3,488 |   |

 

23

----

 

**SupplementalCondensed Consolidating Statement of Operations**

**For the NineMonths Ended September 29, 2002**

(In thousands)

 
|                                                                                                   |   | **Parent  Company** |    | **Guarantor  Subsidiary** | ** ** | **Non-  guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|--------------------------------------------------------------------------------------------------------|--------|---------------------|---------|---------------------------|------------|-----------------------------------|------------|------------------|------------|------------------|------------|
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Revenues                                                                                               |   | $                   | 433,469 |                      | $          | 6,200                             |       | $                | —     |             | $          | — |   | $ | 439,669 |   |
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Costs and expenses:                                                                                    |   |                |    |                      |       |                              |       |             |       |             |       |
| Cost of sales                                                                                          |   | 156,071             |    | —                    |       | —                            |       | —           |       | 156,071          |       |
| Labor and benefits                                                                                     |   | 123,618             |    | —                    |       | —                            |       | —           |       | 123,618          |       |
| Operating expenses and write-downs of property and equipment                                           |   | 90,063              |    | —                    |       | (5,224                            | )          | —           |       | 84,839           |       |
| General and administrative expenses                                                                    |   | 23,156              |    | 3,493                     |       | —                            |       | —           |       | 26,649           |       |
| Reduction of restructuring reserve                                                                     |   | (400                | )       | —                    |       | —                            |       | —           |       | (400             | )          |
| Depreciation and amortization                                                                          |   | 17,417              |    | —                    |       | 1,753                             |       | —           |       | 19,170           |       |
| Loss on franchise sales of restaurant operations and properties                                        |   | 21                  |    | —                    |       | —                            |       | —           |       | 21               |       |
| Loss on disposals of other property and equipment, net                                                 |   | 422                 |    | —                    |       | 69                                |       | —           |       | 491              |       |
| Interest expense, net                                                                                  |   | 15,244              |    | —                    |       | 3,520                             |       | —           |       | 18,764           |       |
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Income (loss) before provision for income taxes and equity in net  income of consolidated subsidiaries |   | 7,857               |    | 2,707                     |       | (118                              | )          | —           |       | 10,446           |       |
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Provision for income taxes                                                                             |   | (2,210              | )       | (1,110                    | )          | (231                              | )          | —           |       | (3,551           | )          |
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Income (loss) before equity in net income of consolidated  subsidiaries                                |   | 5,647               |    | 1,597                     |       | (349                              | )          | —           |       | 6,895            |       |
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Equity in net income of consolidated subsidiaries                                                      |   | 1,248               |    | —                    |       | —                            |       | (1,248           | )          | —           |       |
|                                                                                                   |   |                |    |                      |       |                              |       |             |       |             |       |
| Net income (loss)                                                                                      |   | $                   | 6,895   |                      | $          | 1,597                             |       | $                | (349       | )                | $          | (1,248 | ) | $ | 6,895 |   |

 

24

----

 

**Supplemental Condensed ConsolidatingStatement of Cash Flows**

**For the NineMonths Ended September 29, 2002**

(In thousands)

 
|                                           |   | **Parent  Company** |   | **Guarantor  Subsidiary** | ** ** | **Non-  guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|------------------------------------------------|--------|---------------------|--------|---------------------------|------------|-----------------------------------|------------|------------------|------------|------------------|------------|
|                                           |   |                |   |                      |       |                              |       |             |       |             |       |
| Net cash provided by operating activities      |   | $                   | 29,482 |                      | $          | 965                               |       | $                | 2,559      |             | $          | (1,209 | ) | $ | 31,797 |   |
|                                           |   |                |   |                      |       |                              |       |             |       |             |       |
| Cash flows from investing activities:          |   |                |   |                      |       |                              |       |             |       |             |       |
| Purchases of property and equipment            |   | (9,004              | )      | —                    |       | —                            |       | —           |       | (9,004           | )          |
| Proceeds from sales of property and equipment  |   | 3,426               |   | —                    |       | —                            |       | —           |       | 3,426            |       |
| Return of investment in subsidiary             |   | 450                 |   | —                    |       | —                            |       | (450             | )          | —           |       |
| Net cash used in investing activities          |   | (5,128              | )      | —                    |       | —                            |       | (450             | )          | (5,578           | )          |
|                                           |   |                |   |                      |       |                              |       |             |       |             |       |
| Cash flows from financing activities:          |   |                |   |                      |       |                              |       |             |       |             |       |
| Repayments of obligations                      |   | (2,572              | )      | —                    |       | (615                              | )          | 1,038            |       | (2,149           | )          |
| Stock options exercised                        |   | 133                 |   | —                    |       | —                            |       | —           |       | 133              |       |
| Reinsurance deposits received                  |   | —              |   | —                    |       | 2,024                             |       | (2,024           | )          | —           |       |
| Reinsurance payments made from deposits        |   | —              |   | —                    |       | (2,195                            | )          | 2,195            |       | —           |       |
| Dividends paid                                 |   | —              |   | —                    |       | (450                              | )          | 450              |       | —           |       |
| Net cash used in financing activities          |   | (2,439              | )      | —                    |       | (1,236                            | )          | 1,659            |       | (2,016           | )          |
|                                           |   |                |   |                      |       |                              |       |             |       |             |       |
| Net increase in cash and cash equivalents      |   | 21,915              |   | 965                       |       | 1,323                             |       | —           |       | 24,203           |       |
|                                           |   |                |   |                      |       |                              |       |             |       |             |       |
| Cash and cash equivalents, beginning of period |   | 15,116              |   | 104                       |       | 1,122                             |       | —           |       | 16,342           |       |
|                                           |   |                |   |                      |       |                              |       |             |       |             |       |
| Cash and cash equivalents, end of period       |   | $                   | 37,031 |                      | $          | 1,069                             |       | $                | 2,445      |             | $          | — |   | $ | 40,545 |   |
|                                           |   |                |   |                      |       |                              |       |             |       |             |       |
| Supplemental disclosures:                      |   |                |   |                      |       |                              |       |             |       |             |       |
| Interest paid                                  |   | $                   | 9,780  |                      | $          | —                            |       | $                | 3,250      |             | $          | — |   | $ | 13,030 |   |
| Income taxes (refunded) paid                   |   | (1,029              | )      | 1,020                     |       | —                            |       | —           |       | (9               | )          |

 

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**Item2.  Management’s Discussion and Analysisof Financial Condition and Results of Operations**

 

*The followingdiscussion should be read in conjunction with the Condensed ConsolidatedFinancial Statements of the Company and the notes thereto included elsewhereherein.*

 

**ForwardLooking Statements**

 

Statements contained herein that are not historicalfacts constitute “forward looking statements” as that term is defined in thePrivate Securities Litigation Reform Act of 1995. All forward lookingstatements are subject to risks and uncertainties which could cause results todiffer materially from those anticipated. These factors include the Company’shighly competitive business environment, exposure to commodity prices, risksassociated with the foodservice industry, the ability to retain and attract newemployees, government regulations, the Company’s high geographic concentrationin the Northeast and its attendant weather patterns, conditions needed to meetrestaurant re-imaging and new opening targets and costs associated withimproved service and other initiatives. Other factors that may cause actualresults to differ from the forward looking statements contained herein and thatmay affect the Company’s prospects in general are included in the Company’sother filings with the Securities and Exchange Commission.

