SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549

Washington, D.C. 20549

FORM 10-Q

(Mark One)

[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended ~~August~~May 28, ~~2005~~2006.

or

[ ]

Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from ___________________ to ____________________

Commission File Number: 001-12319

MERITAGE HOSPITALITY GROUP INC.
(Exact Name of Registrant as Specified in Its Charter)

Michigan (State or Other Jurisdiction of Incorporation or Organization)	38-2730460 (I.R.S. Employer Identification No.)
1971 East Beltline Ave., N.E., Suite 200 Grand Rapids, Michigan (Address of Principal Executive Offices)	49525 (Zip Code)
3210 Eagle Run Dr., N.E., Suite 100 Grand Rapids, Michigan (Address of Principal Executive Offices)	49525 (Zip Code)

(616) 776-2600
(Registrant’s Telephone Number, Including Area Code)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities and Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ]

~~Yes~~Indicate by check mark whether the ~~[X]~~ registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer No(as ~~[ ]~~defined in Rule 12b-2 of the Exchange Act).

~~Indicate~~ Large byAccelerated ~~check mark whether the~~Filer ~~registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).~~ [ ] Accelerated ~~Yes~~ Filer [ ] No Non-Accelerated Filer [X]

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

As of ~~October~~June 429, ~~2005~~2006 there were 5,~~460~~437,~~457~~186 outstanding Common Shares, $.01 par value.

SAFE HARBOR STATEMENT

Certain statements contained in this report that are not historical facts constitute forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995, and are intended to be covered by the safe harbors created by that Act. Forward-looking statements may be identified by words such as “estimates,” “anticipates,” “projects,” “plans,” “expects,” “believes,” “should,” and similar expressions, and by the context in which they are used. Such statements are based only upon current expectations of the Company. Any forward-looking statement speaks only as of the date made. Reliance should not be placed on forward-looking statements because they involve known and unknown risks, uncertainties and other factors which may cause actual results, performance or achievements to differ materially from those expressed or implied. Meritage undertakes no obligation to update any forward-looking statements to reflect events or circumstances after the date on which they are made.

Statements concerning expected financial performance, business strategies and action which Meritage intends to pursue to achieve its strategic objectives, constitute forward-looking information. Implementation of these strategies and achievement of such ~~financial~~ financial performance are subject to numerous conditions, uncertainties and risk factors, which could cause actual performance to differ materially from the forward-looking statements. These include, without limitation: competition; changes in the national or local economy; ~~changes~~ changes in consumer tastes and eating habits; concerns about the nutritional quality of our restaurant menu items; concerns about consumption of beef or other menu items due to ~~diseases~~ diseases including E. coli, hepatitis, and mad cow; promotions and price discounting by competitors; severe weather; changes in travel patterns; road construction; demographic trends; the cost of food, labor and energy; the availability and cost of suitable ~~restaurant~~ restaurant sites; the ability to finance expansion; interest rates; insurance costs; the availability of adequate managers and hourly-paid employees; directives issued by the ~~franchisor~~ franchisor regarding operations and menu pricing; the general reputation of Meritage’s and its franchisors’ restaurants; the relationship between Meritage and its franchisors; legal claims; and the recurring need for renovation and capital improvements. In addition, Meritage’s expansion ~~into~~ into the casual dining restaurant segment as a franchisee of O’Charley’s will ~~subject~~ subject Meritage to additional risks including, without limitation, unanticipated expenses or difficulties in securing market acceptance of the O’Charley’s restaurant brand, the ability of our management and infrastructure to successfully implement the O’Charley’s development plan in Michigan, and our limited experience in the casual dining segment. Also, Meritage is subject to extensive government ~~regulations~~ regulations relating to, among other things, zoning, public health, sanitation, alcoholic beverage control, environment, food preparation, minimum and overtime wages and tips, employment of minors, citizenship requirements, working conditions, and the operation of its restaurants. Because Meritage’s operations are concentrated in certain areas of Michigan, a marked decline in Michigan’s economy, or in the local economies where our restaurants are located, could adversely affect our operations.

