(Friendly's Logo)
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`Great Food
& Ice Cream May 30, 2006
Ms. Linda Cvrkel
Branch Chief
Division of Corporation Finance
United States
Securities and Exchange Commission
100 F Street, N.E.
Washington, D. C. 20549
Re: Friendly Ice Cream Corporation
Form 10-K: For the fiscal year ended December 31, 2005
Form 10-Q: For the quarter ended March 31, 2006
Commission File #: 001-13579
Dear Ms. Cvrkel:
Reference is made to the Staff's letter of comment dated May 15, 2006 (the
"Staff's Letter"). Set forth are Friendly Ice Cream Corporation's (the
"Company") responses to the comments raised in the Staff's Letter relating to
the above-referenced filings on Form 10-K and Form 10-Q.
Notes to the Financial Statements
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Note 2. Summary of basis of presentation and Significant Accounting Policies
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- Stock-Based Compensation, page F-14
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1. We note from your response to our prior comment 3 that for options
issued in 2005 you used historical data beginning in January 2001.
Please tell us if you used the same method to estimate the
volatility factor for options granted in 2004 and 2003. If not,
please tell us the nature of the differences between the two
methods and your basis for the change in method in 2005. Also, as
previously requested, please explain the changes in facts or
circumstances that resulted in the change in the volatility
factors used for 2004 and 2005.
Friendly Ice Cream Corporation o 1855 Boston Road o Wilbraham, MA o 01095
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Friendly Ice Cream Corporation
May 30, 2006
Page 2
Response
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The Company used the same method to estimate the volatility factor
for options granted in 2004 and 2003. In 2003 and 2004, we had
limited trading history, as the Company initially went public at
the end of 1997. Volatility during this period was greater due to
both the initial post-IPO time frame and the Company's 2000
restructuring; however, it was the only history we had at that
time that was reasonably consistent in life with the options being
issued. By 2005, the additional trading years available to us made
it possible to recognize a period of trading history that not only
continued to be reasonably consistent with the lives of the
options being issued, but excluded the early years containing the
most volatility. We also believe that the trading history used for
the options granted in 2005 is more representative of the
Company's typical trading volatility.
It should be noted that had a lower volatility been assumed, the
effect on the pro forma disclosure would have been lower pro forma
stock compensation expense over the two-year period of $157,000.
Note 5. Discontinued Operations, page F-20
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2. We note from your response to our prior comment 5 that the net
loss related to the sale of restaurants that closed during 2004
was $34,000. However, it appears from the disclosures in Note 4
that the gain on two properties that were closed and sold during
the fourth quarter of 2004 was $782,000, which was included in
operating income. Please explain to us and in the notes to your
financial statements why the gain on these two properties was
considered operating income in 2004; however the gain/loss on the
sale of properties in 2005 is classified as discontinued
operations. Alternatively, please revise your presentation to
include the gain related to the sale of the restaurants in 2004 as
discontinued operations.
Response
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The Company's response to the Staff's prior comment 5 that the net
loss related to the sale of restaurants that closed during 2004
was $34,000 referred not only to the gain on the two properties
sold during the fourth quarter, but also to the operating loss,
net of income taxes related to those properties as well as eight
additional properties closed during 2004.
Friendly Ice Cream Corporation
May 30, 2006
Page 3
The following table lists the activity related to the 10 properties closed
during 2004:
Gain / Net (Loss) /
Description (Loss) on Operating Gain after Comments
disposal Loss tax @ 41%
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Two Abandoned ($59,000) ($73,000) ($78,000) We believe that the closing of
Leased Properties- this restaurant benefited other
Significant Sales restaurants based on significant
Migration sales increases in nearby
restaurants. Therefore, the
results of operations and any
related gain or loss were
included in income from
operations on the Company's
financial statements.
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One Sold property- $727,000 (103,000) $368,000 We believe that the closing of
significant sales this restaurant benefited other
migration restaurants based on significant
sales increases in nearby
restaurants. Therefore, the
results of operations and any
related gain or loss were
included in income from
operations on the Company's
financial statements.
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Five Closed $0 ($285,000) ($168,000) Properties marketed for lease to
properties marketed third parties, which represents
for lease to third continuing involvement
parties
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One Sold property $55,000 ($179,000) ($73,000) Net loss immaterial, not shown
no sales migration separately as discontinued
operations
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One Abandoned $0 ($141,000) ($83,000) Net loss immaterial, not shown
Leased Property-no separately as discontinued
sales migration operations
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Friendly Ice Cream Corporation
May 30, 2006
Page 3
Note 8. Income Taxes, page F-26
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3. We note that your response to our prior comment 6 explains the
nature of the tax matters that resulted in a reversal of the
accrual in fiscal 2004 and an additional accrual in 2005. Please
confirm to us that in future filings you will disclose the nature
of significant changes in the accrual. Also, please tell us why
the company previously believed it was probable that the company
would be required to pay the $2,156,000 of income tax accruals for
use of an aircraft leased by the Company that were reversed in
2004. Your response should clearly explain what events or changes
in circumstances resulted in the conclusion that payment of this
amount was no longer probable during 2004. Your response should
clearly explain why outside tax counsel no longer believed the
payment of amounts accrued was probable.
Response
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The Company will, in future filings, disclose the nature of
significant changes in the accrual.