 

**Overview**

 

The Company’s revenues are derived primarilyfrom the operation of full-service restaurants, the distribution and sale offrozen desserts through retail and institutional locations and franchising.Friendly’s owns and operates 380 full-service restaurants, franchises 155full-service restaurants and six non-traditional units and manufactures a fullline of frozen desserts distributed through more than 3,500 supermarkets and otherretail locations in 14 states.

 

Following is a summary of the Company-owned andfranchised units:

 
|                |   | **For the  Three Months Ended** |   | **For the  Nine Months Ended** |       |
|---------------------|--------|---------------------------------|--------|--------------------------------|------------|
|                |   | **September 28,  2003**    |   | **September 29,  2002**   | ** ** | **September 28,  2003** | ** ** | **September 29,  2002** | ** ** |
|                |   |                            |   |                           |       |   |   |   |   |
| Company Units:      |   |                            |   |                           |       |   |   |   |   |
| Beginning of period |   | 382                             |   | 390                            |       | 387 |   | 393 |   |
| Openings            |   | —                          |   | —                         |       | 1 |   | — |   |
| Closings            |   | (2                              | )      | (1                             | )          | (8 | ) | (4 | ) |
| End of period       |   | 380                             |   | 389                            |       | 380 |   | 389 |   |
|                |   |                            |   |                           |       |   |   |   |   |
| Franchised Units:   |   |                            |   |                           |       |   |   |   |   |
| Beginning of period |   | 162                             |   | 165                            |       | 162 |   | 167 |   |
| Openings            |   | 1                               |   | 1                              |       | 3 |   | 4 |   |
| Closings            |   | (2                              | )      | (4                             | )          | (4 | ) | (9 | ) |
| End of period       |   | 161                             |   | 162                            |       | 161 |   | 162 |   |

 

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Followingis a summary of systemwide restaurant sales (dollars in thousands):

* *
|                                     |   | **For the Three  Months Ended** |    | **For the  Nine months Ended** |       |
|------------------------------------------|--------|---------------------------------|---------|--------------------------------|------------|
|                                     |   | **September 28,  2003**    |    | **September 29,  2002**   | ** ** | **September 28,  2003** | ** ** | **September 29,  2002** | ** ** |
| Systemwide sales:                        |   |                            |    |                           |       |   |   |   |   |
| Company restaurants                      |   | $                               | 127,605 |                           | $          | 124,885 |   | $ | 353,775 |   | $ | 351,034 |   |
| Franchise restaurants                    |   | 56,129                          |    | 53,626                         |       | 157,336 |   | 150,102 |   |
| Total restaurant sales                   |   | $                               | 183,734 |                           | $          | 178,511 |   | $ | 511,111 |   | $ | 501,136 |   |
|                                     |   |                            |    |                           |       |   |   |   |   |
| Increase in comparable restaurant sales: |   |                            |    |                           |       |   |   |   |   |
| Company restaurants                      |   | 2.9                             | %       | 7.0                            | %          | 1.9 | % | 7.3 | % |
| Franchise restaurants                    |   | 5.1                             | %       | 9.2                            | %          | 4.9 | % | 10.4 | % |
| Systemwide                               |   | 3.5                             | %       | 7.6                            | %          | 2.8 | % | 8.2 | % |

 

***Three months ended September 28,2003 compared with three months ended September 29, 2002***

 

*Revenues:*

 

Total revenues increased $2.1million, or 1.3%, to $160.4 million for the third quarter endedSeptember 28, 2003 from $158.3 million for the same quarter in 2002.Restaurant revenues increased $2.7 million, or 2.2%, to $127.6 million for thethird quarter of 2003 from $124.9 million for the same quarter in 2002.Comparable company-owned restaurant revenues increased 2.9% from the 2002quarter to the 2003 quarter as increases occurred in all dayparts exceptbreakfast, which decreased. Two locations were re-imaged during the thirdquarter ended September 28, 2003. The operating days lost during the re-imagingconstruction period for these locations were negligible. The opening of one newrestaurant in June 2003 increased restaurant revenues by $0.5 million. Theclosing of ten locations over the past 15 months resulted in a $1.4 milliondecline in restaurant revenues in the 2003 period as compared to the 2002period. Foodservice (product sales to franchisees and retail customers)revenues decreased by $0.6 million, or 1.9%, to $30.2 million for the thirdquarter ended September 28, 2003 from $30.8 million for the same quarterin 2002. Franchised restaurant product revenues increased by $0.3 million whilesales to foodservice retail supermarket customers declined by $0.9 million.Case volume in the Company’s retail supermarket business decreased by 7.6% forthe quarter ended September 28, 2003 when compared to the same quarter in2002. Franchise royalty and fee revenues decreased $0.1 million, or 3.5%, to$2.6 million for the third quarter ended September 28, 2003 compared to$2.7 million for the same quarter in 2002. The closings of subleased franchisedlocations reduced franchised rental income by $0.1 million. Initial franchisefees associated with transfers of exiting franchised locations were also lowerby $0.1 million in the 2003 period when compared to the 2002 period. Partiallyoffsetting the declines was a $0.1 million, or 6.3%, increase in royalties onfranchisee sales. Comparable franchised restaurant revenues increased 5.1% fromthe 2002 quarter to the 2003 quarter. There were 161 and 162 franchise unitsopen at September 28, 2003 and September 29, 2002, respectively.

 

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*Cost of sales:*

 

Cost of sales decreased $0.5million, or 0.9% to $56.6 million for the three months ended September 28,2003 from $57.1 million for the same period in 2002. Cost of sales as apercentage of total revenues decreased to 35.3% for the quarter endedSeptember 28, 2003 from 36.1% for the same period in 2002. The lower foodcost as a percentage of total revenue was due to a shift in sales mix fromfoodservice sales to Company-owned restaurant sales. Foodservice sales tofranchisees and retail supermarket customers have a higher food cost as apercentage of revenue than sales in Company-owned restaurants to restaurant patrons.Increased manufactured volumes of ice cream and related products andefficiencies in the Company’s manufacturing facilities more than offset thehigher cost of cream in the 2003 period when compared to the 2002 period. Adecline in foodservice retail sales promotional allowances, recorded as offsetsto revenues, also had a favorable impact on total cost of sales as a percentageof total revenues. As a percentage of restaurant revenues, cost of salesdecreased to 26.9% in the 2003 period as compared to 27.3% in the 2002 period,in part due to an improvement in food cost controls in the current period.