PART I FINANCIAL INFORMATION

FINANCIAL INFORMATION

Item 1. Financial Statements.

The following unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not contain all the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting solely of normal recurring adjustments) considered necessary for a fair presentation of the financial position, results of operations, stockholders’ equity and cash flows of Meritage have been included. For further information, please refer to the consolidated financial statements and footnotes thereto included in ~~the~~ ~~Company~~Meritage’s Annual Report on Form 10-K for the fiscal year ended November 2827, ~~2004~~2005. ~~The~~ The results of operations for the three and ~~nine~~six ~~month~~months ~~periods~~ ended ~~August~~May, 28, ~~2005~~2006 are not necessarily indicative of the results to be expected for the full year.

Meritage Hospitality Group Inc. and SubsidiariesSubsidiariesConsolidated Consolidated Balance SheetsSheetsMay August 28, 20052006 and November 2827, 20042005

ASSETS

	August 28, 2005 (Unaudited)		November 28, 2004
	May 28, 2006 (Unaudited)		November 27, 2005
Current Assets
Cash and cash equivalents	$	41,~~152~~022,~~130~~947	$	31,~~478~~804,~~215~~463
Receivables		~~298~~346,~~739~~116		~~191~~842,~~841~~178
Inventories		~~313~~366,~~574~~874		~~288~~339,~~951~~499
Prepaid expenses and other current assets		~~413~~141,~~802~~045		~~246~~404,~~494~~540
Restricted cash - debt escrow		1,048,180		1,128,247
Total current assets		1,876,982		3,390,680
Total current assets		6,226,425		5,333,748
Property and Equipment, net		34,330,597		36,058,117
Property, Plant and Equipment, net		36,083,098		42,802,985
Deferred Income Taxes		654,500		654,500
Other Assets
Notes receivable		927,281		~~640~~927,~~000~~281
Non-operating property		--		339,911
Goodwill		4,429,849		4,429,849
Franchise costs, net of amortization of $283,853
Franchise costs, net of amortization of $275,176 and
and $204,615, respectively		1,248,647		1,207,885
$250,753, respectively		1,224,824		1,236,747
Financing costs, net of amortization of $177,109
Financing costs, net of amortization of $146,635 and
and $171,905, respectively		487,348		588,879
$139,211, respectively		349,930		380,185
Deposits and other assets		~~248~~267,~~489~~306		~~127~~297,~~030~~063
Total other assets		7,~~341~~199,~~614~~190		7,~~333~~271,~~554~~125
Total assets	$	5043,~~305~~406,~~637~~769	$	5646,~~124~~719,~~787~~922

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and SubsidiariesConsolidated Balance Sheets — continued AugustMay 28, 20052006 and November 2827, 20042005

LIABILITIES AND STOCKHOLDERS’ EQUITY

	August 28, 2005 (Unaudited)			November 28, 2004
	May 28, 2006 (Unaudited)			November 27, 2005
Current Liabilities
Current portion of long-term obligations	$	2835,~~030,886~~560		$	2878,~~242,897~~088
Line of credit - short term		--768,750			~~262,850~~--
Trade accounts payable		1,~~770~~568,~~249~~215			2,~~339~~538,~~686~~447
Accrued liabilities		2,~~373~~348,~~292~~546			2,~~119~~271,~~037~~610
Total current liabilities		65,~~174~~521,~~427~~071			65,~~964~~688,~~470~~145
Unearned Vendor Allowances		21,~~130~~777,~~978~~900			21,~~494~~992,~~558~~978
Deferred Gain - Sale and Leaseback Transactions		7,908,858			1,963,338
Deferred Gain - Sale-Leaseback Transactions		10,823,850			9,921,455
Accrued Rent		~~100~~257,~~684~~414			--133,807
Long-Term Obligations		2520,~~587~~882,~~494~~097			3222,~~519~~155,~~886~~227
Stockholders' Equity
Preferred stock - $0.01 par value
shares authorized: 5,000,000;
200,000 shares designated as Series A
convertible cumulative preferred stock
shares issued and outstanding: 29,520
(liquidation value - $295,200)		295			295
500,000 shares designated as Series B
convertible cumulative preferred stock
shares issued and outstanding: 500,000
(liquidation value - $5,000,000)		5,000			5,000
Common stock - $0.01 par value
shares authorized: 30,000,000
shares issued and outstanding: 5,460,957
shares issued and outstanding: 5,441,881
and 5,251,932, respectively		54,611			52,520
and 5,459,763, respectively		54,419			54,598
Additional paid in capital		1716,~~420~~715,~~934~~766			17,~~928~~430,~~994~~246
Accumulated deficit		(912,~~077~~631,~~644~~043	)		(510,~~804~~661,~~274~~829	)
Total stockholders' equity		84,~~403~~144,~~196~~437			126,~~182~~828,~~535~~310
Total liabilities and stockholders' equity	$	5043,~~305~~406,~~637~~769		$	5646,~~124~~719,~~787~~922