In 1994 the Company, as a privately held company, entered into an
Aircraft reimbursement Agreement with its affiliate, TRC Realty
Co. ("TRC"). The Agreement allowed the Company to use an aircraft
TRC leased from General Electric Capital Corporation ("GECC"). The
Company agreed to reimburse TRC for 50% of the fixed costs, and
all of the variable operating expenses related to the Company's
use of the aircraft, for the life of the 10-year lease. In 1999,
TRC, with the Company's consent, substituted a new lease and
aircraft for the then existing one. Subsequently, the percentage
of fixed costs for which the Company was responsible was reduced
from 50% to 40%.
In February 2003, one of the Company's stockholders filed a
lawsuit seeking, among other things, to compel the Company's
Chairman to reimburse the Company for his personal use of the
aircraft. During the initial stages of the lawsuit and throughout
2003, the Company concluded that it was probable that deductions
related to the expenses for the aircraft would be disallowed by
the Internal Revenue Service ("IRS") upon audit due to the
Company's limited use of the aircraft. Such a disallowance would
have resulted in additional tax and interest, for which the
Company accrued. The Company discussed this issue with its
independent accountants and the law firm representing the Company
in the lawsuit and it was determined at that time that an accrual
was appropriate.
Friendly Ice Cream Corporation
May 30, 2006
Page 5
During 2004, as the lawsuit progressed, the Company reviewed the
then current status of the stockholder litigation and concluded
that an accrual was appropriate.
In November 2004, the Company was informed by the IRS that its
2002 Consolidated Federal Income Tax Return was to be audited.
Given the significance of this matter, and in order to prepare for
the audit, the Company sought advice from its outside legal tax
counsel including the airplane tax accrual issue. The outside
counsel's conclusion, citing numerous Internal Revenue Code
sections, Treasury Regulations and court decisions, was that
although it was possible, it was less than probable that the IRS
would be successful in disallowing the deductions related to the
expenses incurred to lease the aircraft. Based on this advice by
outside tax counsel following an examination of the then current
status of the lawsuit, the Company reversed its accrual related to
this matter.
In 2005, the IRS audit was expanded to include 2003 and 2004 in
addition to 2002. The audit was completed in April 2006 with no
adjustment to the deductions related to expenses incurred to lease
the aircraft.
4. We note from your response to our prior comment number 6, that
prior to 2005, the Company would accrue only for the potential
interest on probable audit exposures and not for the related tax
that would be payable. Please tell us why you believe your
accounting policy with respect to probable tax exposures prior to
2005 was in accordance with paragraph 8 of SFAS No. 5. As part of
your response, please explain why you did not previously recognize
provisions for the tax contingencies but only for the related
interest. Also, please tell us what portion of the $1,446,000
recognized in 2005 related to tax contingencies that originated
prior to 2005 and indicate the related periods in which these
contingencies arose. We may have further comment upon receipt of
your response.
Friendly Ice Cream Corporation
May 30, 2006
Page 6
Response
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The Company's response to the Staff's prior comment number 6
stated, "Prior to 2005, the Company would accrue potential
interest only on probable audit exposures that would result in
future deduction, i.e., temporary differences." Temporary
differences do not give rise to a tax contingency accrual due to
the fact that an adjustment by the IRS related as to when a
deduction could be taken, as opposed to complete disallowance,
would result in an offsetting deferred tax asset and have no
impact on net income.
In 2005, however, the Company determined that a valuation
allowance was required that reduced the carrying value of net
deferred tax assets to zero. Additionally, the Company expects to
record a full valuation allowance on future tax benefits until it
is able to sustain an appropriate level of profitability. While
the Company is recording a full valuation allowance of future tax
benefits, any future disallowance of temporary income tax
deductions would negatively impact earnings by the amount of tax
and interest.
The Company accounts for income tax exposures pursuant to SFAS No.
5, "Accounting for Contingencies," ("SFAS No. 5"), which provides
that an estimated loss from a loss contingency should be accrued
by a charge to income if both the following criteria are met:
1. Information available prior to issuance of the financial
statements indicates that it is probable that an asset had
been impaired or a liability had been incurred at the date
of the financial statements.
2. The amount of loss can be reasonably estimated.
Therefore, the Company did include in the tax accrual additional
tax contingencies for issues that were not just related to the
timing of a deduction or an item of income, i.e., permanent items
whereby the additional taxes would result in additional tax
expense.
Of the $1,446,000 recognized in 2005 related to tax contingencies,
approximately $1,039,000 originated prior to 2005 and relate to
2002, 2003 and 2004.
Friendly Ice Cream Corporation
May 30, 2006
Page 7
The Company hereby acknowledges that (i) the Company is responsible for the
adequacy and accuracy of the disclosure in its filings, (ii) Staff comments or
changes to disclosure in response to Staff comments do not foreclose the
Commission from taking any action with respect to its filings and (iii) the
Company may not assert Staff comments as a defense in any proceeding initiated
by the Commission or any person under the federal securities laws of the United
States.
If you have any questions regarding the Company's responses to the Staff Letter,
please contact Florence Tassinari, Controller at (413) 731-4032.
Sincerely,
Friendly Ice Cream Corporation
By: / s / PAUL V. HOAGLAND
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Paul V. Hoagland
Executive Vice President of Administration
And Chief Financial Officer