The following discussion should be read in conjunction with the consolidated financial statements and accompanying notes appearing elsewhere in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for the year ended June 28, 2009, and may contain certain forward-looking statements that are based on current management expectations. Generally, verbs in the future tense and the words "believe," "expect," "anticipate," "estimate," "intends," "opinion," "potential" and similar expressions identify forward-looking statements. Forward-looking statements in this report include, without limitation, statements relating to our business objectives, our customers and franchisees, our liquidity and capital resources, and the impact of our historical and potential business strategies on our business, financial condition, and operating results. Our actual results could differ materially from our expectations. Further information concerning our business, including additional factors that could cause actual results to differ materially from the forward-looking statements contained in this Quarterly Report on Form 10-Q, are set forth in our Annual Report on Form 10-K for the year ended June 28, 2009. These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. The forward-looking statements contained herein speak only as of the date of this Quarterly Report on Form 10-Q and, except as may be required by applicable law, we do not undertake, and specifically disclaim any obligation to, publicly update or revise such statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.

Overview

The Company is a franchisor and food and supply distributor to a system of restaurants operating under the trade name "Pizza Inn." Our distribution division is Norco Restaurant Services Company ("Norco"). At September 27, 2009, there were 310 domestic and international Pizza Inn restaurants, consisting of three Company-owned domestic restaurants, 237 franchised domestic restaurants, and 70 franchised international restaurants. The 240 domestic restaurants consisted of: (i) 154 restaurants that offer dine-in, carry-out, and in many cases, delivery services ("Buffet Units"); (ii) 38 restaurants that offer delivery and carry-out services only ("Delco Units"); and (iii) 48 restaurants that are typically located within a convenience store, college campus building, airport terminal, or other commercial facility and offer quick carry-out service from a limited menu ("Express Units"). The 240 domestic restaurants were located in 17 states predominately situated in the southern half of the United States. The 70 international restaurants were located in 11 foreign countries.

Basic and diluted income per common share increased to $0.05 for the three month period ended September 27, 2009 compared to $0.03 for the comparable period ended September 28, 2008. Net income for the three month period ended September 27, 2009 increased $73,000 to $366,000 from $293,000 for the comparable period in the prior fiscal year, on revenues of $10.0 million for the three month period ended September 27, 2009 and $11.4 million for the comparable period in the prior fiscal year. The increase in net income during the three month period ended September 27, 2009, was primarily due to a non-recurring inventory adjustment in the prior year of approximately $0.2 million offset by higher income taxes.

Management believes that key performance indicators in evaluating financial results include domestic chain-wide retail sales and the number and type of operating restaurants. The following table summarizes these key performance indicators.

                                                               Three Months Ended
                                                        September 27,      September 28,
                                                            2009               2008
Domestic retail sales Buffet Units (in thousands)     $        26,762    $        27,762
Domestic retail sales Delco Units (in thousands)      $         2,253    $         2,745
Domestic retail sales Express Units (in
thousands)                                            $         1,037    $         1,262
               Total domestic retail sales (in
thousands)                                            $        30,052    $        31,769

Average number of domestic Buffet Units                           152                156
Average number of domestic Delco Units                             37                 41
Average number of domestic Express Units                           49                 55

Revenues

Currently our revenues are derived from restaurant operations, sales of food, paper products and supplies by Norco to franchisees, franchise royalties and franchise fees. Our financial results are dependent in large part upon the pricing and cost of these products and supplies to franchisees, and the level of chain-wide retail sales, which are driven by changes in same store sales and restaurant count.

Food and Supply Sales

Food and supply sales by Norco include food and paper products and other distribution revenues. Food and supply sales for the three month period ended September 27, 2009 decreased 17%, or $1.7 million, to $8.4 million from $10.1 million in the same period in the prior fiscal year. Domestic food and paper sales accounted for $1.5 million of the decrease, driven primarily by two factors: (i) a 31% decrease in cheese prices; and (ii) a decrease in total domestic chain-wide retail sales of 5%, or $1.7 million compared to the same period in the prior fiscal year.