 

*Labor and benefits:*

 

Labor and benefits increased $1.9 million, or 4.5%,to $45.4 million for the third quarter ended September 28, 2003 from $43.5million for the same quarter in 2002. Labor and benefits as a percentage oftotal revenues increased to 28.3% for the third quarter endedSeptember 28, 2003 from 27.4% for the same quarter in 2002. As apercentage of restaurant revenues, labor and benefits increased to 35.6% forthe 2003 period from 34.8% in the 2002 period. The increase in labor andbenefits as a percentage of restaurant revenue resulted from an increase inrestaurant general manager bonuses as restaurant level profitability improved,the expansion of operating hours at some restaurants and an overall decline instaffing efficiencies during the breakfast daypart as breakfast sales havedeclined when compared to the same period in 2002. A continued emphasis onguest satisfaction also resulted in an increase in costs. Additionally, higherworkers compensation costs, increased payroll taxes and a reduced restaurantpension benefit in the 2003 period when compared to the 2002 period contributedto the increase. Revenue increases derived from franchised locations and retailsupermarket customers, which do not have any associated restaurant labor andbenefits, reduced the impact of the higher restaurant labor and benefits as apercentage of total revenues.

 

*Operating expenses:*

 

Operating expenses decreased $1.4million, or 4.6%, to $29.5 million for the third quarter endedSeptember 28, 2003 from $30.9 million for the same quarter in 2002.Operating expenses as a percentage of total revenues were 18.4% and 19.5% forthe third quarters ended September 28, 2003 and September 29, 2002,respectively. The decrease as a percentage of total revenues resulted fromlower restaurant maintenance and restaurant advertising costs in the 2003period when compared to the 2002 period.

 

*General andadministrative expenses:*

 

General and administrative expenses were $9.9million and $9.4 million for the third quarters ended September 28, 2003and September 29, 2002, respectively. General and administrative expensesas a percentage of total revenues increased to 6.2% for the third quarter endedSeptember 28, 2003 from 5.9% for the same period in 2002. The increase isprimarily the result of salary merit increases, higher employment recruitmentcosts at the Company’s headquarters, increases in legal fees, higher severance costsand a reduction in the pension benefit. Bonus expense was lower in the 2003 period when compared to the sameperiod in 2002.

 

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*Reduction ofrestructuring reserve:*

 

Reductionof restructuring reserve was $0.4 million for the three month period endedSeptember 29, 2002. The Company reduced the restructuring reserve by $0.4million during 2002 since the reserve exceeded estimated remaining payments.

 

W*rite-downsof property and equipment:*

 

Write-downs of property andequipment were $26 thousand for the three month period ended September 28,2003 as a result of a write-down of a vacant land parcel.

 

*Depreciation andamortization:*

 

Depreciation and amortizationdecreased $0.7 million, or 11.6%, to $5.4 million for the third quarter endedSeptember 28, 2003 from $6.1 million for the same quarter in 2002.Depreciation and amortization as a percentage of total revenues was 3.4% and3.9% in the 2003 and 2002 quarters, respectively. The reduction reflects the declinein depreciation expense associated with certain purchased software at theCompany’s headquarters and fully depreciated restaurant equipment.

 

*Loss (gain) on disposals of other propertyand equipment, net:*

 

The loss on disposals of other property and equipment, net, was $0.1million for the quarter ended September 28, 2003 compared to a gain ondisposals of other property and equipment, net, of $0.2 million for the quarterended September 29, 2002. The loss in the 2003 quarter primarily resulted fromdisposals related to the replacement of inoperative equipment. The gain during2002 primarily resulted from the sale of one restaurant location, which waspartially offset by fire losses incurred during the period.

 

*Interest expense,net:*

 

Interest expense, net ofcapitalized interest and interest income, decreased by $0.2 million, or 2.6%,to $6.0 million for the third quarter ended September 28, 2003 from $6.2million for the same period in 2002. The decrease was primarily the result ofthe decrease in the average outstanding debt in the 2003 quarter compared tothe 2002 quarter and lower interest rates.

 

*Provision for income taxes:*

 

The provisionfor income taxes was $2.1 million, or 28.0%, and $1.8 million, or 34.0%, forthe third quarters ended September 28, 2003 and September 29, 2002,respectively. The rate in 2002 was reduced in the subsequent quarter as taxcredits and changes to state valuation allowances reduced the rate.

 

*Net income:*

 

Net income was $5.3 million and$3.5 million for the third quarters ended September 28, 2003 andSeptember 29, 2002, respectively, for the reasons discussed above.

 

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**Nine months endedSeptember 28, 2003 compared with nine months ended September 29, 2002**

 

*Revenues:*

 

Total revenues increased $5.0million, or 1.1%, to $444.7 million for the nine months endedSeptember 28, 2003 from $439.7 million for the same period in 2002.Restaurant revenues increased $2.8 million, or 0.8%, to $353.8 million for thenine months ended September 28, 2003 from $351.0 million for the sameperiod in 2002. Record snowfall during the first quarter of the current yearand increased rainfall during the second and third quarters of the current yearhad an unfavorable impact on restaurant revenues when compared to the prioryear. Comparable company-owned restaurant revenues increased 1.9% from the 2002period to the 2003 period as increases occurred in all dayparts exceptbreakfast, which decreased. Operating days in comparable operating units duringthe 2003 period were reduced by 0.2% due to construction period closingsassociated with the Company’s re-imaging program.  Twenty-six locations were re-imaged during the nine months endedSeptember 28, 2003.  The opening ofone new restaurant in June 2003 increased restaurant revenues by $0.6million. The closing of 14 locations over the past 21 months resulted in a $3.6million decline in restaurant revenues in the 2003 period as compared to the2002 period. Foodservice (product sales to franchisees and retail customers)revenues increased by $2.1 million, or 2.6%, to $83.4 million for the ninemonths ended September 28, 2003 from $81.3 million for the same period in2002. Franchised restaurant product revenues and sales to foodservice retailsupermarket customers increased by $0.4 million and $1.7 million, respectively.Case volume in the Company’s retail supermarket business increased by 3.6% forthe nine-months ended September 28, 2003 when compared to the same periodin 2002. Franchise royalty and fee revenues increased $0.2 million, or 2.6%, to$7.5 million for the nine months ended September 28, 2003 compared to $7.3million for the same period in 2002. Royalties on franchised sales increased$0.4 million, or 6.9%, as comparable franchised restaurant revenues grew 4.9%from the 2002 period to the 2003 period. Initial franchise fees associated withtransfers of existing franchised locations and forfeited development fees werelower by $0.2 million in the 2003 period when compared to the 2002 period.Declines in rental income for subleased locations were offset by $0.3 millionreceived in the 2003 period pursuant to an agreement releasing Davco from allobligations and guarantees related to certain leases associated with franchisedlocations. There were 161 and 162 franchise units open at September 28,2003 and September 29, 2002, respectively.