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and SubsidiariesSubsidiariesConsolidated Consolidated Statements of OperationsOperationsFor For the NineSix Months Ended AugustMay 28, 20052006 and AugustMay 29, 2004 2005(Unaudited)

	August 28, 2005			August 29, 2004
	May 28, 2006			May 29, 2005
Food and beverage revenue	$	4128,~~762~~739,~~290~~747		$	3927,~~633~~028,~~268~~508
Costs and expenses
Cost of food and beverages		118,~~804~~131,~~290~~657			107,~~776~~657,~~735~~680
Operating expenses		2618,~~345~~674,~~021~~399			2217,~~869~~274,~~338~~570
General and administrative expenses		21,~~939~~870,~~672~~173			2,~~525~~007,~~870~~226
Depreciation and amortization		1,~~991~~365,~~766~~844			21,~~052~~316,~~896~~115
Total costs and expenses		4330,~~080~~042,~~749~~073			3828,~~224~~255,~~839~~591
(Loss) earnings from operations		(1,318,459	)		1,408,429
Loss from operations		(1,302,326	)		(1,227,083	)
Other income (expense)
Interest expense		(1881,~~584,235~~937	)		(1,~~960~~072,~~551~~261	)
Debt extinguishment charges		(~~567~~36,~~576~~959	)		--(507,716	)
Interest income		~~125~~39,~~351~~286			2372,~~219~~712
Other income, net		1255,~~906~~073			42,~~400~~500
Gain on sale of non-operating property		150,964			136,800
Total other expense		(624,537	)		(1,504,765	)
Total other expense		(1,873,590	)		(1,796,132	)
Loss before income taxes		(1,926,863	)		(2,731,848	)
Loss before income taxes		(3,192,049	)		(387,703	)
Income tax expense		(42,351	)		(81,321	)
Income taxes		81,321			108,500
Net loss		(1,969,214	)		(2,813,169	)
Net loss		(3,273,370	)		(279,203	)
Preferred stock dividends		319,926			319,926
Dividends on preferred stock		426,568			326,568
Net loss on common shares	$	(2,289,140	)	$	(3,133,095	)
Net loss on common shares	$	(3,699,938	)	$	(605,771	)
Net loss per common share - basic and diluted	$	(0.42	)	$	(0.59	)
Net loss per common share - basic and diluted	$	(0.69	)	$	(0.11	)
Dividends per common share - basic and diluted	$	(0.06	)	$	(0.05	)
Weighted average shares outstanding - basic and diluted		5,~~353~~421,~~717~~633			5,~~289~~293,~~635~~788

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and Subsidiaries Consolidated Statements of OperationsOperationsFor For the Three Months Ended AugustMay 28, 20052006 and AugustMay 29, 2004 2005(Unaudited)