Franchise Revenue

Franchise revenue, which includes income from royalties, license fees and area development and foreign master license sales, was flat at $1.1 million for the three month period ended September 27, 2009 compared to the comparable period for the prior fiscal year. A decrease in domestic royalties resulting from lower retail sales driven by unit closures in the prior fiscal year and the decrease in comparable store sales offset by increased domestic franchise fees and a one time royalty buy-out of $44,000. Due to the "0% First Year Royalty" incentive program the Company had in place for new buffet franchise units signed by the end of the prior fiscal year, new buffets opened during the current fiscal year will not generate increased domestic royalties. The following chart summarizes the major components of franchise revenue (in thousands):

                                         Three Months Ended
                                   September 27,     September 28,
                                       2009              2008
Domestic royalties               $           851   $           915
Domestic royalties - buy-out                  44                --
International royalties                      121               140
International franchise fees                   6                 9
Domestic franchise fees                       40                --
Franchise revenue                $         1,062   $         1,064

Restaurant Sales

Restaurant sales, which consist of revenue generated by Company-owned
restaurants, increased 186%, or $353,000, to $543,000 for the three month period
ended September 27, 2009 compared to $190,000 for the comparable period in the
prior fiscal year. The Company opened a new store in Denton, Texas on October
15, 2008 and a new store in Fort Worth, Texas on September 15, 2009. The
following chart summarizes the sales by location (in thousands):

                                                      Three Months Ended
                                                September 27,     September 28,
                                                    2009              2008
Plano, Texas                                  $           160   $           190
Denton, Texas - opened October 2008                       311                --
Fort Worth, Texas - opened September 2009                  72                --
  Restaurant sales                            $           543   $           190

Cost of Sales

Cost of sales, which includes primarily direct materials, distribution fees and labor directly related to food and supply sales and restaurant sales, decreased 16%, or $1.5 million, for the three month period ended September 27, 2009 compared to the comparable period for the prior fiscal year. This decrease was primarily the result of lower commodity costs combines with lower food and supply sales.

Franchise Expenses

Franchise expenses include selling, general and administrative expenses directly
related to the sale and continuing service of domestic and international
franchises. These expenses decreased 3%, or $12,000 for the three month period
ended September 27, 2009 compared to the comparable period in the prior fiscal
year. These savings were the result of lower amortization of the re-acquired
area developer territory. The following chart summarizes the major components of
franchise expenses (in thousands):

                                                          Three Months Ended
                                                    September 27,     September 28,
                                                        2009              2008
Payroll                                           $           508   $           477
Travel                                                         44                29
Allocated overhead                                           (114 )            (155 )
Amortize re-acquired area developer territory                  --                46
Research and development                                        8                23
Other                                                          21                59
Franchise expenses                                $           467   $           479

General and Administrative Expenses

General and administrative expenses increased 13%, or $0.1 million, to $0.8
million for the three month period ended September 27, 2009 compared to $0.7
million for the comparable period for the prior fiscal year. The following chart
summarizes the major components of general and administrative expenses (in
thousands):

                                       14
--------------------------------------------------------------------------------
                                                Three Months Ended
                                          September 27,     September 28,
                                              2009              2008
Payroll                                 $           394   $           310
Legal fees                                           13                41
Other professional fees                             105               105
Insurance and taxes                                  73                73
Allocated overhead                                 (252 )            (232 )
Occupancy costs                                     151               154
New store opening costs                              70                 6
Stock compensation expense                           38                55
Other                                               185               175
General and administrative expenses     $           777   $           687

The increase in general and administrative expenses during the three months ended September 27, 2009 was primarily due to an increase in payroll associated with earned bonuses and general and administrative expenses associated with the new Company owned store in Fort Worth, Texas, which were offset by a reduction in legal fees and stock compensation expense.