 

*Cost of sales:*

 

Cost of sales increased $1.6million, or 1.1% to $157.7 million for the nine months ended September 28,2003 from $156.1 million for the nine months ended September 29, 2002.Cost of sales as a percentage of total revenues was 35.5% for the nine monthsended September 28, 2003 and September 29, 2002. Higher cream pricesin the 2003 period when compared to the 2002 period and a shift in sales mixfrom Company-owned restaurant sales to foodservice sales were offset by animprovement in restaurant food cost controls and efficiencies in the Company’smanufacturing facility. Foodservice sales to franchisees and retail supermarketcustomers have a higher food cost as a percentage of revenue than sales inCompany-owned restaurants to restaurant patrons. Foodservice retail salespromotional allowances, recorded as offsets to revenues, were approximately thesame percentage of gross retail sales in both periods. The Company expects thatcream prices will be higher in the fourth quarter of 2003 when compared to thesame period in 2002. Restaurant cost of sales as a percentage of restaurantrevenues decreased to 26.8% for the nine months ended September 28, 2003from 27.2% for the same period in 2002. The decrease in the 2003 period whencompared to the 2002 period was in part due to an improvement in food costcontrols in the current period.

 

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The cost ofcream, the principal ingredient used in making ice cream, affects cost of salesas a percentage of total revenues, especially in foodservice’s retail business.A $0.10 increase in the cost of a pound of AA butter adversely affects theCompany’s annual cost of sales by approximately $1.1 million, which may beoffset by a price increase or other factors. To minimize risk, alternativesupply sources continue to be pursued. However, no assurance can be given thatthe Company will be able to offset any cost increases in the future and futureincreases in cream prices could have a material adverse effect on the Company’sresults of operations.

 

*Labor and benefits:*

 

Labor and benefits increased $3.7million, or 3.0%, to $127.3 million for the nine months endedSeptember 28, 2003 from $123.6 million for the same period in 2002. Laborand benefits as a percentage of total revenues increased to 28.6% for the ninemonths ended September 28, 2003 from 28.1% for the same period in 2002. Asa percentage of restaurant revenues, labor and benefits increased to 36.0% forthe 2003 period from 35.3% in the 2002 period. The increase in labor andbenefits as a percentage of restaurant revenue was primarily due to higherworkers compensation costs, increased payroll taxes and a reduced restaurantpension benefit in the 2003 period when compared to the 2002 period. Minimumstaffing requirements during the breakfast daypart have also had an adverseimpact on labor costs in the current period when compared to the same period in2002. Revenue increases derived from franchised locations and retailsupermarket customers, which do not have any associated restaurant labor andbenefits, reduced the impact of the higher restaurant benefits as a percentageof total revenues.

 

*Operating expenses:*

 

Operating expenses increased $0.7million, or 0.8%, to $85.1 million for the nine months ended September 28,2003 from $84.4 million for the same period in 2002. Operating expenses as apercentage of total revenues were 19.1% and 19.2% for the nine months ended September 28,2003 and September 29, 2002, respectively. The increase in dollarsresulted from higher restaurant costs for snow removal, natural gas andadvertising in the 2003 period when compared to the 2002 period.

 

*General and administrative expenses:*

 

General and administrative expenseswere $28.4 million and $26.6 million for the nine months endedSeptember 28, 2003 and September 29, 2002, respectively. General andadministrative expenses as a percentage of total revenues increased to 6.4% forthe nine months ended September 28, 2003 from 6.1% for the same period in2002. The increase is primarily the result of salary merit increases, higheremployment recruitment costs for field management and headquarters positions,increases in legal fees, higher severance costs and a reduction in the pensionbenefit. Bonus expense was lower in the 2003 period when compared to the sameperiod in 2002.

 

*Reduction ofrestructuring reserve:*

 

Reductionof restructuring reserve was $0.4 million for the nine month period endedSeptember 29, 2002. The Company reduced the restructuring reserve by $0.4million during 2002 since the reserve exceeded estimated remaining payments.

 

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W*rite-downsof property and equipment:*

 

Write-downs of property andequipment were $26 thousand and $0.4 million for the nine month periods endedSeptember 28, 2003 and September 29, 2002, respectively, primarily asa result of write-downs of a vacant land parcel in both periods.

 

*Depreciation andamortization:*

 

Depreciation and amortizationdecreased $2.4 million, or 12.6%, to $16.8 million for the nine months endedSeptember 28, 2003 from $19.2 million for the same period in 2002.Depreciation and amortization as a percentage of total revenues was 3.8% and4.4% in the 2003 and 2002 periods, respectively. The reduction reflects thedecline in depreciation expense associated with certain purchased software atthe Company’s headquarters and fully depreciated restaurant equipment.

 

*Loss (gain) on disposals of other propertyand equipment, net:*

 

The loss on disposals of other property and equipment, net, was $1.5million and $0.5 million for the nine months ended September 28, 2003 andSeptember 29, 2002, respectively. The loss in the nine month period in 2003 primarily resulted fromdisposals related to the remodeling of restaurants and the replacement ofinoperative equipment. The loss during the nine month period in 2002 primarilyresulted from the sale of idle land and four closed locations.

 

*Interest expense,net:*

 

Interest expense, net ofcapitalized interest and interest income, decreased by $0.6 million, or 2.8%,to $18.2 million for the nine months ended September 28, 2003 from $18.8million for the same period in 2002. The decrease was primarily the result ofthe decrease in the average outstanding debt in the 2003 period compared to the2002 period and lower interest rates. Total outstanding debt, including capitallease and finance obligations, was reduced from $239.3 million atSeptember 29, 2002 to $235.2 million at September 28, 2003.