	August 28, 2005			August 29, 2004
	May 28, 2006			May 29, 2005
Food and beverage revenue	$	1415,~~733~~165,~~782~~279		$	14,~~105~~031,~~882~~342
Costs and expenses
Cost of food and beverages		4,~~146~~314,~~612~~667			3,~~821~~948,~~248~~101
Operating expenses		9,~~070~~495,~~445~~364			78,~~959~~836,~~420~~104
General and administrative expenses		~~932~~865,~~448~~387			~~891~~954,~~020~~862
Depreciation and amortization		~~675~~691,~~652~~153			~~682~~650,~~189~~501
Total costs and expenses		1415,~~825~~366,~~157~~571			1314,~~353~~389,~~877~~568
(Loss) earnings from operations		(91,375	)		752,005
Loss from operations		(201,292	)		(358,226	)
Other income (expense)
Interest expense		(~~511~~432,~~974~~231	)		(~~747~~520,~~508~~023	)
Debt extinguishment charges		(5936,~~859~~959	)		--(89,243	)
Interest income		5212,~~640~~371			1239,~~743~~275
Other income, net		(593	)		--
Other (expense) income, net		(4,939	)		--
Gain on sale of non-operating property		150,964			--
Total other expense		(461,758	)		(569,991	)
Total other expense		(368,822	)		(734,765	)
Loss before income taxes		(663,050	)		(928,217	)
(Loss) earnings before income taxes		(460,197	)		17,240
Income tax expense		(32,709	)		(81,321	)
Income taxes		--			108,500
Net loss		(695,759	)		(1,009,538	)
Net (loss) earnings		(460,197	)		125,740
Preferred stock dividends		106,642			106,642
Dividends on preferred stock		106,642			106,642
Net loss on common shares	$	(802,401	)	$	(1,116,180	)
Net (loss) earnings on common shares	$	(566,839	)	$	19,098
Net loss per common share - basic and diluted	$	(0.15	)	$	(0.21	)
Net loss per common share - basic and diluted	$	(0.11	)	$	0.00
Dividends per common share - basic and diluted	$	--		$	--
Weighted average shares outstanding - basic		5,343,009			5,258,752
Weighted average shares outstanding - basic and diluted		5,443,065			5,343,009
Weighted average shares outstanding - diluted		5,343,009			5,623,515

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and SubsidiariesSubsidiariesConsolidated Consolidated Statements of Stockholders’ Equity For the Year Ended November 2827, 20042005 and thetheSix Nine months Ended AugustMay 28, 20052006 (Unaudited)

		Series A Convertible Preferred Stock		Series B Convertible Preferred Stock		Common Stock			Additional Paid-In Capital			Accumulated Deficit			Total
Balance at December 1, 2003	$		295	$	-	$	53,603		$	13,635,104		$	(5,315,284	)	$	8,373,718
Balance at November 29, 2004		$	295	$	5,000	$	52,520		$	17,928,994		$	(5,804,274	)	$	12,182,535
Issuance of 424,329 shares of
Issuance of 314,176 shares of
common stock and related
common stock			--		--		3,141			649,635			--			652,776
warrants, net of offering costs			-		-		4,243			2,434,803			-			2,439,046
Purchase of 106,345 shares of
Issuance of 500,000 shares of
common stock			--		--		(1,063	)		(478,239	)		--			(479,302	)
Series B convertible preferred
Preferred stock dividends declared			--		--		--			(426,568	)		--			(426,568	)
stock, net of offering costs			-		5,000		-			4,799,067			-			4,804,067
Common stock dividends declared			--		--		--			(262,123	)		--			(262,123	)
Purchase of 532,600 shares of
Non-employee stock compensation			--		--		--			18,547			--			18,547
common stock			-		-		(5,326	)		(2,613,412	)		-			(2,618,738	)
Net loss			--		--		--			--			(4,857,555	)		(4,857,555	)
Preferred stock dividends declared			-		-		-			(326,568	)		-			(326,568	)
Balance at November 27, 2005			295		5,000	$	54,598			17,430,246		$	(10,661,829	)	$	6,828,310
Net loss			-		-		-			-			(488,990	)		(488,990	)
Purchase of 23,044 shares of
Balance at November 28, 2004			295		5,000		52,520			17,928,994			(5,804,274	)		12,182,535
common stock			--		--		(230	)		(110,586	)		--			(110,816	)
Issuance of 311,570 shares of
Preferred stock dividends declared			--		--		--			(319,926	)		--			(319,926	)
common stock			-		-		3,116			636,660			-			639,776
Common stock dividends declared			--		--		--			(326,990	)		--			(326,990	)
Purchase of 102,545 shares of
Stock option compensation			--		--		--			19,073			--			19,073
common stock			-		-		(1,025	)		(459,332	)		-			(460,357	)
Compensation paid with stock			--		--		51			23,949			--			24,000
Common stock dividends declared			-		-		-			(262,123	)		-			(262,123	)
Net loss			--		--		--			--			(1,969,214	)		(1,969,214	)
Preferred stock dividends declared			-		-		-			(426,568	)		-			(426,568	)
Balance at May 28, 2006		$	295	$	5,000	$	54,419		$	16,715,766		$	(12,631,043	)	$	4,144,437
Non-employee stock compensation			-		-		-			3,303			-			3,303
Net loss			-		-		-			-			(3,273,370	)		(3,273,370	)
Balance at August 28, 2005	$		295	$	5,000	$	54,611		$	17,420,934		$	(9,077,644	)	$	8,403,196