Provision for Bad Debts

Provision for bad debt expense remained at $15,000 for the three month period ended September 27, 2009 and for the comparable period in the prior fiscal year.

Interest Expense

Interest expense was relatively unchanged for the three month period ended September 27, 2009 from the comparable periods in the prior fiscal year.

Provision for Income Tax

For the three month period ended September 27, 2009, income tax expense of $0.2 million was calculated on an effective income tax rate that is consistent with the statutory U.S. federal income tax rate of 34% adjusted for state income tax effects and permanent difference items. Management believes that future operations will generate sufficient taxable income, along with the reversal of temporary differences, to fully realize the net deferred tax asset of $0.7 million.

Discontinued Operations

Discontinued operations includes losses from two Company-owned stores closed in
Houston, Texas during the quarter ended September 23, 2007. Below is a summary
of discontinued operations (in thousands):

                                                      Three Months Ended
                                                September 27,     September 28,
                                                    2009              2008
Sales                                         $            --   $            --
Cost of Sales                                              --                --
General and Administrative                                 39                49
  Total loss from discontinued operations     $           (39 ) $           (49 )

During the three month period ended September 27, 2009, one new domestic Buffet Unit, one new Delco Unit and two international Units were opened by Pizza Inn franchisees and one Buffet Unit was opened as a Company store. Four domestic restaurants were closed by franchisees (one Delco Unit and three Express Units) typically because of unsatisfactory standards of operation or poor performance. We do not believe that these closings had any material impact on the collectibility of our outstanding receivables and royalties due to us because
(i) these amounts have been reserved for or are otherwise collectable and (ii) these closed restaurants were generally lower volume restaurants whose financial impact on our business as a whole was not significant. For those restaurants that are anticipated to close or are exhibiting signs of financial distress, credit terms are typically restricted, weekly food orders are required to be paid for on delivery and/or with certified funds and royalty and advertising fees are collected as add-ons to the delivered price of weekly food orders.

The following charts summarize restaurant activity for the three month periods ended September 27, 2009 and September 28, 2008:

Three months ended September 27, 2009

                                            Beginning                           End of
                                            of Period     Opened     Closed     Period
Domestic:
   Buffet Units                                   152          2         --        154
   Delco Units                                     38          1          1         38
   Express Units                                   51         --          3         48
International Units                                68          2         --         70
Total                                             309          5          4        310

Three months ended September 28, 2008

                                            Beginning                           End of
                                            of Period     Opened     Closed     Period
Domestic:
   Buffet Units                                   158         --          3        155
   Delco Units                                     41         --         --         41
   Express Units                                   56          1          2         55
International Units                                68         --         --         68
Total                                             323          1          5        319

Our primary sources of liquidity are cash flows from operating activities and use of our credit facilities from time to time.

Cash flows from operating activities generally reflect net income adjusted for depreciation and amortization, changes in working capital and accrued expenses. In the three month period ended September 27, 2009, cash provided by operations was $0.2 million as compared to cash used by operating activities of $0.7 million in the comparable period for the prior year. This increase in cash provided by operating activities was due to a slight increase in net income, a significantly lower reduction in trade payables, increased deferred franchise fees and lower reduction in accrued expenses due to year end bonuses paid in the first quarter of the prior year.

Cash flows from financing activities generally reflect changes in the Company's borrowings during the period and repurchases of outstanding shares of our common stock. Net cash provided by financing activities was $187,000 in the three month period ended September 27, 2009 compared to $69,000 for the comparable period in the prior fiscal year. This increase in cash provided by financing activities was primarily due to the absence of repurchases in the first quarter of fiscal 2010, partially offset by lower net borrowings and cash overdraft.

Management believes that future operations will generate sufficient taxable income, along with the reversal of temporary differences, to fully realize the net deferred tax asset of $0.7 million without reliance on material non-routine income.