 

*Provision for income taxes:*

 

The provisionfor income taxes was $2.7 million, or 28.0%, for the nine months endedSeptember 28, 2003. At this time, the Company estimates that the effective taxrate for 2003 will be 28.0%. The provision for income taxes was $3.6 million,or 34.0%, for the nine months ended September 29, 2002. The rate in 2002 wasreduced in the subsequent quarter as tax credits and changes to state valuationallowances reduced the rate. The tax rate for the 2002 fiscal year was 24.0%.

 

*Net income:*

 

Net income was $6.9 million for thenine months ended September 28, 2003 and September 29, 2002 for thereasons discussed above.

 

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**Liquidity andCapital Resources**

 

TheCompany’s primary sources of liquidity and capital resources are cash generatedfrom operations and, if needed, borrowings under its revolving credit facility.Net cash provided by operating activities was $22.9 million for the nine monthsended September 28, 2003. During the nine months ended September 28,2003, inventory decreased by $1.9 million primarily due to high quantities ofpurchased frozen goods on hand in December 2002 in preparation for theJanuary 2003 marketing event. Other assets increased $1.7 millionprimarily as a result of restricted cash of $1.9 million. There was norestricted cash as of December 29, 2002 as this requirement was satisfiedwith a letter of credit. Accounts payable, trade decreased by $1.3 million primarilyas a result of decreased inventory purchases and the timing of rent payments.Accrued expenses and other long-term liabilities decreased $4.1 million as aresult of $3.7 million of payments made for accrued construction costs, $4.3million of corporate and restaurant bonus payments and a reduction of $0.9million in the gift card liability as a result of redemptions of holiday giftcards sold. These decreases were partially offset by higher accrued interest of$4.7 million due to the timing of interest payment dates.

 

Additionalsources of liquidity consist of capital and operating leases for financingleased restaurant locations (in malls and shopping centers and land or buildingleases), restaurant equipment, manufacturing equipment, distribution vehicles andcomputer equipment. Additionally, sales of under-performing existing restaurantproperties and other assets (to the extent FICC’s and its subsidiaries’ debtinstruments permit) are sources of cash. The amount of debt financing that FICCwill be able to incur is limited by the terms of its New Credit Facility andSenior Notes Indenture.

 

Net cash used in investing activities was$21.2 million for the nine months ended September 28, 2003. Capitalexpenditures for restaurant operations were approximately $17.9 million for thenine months ended September 28, 2003.

 

TheCompany had working capital of $2.4 million as of September 28, 2003. Theworking capital needs of companies engaged in the restaurant industry aregenerally low and as a result, restaurants are frequently able to operate witha working capital deficit because: (i) restaurant operations are conductedprimarily on a cash (and cash equivalent) basis with a low level of accountsreceivable; (ii) rapid turnover allows a limited investment in inventories; and(iii) cash from sales is usually received before related expenses for food,supplies and payroll are paid.

 

InDecember 2001, the Company completed a financial restructuring plan (the“Refinancing Plan”) which included the repayment of the $64.5 millionoutstanding under the Old Credit Facility and the repurchase of approximately$21.3 million in Senior Notes with the proceeds from $55.0 million in long-termmortgage financing (the “Mortgage Financing”) and a $33.7 million sale andleaseback transaction (the “Sale/Leaseback Financing”). In addition, FICCsecured a new $30.0 million revolving credit facility (the “New CreditFacility”) of which up to $20.0 million is available to support letters ofcredit. The $30.0 million commitment less outstanding letters of credit isavailable for borrowing to provide working capital and for other corporateneeds. As of September 28, 2003, $16.9 million was available foradditional borrowings under the New Credit Facility, total letters of creditoutstanding were approximately $13.1 million and there were no revolving creditloans outstanding.

 

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Three newlimited liability corporations (“LLCs”) were organized in connection with theMortgage Financing. Friendly Ice Cream Corporation is the sole member of eachLLC. FICC sold 75 of its operating Friendly’s restaurants to the LLCs inexchange for the proceeds from the Mortgage Financing. Promissory notes wereissued for each of the 75 properties. Each LLC is a separate entity withseparate creditors which will be entitled to be satisfied out of such LLC’sassets. Each LLC is a borrower under the Mortgage Financing.

 

The Mortgage Financing has a maturity date ofJanuary 1, 2022 and is amortized over 20 years. Interest on $10 million ofthe original $55 million from the Mortgage Financing is variable and is the sumof the 30-day LIBOR rate in effect (1.12% at September 28, 2003) plus 6%on an annual basis. Changes in the interest rate are calculated monthly and recognizedannually when the monthly payment amount is adjusted. Changes in the monthlypayment amounts owed due to interest rate changes are reflected in theprincipal balances which are re-amortized over the remaining life of themortgages. The remaining $45 million of the original $55 million from theMortgage Financing bears interest at a fixed annual rate of 10.16%. Eachpromissory note may be prepaid in full. The variable rate notes are subject toprepayment penalties during the first five years. The fixed rate notes may notbe prepaid without the Company providing the note holders with a yieldmaintenance premium.

 

The Mortgage Financing requires the Companyto maintain a fixed charge coverage ratio, as defined, of at least 1.10 to 1and each LLC to maintain a fixed charge coverage ratio, as defined, on anaggregate restaurant basis of at least 1.25 to 1, in each case calculated as ofthe last day of each fiscal year. The Company is in compliance with thesecovenants.

 

The New Credit Facility is secured by substantiallyall of the assets of FICC and two of its six subsidiaries, Friendly’sRestaurants Franchise Inc. and Friendly’s International Inc. These twosubsidiaries also guaranty FICC’s obligations under the New Credit Facility.The New Credit Facility was amended on December 27, 2002 to extend thematurity date to December 17, 2005. As of September 28, 2003, therewere no revolving credit loans outstanding.

 

The revolving credit loans bear interest atthe Company’s option at either (a) the Base Rate plus the applicable margin asin effect from time to time (the “Base Rate”) (6.50% at September 28,2003) or (b) the Eurodollar rate plus the applicable margin as in effect fromtime to time (the “Eurodollar Rate”) (5.55% at September 28, 2003).

 

As of September 28, 2003 and December 29, 2002, total letters ofcredit outstanding were approximately $13.1 million and $14.6 million,respectively. During the nine months ended September 28, 2003 andSeptember 29, 2002, there were no drawings against the letters of credit.

 

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TheNew Credit Facility has an annual “clean-up” provision which obligates theCompany to repay in full all revolving credit loans on or beforeSeptember 30 (or, if September 30 is not a business day, as defined,then the next business day) of each year and maintain a zero balance on suchrevolving credit for at least 30 consecutive days, to includeSeptember 30, immediately following the date of such repayment.