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and SubsidiariesSubsidiariesConsolidated Consolidated Statements of Cash FlowsFlowsFor For the NineSix Months Ended AugustMay 28, 20052006 and AugustMay 29, 2004 2005(Unaudited)

	August 28, 2005			August 29, 2004
	May 28, 2006			May 29, 2005
Cash Flows from Operating Activities
Net loss	$	(31,~~273~~969,~~370~~214	)	$	(~~279~~2,~~203~~813,169	)
Adjustments to reconcile net earnings to net cash
provided by operating activities
used in operating activities
Depreciation and amortization		1,~~991~~365,~~766~~844			21,~~052~~314,~~896~~332
Amortization of financing costs		3520,~~411~~616			4324,~~652~~222
Write-off of financing costs		~~105~~12,~~087~~836			-92,158
Amortization of deferred gain from sale and leaseback
Amortization of deferred gain from sale leaseback
transactions		(~~226~~278,~~623~~867	)		-(132,866	)
Compensation paid by issuance of common stock		4724,~~303~~000			3039,~~012~~145
Gain on sale of non-operating property		(150,964	)		(136,800	)
Stock option expense		19,073			--
Increase in accrued rent and other liabilities		100,684			-
Increase in accrued rent		123,607			67,560
Decrease in unearned vendor allowances		(~~363~~215,~~580~~078	)		(~~414~~242,~~938~~609	)
(Increase) decrease in current assets		(298,830	)		(173,954	)
Decrease (increase) in current assets		732,182			(164,752	)
(Decrease) increase in current liabilities		(421,824	)		1,003,294
Decrease in current liabilities		(893,296	)		(242,316	)
Net cash (used) provided by operating activities		(2,454,940	)		2,124,959
Net cash used in operating activities		(1,058,297	)		(2,058,295	)
Cash Flows from Investing Activities
Purchase of property, plant and equipment		(4,307,461	)		(3,611,523	)
Purchase of property and equipment		(1,104,943	)		(3,617,396	)
Purchase of non-operating property		-			(8,133	)
Payments received on note receivable		--			6,995
Payments received on note receivable		12,719			-
Payments for franchise agreements		(12,500	)		(62,500	)
Payment for franchise agreements		(75,000	)		(237,500	)
Decrease (increase) in deposits and other assets		26,681			(82,320	)
Proceeds from sale of non-operating property		190,875			190,000
Net cash used in investing activities		(1,090,762	)		(3,755,221	)
Increase (decrease) in deposits and other assets		(125,170	)		(727	)
Net cash (used) in investing activities		(4,304,037	)		(3,667,883	)

Meritage Hospitality Group Inc. and Subsidiaries Consolidated Statements of Cash Flows (Continued) For the Nine Months Ended August 28, 2005 and August 29, 2004 (Unaudited)