On January 23, 2007, the Company and The CIT Group / Commercial Services, Inc. ("CIT") entered into an agreement for a revolving credit facility of up to $3.5 million (the "CIT Credit Facility"). CIT may terminate the CIT Credit Facility only as of January 23, 2012 or the same date any year thereafter, and then only by giving the Company at least 90 days prior written notice of such termination. The actual availability on the CIT Credit Facility is determined by advance rates on eligible inventory and accounts receivable. Interest on borrowings outstanding on the CIT Credit Facility is at a rate equal to the prime rate plus an interest rate margin of 0.0% to 0.5% or, at the Company's option, at the LIBOR rate plus an interest rate margin of 2.0% to 3.0%. The specific interest rate margin is based on the Company's performance under certain financial ratio tests. An annual commitment fee is payable on any unused portion of the CIT Credit Facility at a rate of 0.375%. All of the Company's (and its subsidiaries') personal property assets (including, but not limited to, accounts receivable, inventory, equipment, and intellectual property) have been pledged to secure payment and performance of the CIT Credit Facility, which is subject to customary covenants for asset-based loans.

On June 27, 2007, the Company and CIT entered into an agreement to amend the CIT Credit Facility to (i) allow the Company to repurchase Company stock in an amount up to $3.0 million, (ii) allow the Company to make permitted cash distributions or cash dividend payments to the Company's shareholders in the ordinary course of business and (iii) increase the aggregate capital expenditure limit from $0.8 million to $3.0 million per fiscal year.

On May 30, 2008, the Company again amended the CIT Credit Facility to permit the Company to repurchase up to $7.0 million of the Company's common stock. As of September 27, 2009, $0.6 million was outstanding on the CIT Credit Facility at an interest rate of 3.5% and the Company had additional borrowing availability of $1.9 million.

Management believes the cash on hand combined with cash from operations and available credit facilities is sufficient to fund operations for the next 12 months.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires the Company's management to make estimates and assumptions that affect our reported amounts of assets, liabilities, revenues, expenses and related disclosure of contingent liabilities. The Company bases its estimates on historical experience and various other assumptions that it believes are reasonable under the circumstances. Estimates and assumptions are reviewed periodically. Actual results could differ materially from estimates.

The Company believes the following critical accounting policies require estimates about the effect of matters that are inherently uncertain, are susceptible to change, and therefore require subjective judgments. Changes in the estimates and judgments could significantly impact the Company's results of operations and financial condition in future periods.

Inventory, which consists primarily of food, paper products and supplies primarily warehoused by the Company's third-party distributors, is stated at lower of cost or market, with cost determined according to the weighted average cost method. The valuation of inventory requires us to estimate the amount of obsolete and excess inventory. The determination of obsolete and excess inventory requires us to estimate the future demand for the Company's products within specific time horizons, generally six months or less. If the Company's demand forecast for specific products is greater than actual demand and the Company fails to reduce purchasing accordingly, the Company could be required to write down additional inventory, which would have a negative impact on the Company's gross margin.

As of June 24, 2007 we had recorded a valuation allowance based on our assessment that the realization of a portion of our net deferred tax assets did not meet the "more likely than not" criterion under the authoritative guidance on "Accounting for Income Taxes." The entire valuation allowance was released in fiscal 2008. As a result, the effective tax rate for fiscal 2010 is estimated to be 34%.

The Company assesses its exposures to loss contingencies, including legal matters, based upon factors such as the current status of the cases and consultations with external counsel and accrues a reserve if a loss is judged to be probable and can be reasonably estimated. If the actual loss from a contingency differs from management's estimate, operating results could be impacted.

In June 2009, the FASB issued new authoritative guidance regarding accounting standards codification that will become the source of authoritative U.S. Generally accepted accounting principles ("GAAP") recognized by the FASB to be applied by nongovernmental entities. The Company adopted the new guidance in the first quarter of fiscal 2010. The new guidance did not affect the Company's financial position and results of operations, but did affect the way U.S. GAAP is referenced within the consolidated financial statements and accounting policies.