 

The New Credit Facility includes certainrestrictive covenants including limitations on indebtedness, restrictedpayments such as dividends and stock repurchases and sales of assets and ofsubsidiary stock. Additionally, the New Credit Facility limits the amount whichthe Company may spend on capital expenditures, restricts the use of proceeds,as defined, from asset sales and requires the Company to comply with certainfinancial covenants. The Company is in compliance with these covenants.

 

In connection with the Refinancing Plan, inDecember 2001 the Company entered into and accounted for theSale/Leaseback Financing, which provided approximately $33.7 million ofproceeds to the Company. The Company sold 44 properties operating as Friendly’sRestaurants and entered into a master lease with the buyer to lease the 44properties for an initial term of 20 years. There are four five-year renewaloptions and lease payments are subject to escalator provisions every five yearsbased upon increases in the Consumer Price Index.

 

The$200 million Senior Notes issued in November 1997 (the “Senior Notes”) areunsecured senior obligations of FICC, guaranteed on an unsecured senior basisby FICC’s Friendly’s Restaurants Franchise, Inc. subsidiary, but areeffectively subordinated to all secured indebtedness of FICC, including theindebtedness incurred under the New Credit Facility. The Senior Notes mature onDecember 1, 2007. Interest on the Senior Notes is payable at 10.50% perannum semi-annually on June 1 and December 1 of each year. In connectionwith the Refinancing Plan, FICC repurchased approximately $21.3 million inaggregate principal amount of the Senior Notes for $17.0 million. OnJuly 3, 2003, the Company obtained a limited waiver to the New CreditFacility to allow the Company to repurchase certain of the Senior Notes in anamount up to $3.0 million, subject to certain conditions. In July 2003,FICC repurchased approximately $2.7 million in aggregate principal amount ofthe Senior Notes for approximately $2.8 million, the then current market value.The remaining $176.0 million of the Senior Notes are redeemable, in whole or inpart, at FICC’s option at redemption prices from 105.25% to 100.00%, based onthe redemption date.

 

The Company anticipates requiring capital inthe future principally to maintain existing restaurant and plant facilities andto continue to renovate and re-image existing restaurants. Capital expendituresfor the remaining three months of 2003 are anticipated to be $9.8 million inthe aggregate, of which $6.5 million is expected to be spent on restaurantoperations. The Company’s actual 2003 capital expenditures may vary from theseestimated amounts. The Company believes that the combination of the fundsanticipated to be generated from operating activities and borrowing availabilityunder the New Credit Facility will be sufficient to meet the Company’santicipated operating requirements, capital requirements and obligationsassociated with the restructuring.

 

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The followingrepresents the contractual obligations and commercial commitments of theCompany as of September 28, 2003 (in thousands):

 
|                                  |   | **Payments  due by Period** |    |
|---------------------------------------|--------|-----------------------------|---------|
| **Contractual  Obligations:**         |   | **Total**                   |    | **Remainder  of  Fiscal 2003** | ** ** | **Fiscal  Years  2004 & 2005** | ** ** | **Fiscal  Years  2006 & 2007** | ** ** | **Fiscal  Years  Beyond  2007** | ** ** |
| Short-term and long-term debt         |   | $                           | 229,351 |   | $ | 270 |   | $ | 2,368 |   | $ | 178,866 |   | $ | 47,847 |   |
| Capital lease and finance obligations |   | 8,928                       |    | 350 |   | 2,505 |   | 1,829 |   | 4,244 |   |
| Operating leases                      |   | 143,689                     |    | 6,156 |   | 32,908 |   | 25,024 |   | 79,601 |   |
| Purchase commitments                  |   | 38,289                      |    | 33,921 |   | 4,287 |   | 81 |   | — |   |
|                                       |        |                             |         |  |  |  |  |  |  |  |  |  |  |  |  |  |

 
|                               |   | **Amount of  Commitment Expiration by Period** | ** ** |
|------------------------------------|--------|------------------------------------------------|------------|
| **Other Commercial  Commitments:** |   | **Total**                                      |       | **Remainder  of  Fiscal 2003** |   | **Fiscal  Years  2004 & 2005** |   | **Fiscal  Years  2006 & 2007** |   | **Fiscal  Years  Beyond  2007** |   |
| Letters of credit                  |   | $                                              | 13,089     |   | $ | — |   | $ | 13,089 |   | $ | — |   | $ | — |   |
|                                    |        |                                                |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

**Seasonality**

 

Due to the seasonality of frozen dessertconsumption, and the effect from time to time of weather on patronage of therestaurants, the Company’s revenues and operating income are typically higherin its second and third quarters.

 

**GeographicConcentration**

 

Approximately 89% of the Company-ownedrestaurants are located, and substantially all of its retail sales aregenerated, in the Northeast. As a result, a severe or prolonged economic recessionor changes in demographic mix, employment levels, population density, weather,real estate market conditions or other factors specific to this geographicregion may adversely affect the Company more than certain of its competitorswhich are more geographically diverse.

 

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**SignificantKnown Events, Trends or Uncertainties**

 

**PensionPlan Funded Status**

 

Certain of the Company’s employees are covered undera noncontributory defined benefit pension plan. As disclosed in the Company’s2002 Form 10-K, as of the 2002 measurement date (i.e., the Company’s fiscal2002 year end), this plan had a projected benefit obligation of $98.9 millionand a fair value of plan assets of $81.9 million. The Company recognized anadditional minimum liability in accordance with SFAS No. 87 during the yearended December 29, 2002. Since the additional minimum liability exceededunrecognized prior service cost, the excess of $24.7 million, net of the incometax benefit of $10.1 million, was reported as a charge to stockholders’ deficitin 2002. As a result of the overall decline in market interest rates, theCompany will use a lower discount rate to measure the projected benefitobligation as of the 2003 measurement date, which will result in an increase tothe projected benefit obligation. As a result of the increased unfundedaccumulated benefit obligation, the Company will likely be required to recordan additional charge to stockholders’ deficit. Although the Company has not yetdetermined the exact amount of the charge, the Company currently estimates theincreased amount of the unfunded accumulated benefit obligation to beapproximately $3.0 million and the charge to stockholders’ deficit to be lessthan the amount of the underfunding.

 

**SignificantAccounting Policies**

 

FinancialReporting Release No. 60 issued by the Securities and Exchange Commissionrequires all companies to include a discussion of critical accounting policiesor methods used in the preparation of financial statements. The following is abrief discussion of the more significant accounting policies and methods usedby the Company. The Company’s consolidated financial statements, including thenotes thereto, which are contained in the 2002 Annual Report on Form 10-Kshould be read in conjunction with this discussion.