	August 28, 2005			August 29, 2004
Cash Flows from Financing Activities
Proceeds from borrowings on line of credit		-			524,850
Principal payments on line of credit		(262,850	)		(362,135	)
Proceeds from long-term obligations		2,289,997			1,030,851
Principal payments on long-term obligations		(9,689,393	)		(1,412,769	)
Payments on obligations under capital lease		(22,099	)		(53,937	)
Payment of financing costs		(38,967	)		(59,581	)
Decrease in restricted cash - debt escrow		80,067			-
Proceeds from sale and leaseback transactions		15,522,767			-
Proceeds from sale of common stock and warrants		595,776			2,500,000
Proceeds from sale of preferred stock		-			5,000,000
Private placement offering costs		-			(293,900	)
Purchase of common stock		(460,357	)		(2,595,440	)
Common stock dividends paid		(262,123	)		-
Increase in preferred stock dividends payable		106,642			106,642
Preferred stock dividends paid		(426,568	)		(219,926	)
Net cash provided by financing activities		7,432,892			4,164,655
Net increase in cash		673,915			2,621,731
Cash and Cash Equivalents - Beginning of Period		3,478,215			769,072
Cash and Cash Equivalents - End of Period	$	4,152,130		$	3,390,803
Supplemental Cash Flow Information
Cash paid for interest	$	1,616,161		$	1,919,718
Cash paid for income taxes	$	76,000		$	-
Schedule of Non-Cash Investing and
Financing Transactions
Equipment purchased under capital lease	$	277,092		$	-

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and Subsidiaries
Consolidated Statements of Cash Flows (Continued)
For the Six Months Ended May 28, 2006 and May 29, 2005
(Unaudited)

	May 28, 2006			May 29, 2005
Cash Flows from Financing Activities
Proceeds from borrowings under line of credit		768,750			--
Principal payments on line of credit		--			(262,850	)
Proceeds from long-term obligations		--			1,730,983
Principal payments on long-term obligations		(1,301,674	)		(8,431,617	)
Payments on obligations under capital lease		(13,984	)		(14,029	)
Payment of financing costs		(3,197	)		(38,967	)
Decrease in restricted cash - debt escrow		--			53,378
Proceeds from sale leaseback transactions		2,675,380			13,712,712
Proceeds from sale of common stock		--			391,492
Purchase of common stock		(110,816	)		(139,712	)
Common stock dividends		(326,990	)		(262,123	)
Preferred stock dividends		(319,926	)		(319,926	)

Net cash provided by financing activities		1,367,543			6,419,341

Net (decrease) increase in cash		(781,516	)		605,825

Cash and Cash Equivalents - Beginning of Period		1,804,463			3,478,215

Cash and Cash Equivalents - End of Period	$	1,022,947		$	4,084,040

Supplemental Cash Flow Information

Cash paid for interest	$	819,309		$	1,071,064
Cash paid for income taxes	$	58,726		$	76,000

Schedule of Non-Cash Investing and
Financing Transactions
Equipment purchased under capital lease	$	--		$	277,092

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and SubsidiariesSubsidiariesNotes Notes to Unaudited Financial Statements For the NineSix Months Ended AugustMay 28, 20052006 and AugustMay 29, 20042005

Basic earnings per share is computed by dividing earnings on common shares by the weighted average number of common shares ~~outstanding~~ outstanding during each period. Diluted earnings per share reflect per share amounts that would have resulted if dilutive potential common stock had been converted to common stock. For the three and six months ended May 28, 2006 and May 29, 2005, convertible preferred stock, exercisable stock options, and exercisable stock warrants were not included in the computation of diluted earnings per share because the effect of conversion to common stock would be antidilutive due to the net loss reported.

The following table reconciles the numerators and denominators used to calculate basic and diluted earnings per share for the three and nine months ended August 28, 2005 and August 29, 2004:

	Three months ended ------------------------------------- August 28, August 29, 2005 2004					Nine months ended ------------------------------------- August 28, August 29, 2005 2004
Numerators
Net (loss) earnings as reported	$	(460,197	)	$	125,740	$	(3,273,370	)	$	(279,203	)
Less preferred stock dividends		106,642			106,642		426,568			326,568
Net (loss) earnings on common shares -
basic and diluted	$	(566,839	)	$	19,098	$	(3,699,938	)	$	(605,771	)
Denominators
Weighted average common shares
outstanding - basic		5,343,009			5,258,752		5,353,717			5,289,635
Effect of dilutive securities
Stock options		-			364,763		-			-
Weighted average common shares
outstanding - diluted		5,343,009			5,623,515		5,353,717			5,289,635

For the three and nine months ended August 28, 2005 and August 29, 2004, convertible preferred stock was not included in the computation of diluted earnings per share because the effect of converting preferred stock would be antidilutive. For the three and nine months ended August 28, 2005 and the nine months ended August 29, 2004, vested stock options were not included in the computation of diluted earnings per share because the effect of exercising these stock options would be antidilutive due to the net loss on common shares.

Note B – Stock Based Compensation

In December 2004, the FASB issued a revision of SFAS No. 123, Share Based Payment, (SFAS 123(R)), which supersedes APB Opinion No. 25, Accounting for Stock Issued to Employees. ~~This statement focuses primarily on transactions in which an entity obtains employee services in exchange for share based payments.~~ Under SFAS 123(R), an entity ~~generally~~ is required to measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award, with such cost recognized over the applicable vesting period. In addition, SFAS 123(R) requires an entity to provide certain disclosures in order to assist in understanding the nature of share-based payment transactions and the effects of those transactions on the financial statements. The provisions of SFAS 123(R) ~~are~~ were required to be applied as of the beginning of the first annual reporting period that begins after June 15, 2005. Accordingly, the Company isadopted ~~required to adopt~~ the provisions of SFAS 123(R) at the beginning of ~~fiscal 2006. The Company is evaluating~~ the ~~impact~~first ~~that the~~quarter ~~implementation~~ended ~~guidance~~February ~~and~~26, ~~revisions included in SFAS 123(R) will have on its consolidated statements~~2006.

In fiscal 2005, the Company accounted for its stock based employee compensation plan under APB Opinion No. 25, Accounting for Stock Issued to Employees. Under this method, no compensation costs were recognized in the financial statements. Had compensation cost for the plans been recorded based on the fair value of the options at the grant dates consistent with the method of SFAS No. 123, the Company’s net loss and net loss per common share for the three and six months ended May 29, 2005, would have been as follows:

	Three months ended May 29, 2005			Six months ended May 29, 2005
Net loss as reported	$	(1,009,538	)	$	(2,813,169	)
Less: Fair value of stock based employee
compensation expense, net of tax benefits
of $17,863 and $33,653, respectively		175,232			301,109

Pro forma net loss on common shares	$	(1,184,770	)	$	(3,114,278	)

Net loss per common share - basic and diluted
As reported	$	(0.21	)	$	(0.59	)
Pro forma	$	(0.24	)	$	(0.65	)

Meritage Hospitality Group Inc. and SubsidiariesSubsidiariesConsolidated Consolidated Statements of Cash FlowsFlowsFor For the NineSix Months Ended AugustMay 28, 20052006 and AugustMay 29, 20042005

TheNote CompanyB currently– accounts for its stock based employee compensation plan under APB Opinion No. 25, Accounting for Stock issuedBased toCompensation Employees. Under this method, which is acceptable through fiscal 2005, no compensation costs have been recognized. Had compensation cost for the plans been determined based on the fair value of the options at the grant dates consistent with the method of SFAS No. 123, the Company’s net loss and net loss per common share for the three and nine months ended August 28, 2005 and August 29, 2004, would have been as follows: (continuted)

	Three months ended ---------------------------------- August 28, August 29, 2005 2004						Nine months ended ------------------------------- August 28, August 29, 2005 2004
Net (loss) earnings as reported	$	(460,197	)	$	125,740		$	(3,273,370	)	$	(279,203	)
Less: Total stock based employee
compensation expense determined
under fair value based method		49,089			218,507			383,851			473,276
Pro forma net loss on common shares	$	(509,286	)	$	(92,767	)	$	(3,657,221	)	$	(752,479	)
Net loss per common share - basic and diluted
As reported	$	(0.11	)	$	0.00		$	(0.69	)	$	(0.11	)
Pro forma	$	(0.12	)	$	(0.04	)	$	(0.76	)	$	(0.20	)