 

*Use of Estimates in the Preparation of Financial Statements -*

 

Thepreparation of financial statements in conformity with accounting principlesgenerally accepted in the United States requires management to make estimatesand assumptions that affect the reported amounts of assets and liabilities andthe disclosure of contingent assets and liabilities at the dates of thefinancial statements and the reported amounts of revenues and expenses duringthe reporting periods. The critical accounting policies and most significantestimates and assumptions relate to revenue recognition, insurance reserves,recoverability of accounts receivable, restructuring reserves, valuationallowances and pension and other post-retirement benefits expense. Actualamounts could differ significantly from the estimates.

 

*Revenue Recognition -*

 

The Company’s revenues are derived primarilyfrom the operation of full-service restaurants, the distribution and sale offrozen desserts through retail and institutional locations and franchising. TheCompany recognizes restaurant revenue upon receipt of payment from the customerand retail revenue, net of discounts and allowances, upon delivery of product.Reserves for discounts and allowances from retail sales are estimated andaccrued when revenue is recorded. Actual amounts could differ materially fromthe estimates. Franchise royalty income, based on net sales of franchisees, ispayable monthly and is recorded on the accrual method. Initial franchise feesare recorded as revenue upon completion of all significant services, generallyupon opening of the restaurant.

 

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*Insurance Reserves -*

 

The Company is self-insured through retentions ordeductibles for the majority of its workers’ compensation, automobile, generalliability, employer’s liability, product liability and group health insuranceprograms. Self-insurance amounts vary up to $0.5 million per occurrence.Insurance with third parties, some of which is then reinsured throughRestaurant Insurance Corporation (“RIC”), the Company’s wholly-ownedsubsidiary, is in place for claims in excess of these self-insured amounts. RICreinsured 100% of the risk from $0.5 million to $1.0 million per occurrencethrough September 2, 2000 for FICC’s workers’ compensation, generalliability, employer’s liability and product liability insurance. Subsequent toSeptember 2, 2000, the Company discontinued its use of RIC as a captiveinsurer for new claims. FICC’s and RIC’s liabilities for estimated incurredlosses are actuarially determined and recorded in the accompanying condensedconsolidated financial statements on an undiscounted basis. Actual incurredlosses may vary from the estimated incurred losses and could have a materialaffect on the Company’s insurance expense.

 

*Concentration ofCredit Risk -*

 

Financialinstruments, which potentially expose the Company to concentrations of creditrisk, consist principally of accounts receivable. The Company performs ongoingcredit evaluations of its customers and generally requires no collateral tosecure accounts receivable. The credit review is based on both financial andnon-financial factors. The Company maintains a reserve for potentiallyuncollectible accounts receivable based on its assessment of the collectibilityof accounts receivable.

 

*Restructuring Reserves -*

 

OnOctober 10, 2001, the Company eliminated approximately 70 positions atcorporate headquarters. In addition, approximately 30 positions in therestaurant construction and fabrication areas were eliminated byDecember 30, 2001. The purpose of the reduction was to streamlinefunctions and reduce redundancy among its business segments. As a result of theelimination of the positions and the outsourcing of certain functions, theCompany reported a pre-tax restructuring charge of approximately $2.5 millionfor severance, rent and unusable construction supplies in the year endedDecember 30, 2001.

 

InMarch 2000, the Company’s Board of Directors approved a restructuring planthat provided for the immediate closing of 81 restaurants at the end ofMarch 2000 and the disposition of an additional 70 restaurants over thenext 24 months. As a result of this plan, the Company reported a pre-taxrestructuring charge of approximately $12.1 million for severance, rent,utilities and real estate taxes, demarking, lease termination costs and certainother costs associated with the closing of the locations, along with a pre-taxwrite-down of property and equipment for these locations of approximately $17.0million in the year ended December 31, 2000. The Company reduced therestructuring reserve by $0.4 million and $1.9 million during the years endedDecember 29, 2002 and December 30, 2001, respectively, since the reserveexceeded estimated remaining payments.

 

As ofSeptember 28, 2003, the remaining restructuring reserve was $0.5 million.The restructuring reserve may be increased or decreased based upon remainingpayments, which could vary materially from the estimates depending upon thetiming of restaurant closings and other factors.

 

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*Pension and Other Post-Retirement Benefits -*

 

Certainof the Company’s employees are covered under a noncontributory defined benefitpension plan. The determination of the Company’s obligation and expense forpension and other post-retirement benefits is dependent upon the selection ofcertain assumptions used by actuaries in calculating such amounts. Thoseassumptions include, among other things, the discount rate, expected long-termrate of return on plan assets and rates of increase in compensation and healthcare costs. In accordance with accounting principles generally accepted in theUnited States, actual results that differ from the assumptions are accumulatedand amortized over future periods and, therefore, generally affect therecognized expense and recorded obligation in such future periods. Significantdifferences in actual experience or significant changes in the assumptions maymaterially affect the future pension and other post-retirement obligations andexpense.

 

*Long-Lived Assets -*

 

In accordance with SFAS No. 144, “Accountingfor the Impairment or Disposal of Long-Lived Assets,” the Company reviews its1988 Non-Friendly Marks, which were assigned to the Company by Hershey inSeptember 2002, for impairment on a quarterly basis. The Companyrecognizes impairment has occurred when the carrying value of the 1988Non-Friendly Marks exceeds the estimated future undiscounted cash flows of thetrademarked products.

 

The Company reviews each restaurant propertyquarterly to determine which properties will be disposed of, if any. Thisdetermination is made based on poor operating results, deteriorating propertyvalues and other factors. In addition, the Company reviews all restaurants withnegative cash flow for impairment on a quarterly basis. The Company recognizesan impairment has occurred when the carrying value of property reviewed exceedsits estimated fair value, which is estimated based on the Company’s experienceselling similar properties and local market conditions, less costs to sell forproperties to be disposed of.

 

*Income Taxes -*

 

TheCompany accounts for income taxes in accordance with SFAS No. 109, “Accountingfor Income Taxes,” which requires recognition of deferred tax assets andliabilities for the expected future tax consequences of events that have beenincluded in the financial statements or tax returns. A valuation allowance isrecorded for deferred tax assets whose realization is not likely. The Companyrecords income taxes based on the effective rate expected for the year with anychanges in the valuation allowance reflected in the period of change. As ofSeptember 28, 2003 and December 29, 2002, a valuation allowance of$10.2 million existed related to state NOL carryforwards due to restrictions onthe usage of state NOL carryforwards and short carryforward periods for certainstates. Taxable income by state for future periods is difficult to estimate.The amount and timing of any future taxable income may affect the usage of suchcarryforwards, which could result in a material change in the valuationallowance.

 

*Stock-BasedCompensation -*

 

The Company accounts for stock-based compensationfor employees under APB Opinion No. 25, “Accounting for Stock Issued toEmployees,” and elected the disclosure-only alternative under SFAS No. 123,“Accounting for Stock-Based Compensation.” No stock-based compensation cost is included in net income for theCompany’s Stock Option Plan, as all options granted during periods presentedhad an exercise price equal to the market value of the stock on the date ofgrant. In accordance with SFAS No. 148, “Accounting for Stock BasedCompensation-Transition and Disclosure,” the Company will continue to disclosethe required pro-forma information in the notes to the consolidated financialstatements.

 

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**Item 3.  Quantitative and Qualitative DisclosuresAbout Market Risk**

 

Therehas been no material change in the Company’s market risk exposure since thefiling of the 2002 Annual Report on Form 10-K.

 

**Item 4. Controls and Procedures**

 

As ofSeptember 28, 2003, an evaluation was performed under the supervision andwith the participation of the Company’s management, including the ChiefExecutive Officer (“CEO”) and Chief Financial Officer (“CFO”), of theeffectiveness of the design and operation of the Company’s disclosure controlsand procedures.  Based on thatevaluation, the Company’s management, including the CEO and CFO, concluded thatthe Company’s disclosure controls and procedures were effective as ofSeptember 28, 2003.

 

Duringthe quarter ended September 28, 2003, there was no change in the Company'sinternal control over financial reporting (as defined in Rule 13a-15(e) underthe Exchange Act) that has materially affected, or is reasonably likely tomaterially affect, our internal control over financial reporting.

 

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**PART II - OTHER INFORMATION**

 

**Item6.  Exhibits and reports on Form 8-K**

 

(a) Exhibits

 

Theexhibit index is incorporated by reference herein.

 

(b) Reports on Form 8-K

 
| **Date Filed**         |   | **Event  Reported**                              |
|------------------------|--------|--------------------------------------------------|
| September 2, 2003 |   | Item 5 – Other Events                       |
|                   |   | Item 7 – Financial Statements and  Exhibits |

 

 

**SIGNATURES**

 

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned,thereunto duly authorized.

 

 
|   | Friendly Ice Cream  Corporation |
|--------|---------------------------------|
|   |                            |
|   |                            |
|   | By:                             | /s/PAUL V. HOAGLAND |   |
|   |                            | Name:  Paul V. Hoagland |
|   |                            | Title: Executive Vice President of Administration  and Chief Financial Officer  |
|   |                            |   |
|   | Date:                           | October 23, 2003 |

 

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**EXHIBIT INDEX**

 
| 3.1    | Restated Articles of Organization of Friendly Ice Cream Corporation  (the “Company”)  (Incorporated by  reference to Exhibit 3.1 to the Company’s Registration Statement on Form S-1,  Reg. No. 333-34633).                                                                                                                |
|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.2    | Amended and Restated By-laws of the Company (Incorporated by  reference to Exhibit 3(II) to the Registrant’s current report on Form 8-K  filed September 2, 2003, File No. 0-3930).                                                                                                                                                       |
| 4.1    | Credit Agreement among the Company, Fleet Bank, N.A and certain other  banks and financial institutions (“Credit Agreement”) dated as of  December 17, 2001 (Incorporated by reference to Exhibit 4.1 to the  Registrant’s Annual Report on Form 10-K for the fiscal year ended  December 30, 2001, File No. 0-3930). |
| 4.1(a) | Consent, Limited Waiver and Amendment No. 1 to Revolving Credit  Agreement dated as of February 15, 2002. (Incorporated by reference to  Exhibit 4.1(a) to the Registrant’s Annual Report on Form 10-K for the fiscal  year ended December 29, 2002, File No. 0-3930).                                                          |
| 4.1(b) | Limited Waiver and Amendment No. 2 to Revolving Credit Agreement  dated as of December 27, 2002. (Incorporated by reference to Exhibit  4.1(b) to the Registrant’s Annual Report on Form 10-K for the fiscal year  ended December 29, 2002, File No. 0-3930).                                                                   |
| 4.2    | Loan Agreement between the Company’s subsidiary, Friendly’s Realty I,  LLC and GE Capital Franchise Finance Corporation dated as of  December 17, 2001 (Incorporated by reference to Exhibit 4.2 to the  Registrant’s Annual Report on Form 10-K for the fiscal year ended  December 30, 2001, File No. 0-3930).      |
| 4.3    | Loan Agreement between the Company’s subsidiary, Friendly’s Realty  II, LLC and GE Capital Franchise Finance Corporation dated as of  December 17, 2001 (Incorporated by reference to Exhibit 4.3 to the  Registrant’s Annual Report on Form 10-K for the fiscal year ended December 30,  2001, File No. 0-3930).     |
| 4.4    | Loan Agreement between the Company’s subsidiary, Friendly’s Realty  III, LLC and GE Capital Franchise Finance Corporation dated as of  December 17, 2001 (Incorporated by reference to Exhibit 4.4 to the  Registrant’s Annual Report on Form 10-K for the fiscal year ended  December 30, 2001, File No. 0-3930).    |
| 4.5    | Senior Note Indenture between Friendly Ice Cream Corporation,  Friendly’s Restaurants Franchise, Inc. and The Bank of New York, as Trustee  (Incorporated by reference to Exhibit 4.5 to the Registrant’s Annual Report  on Form 10-K for the fiscal year ended December 27, 1998, File No.  0-3930).                           |
| 4.6    | Rights Agreement between the Company and The Bank of New York, a  Rights Agent (Incorporated by reference to Exhibit 4.6 to the Company’s Registration  Statement on Form S-1, Reg. No. 333-34633).                                                                                                                                       |
| 10.1   | The Company’s 2003 Incentive Plan (as amended on July 23,  2003).*                                                                                                                                                                                                                                                                   |
| 10.2   | Agreement dated as of August 27, 2003 terminating the Aircraft  Reimbursement Agreement between the Company and TRC Realty Co.                                                                                                                                                                                                                 |
| 31.1   | Certification pursuant to Section 302 of the Sarbanes-Oxley Act  of 2002 signed by John. L. Cutter.                                                                                                                                                                                                                                       |
| 31.2   | Certification pursuant to Section 302 of the Sarbanes-Oxley Act  of 2002 signed by Paul V. Hoagland.                                                                                                                                                                                                                                      |
| 32.1   | Certification pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 signed by John  L. Cutter.                                                                                                                                                                                   |
| 32.2   | Certification pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 signed by Paul  V. Hoagland.                                                                                                                                                                                 |

 

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|   |   | * - Management Contract or Compensatory Plan or Arrangement |
|--------|--------|-------------------------------------------------------------|

 

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