Stock based employee compensation expense is calculated using the fair value method in accordance with SFAS No. 123 and the fair value of each grant is estimated on the date of grant using the Black Scholes option pricing model. The Company granted 68,000 options to officers of the Company on December 12, 2005, and 25,000 options to its Board of Directors on May 16, 2006. The exercise price for these options was equal to the closing price of the common shares on the American Stock Exchange on the date of the grants. The options were valued using the following assumptions for the officer options and director options, respectively: (i) dividend yield of 0.0% and 0.0%, (ii) expected volatility of 33.06% and 29.05%; (iii) risk free interest rate of 4.56% and 5.19%, and (iv) expected life of 5.8 years and 5.25 years. The expense recorded for these options during the six months ended May 28, 2006 was $19,073.

~~Stock~~On ~~based~~October ~~employee~~25, ~~compensation~~2005, the Compensation ~~expense~~Committee ~~determined~~of ~~under~~the Board of Directors accelerated the ~~fair~~vesting ~~value~~of ~~based~~the ~~method~~then inoutstanding ~~accordance~~and unvested ~~with~~employee ~~SFAS~~stock Nooptions. These options were granted prior to the announcement of revisions to SFAS 123, ~~has~~with the intent that the accounting standards then in place would not ~~been~~undergo ~~presented~~material ~~net~~changes. However, the substantial accounting changes required by FAS 123(R) prompted the Company to accelerate the vesting to avoid the negative effect of recognizing ~~tax~~compensation expense. ToHad dothese sovesting ~~would~~periods ~~create~~not abeen ~~deferred~~accelerated, ~~tax~~in accordance ~~asset~~with ~~which~~SFAS 123(R), the Company would have recognized approximately $1,135,000 in ~~require~~cumulative anexpense ~~offsetting~~spread ~~valuation~~over ~~allowance~~the subsequent four years beginning in fiscal 2006.

Note C – LeaseGuarantees, Commitments and Contingencies

~~The~~In ~~Company~~July ~~leases~~2004, ~~land~~the ~~and~~Company ~~buildings~~made a ~~used~~payment inof ~~operations~~$272,035 ~~under~~to ~~operating~~the ~~agreements,~~Michigan ~~with~~Department ~~remaining~~of ~~lease~~Treasury ~~terms~~ (~~including renewal options~~“Treasury”) ~~ranging~~related to ~~from~~a ~~three~~tax toclaim ~~thirty-nine~~for years 1997 through 2001. ~~The~~This ~~Company~~payment, ~~has~~which ~~certain~~included ~~leases~~interest and ~~that~~penalties, ~~contain~~resulted ~~specific~~in ~~rent~~a ~~escalators.~~charge ~~For~~to ~~these~~earnings ~~leases~~of $168,000, ~~rent~~representing ~~expense~~the isdifference between ~~recognized~~what ~~in accordance~~the ~~with~~Company ~~FASB~~accrued ~~Technical~~as ~~Bulletin~~an ~~85-3~~estimated ~~(Accounting~~settlement ~~for~~of ~~Operating~~this ~~Leases~~tax ~~with~~claim, and the ~~Scheduled~~actual ~~Rent~~amount ~~Increases)~~of ~~using~~the final assessment from Treasury. Shortly after making this payment, the ~~straight~~Company ~~line~~filed ~~method~~a ~~over~~lawsuit against Treasury to recover the ~~term~~entire amount of the ~~leases~~payment. ~~Leasehold~~The ~~improvements~~Company’s ~~are~~position ~~amortized~~is ~~over~~that the ~~shorter~~tax ofpayment, ~~their~~which ~~useful~~is ~~lives~~related orto ~~the~~fees ~~terms~~that were ofpaid ~~the~~to ~~various~~its ~~leases.~~franchisor ~~The~~Wendy’s ~~Company~~International, ~~includes~~should ~~renewal~~be ~~options~~refunded inbecause ~~determining~~the ~~straight~~fees ~~line~~at ~~rent~~issue ~~and~~were ~~depreciation~~incorrectly ofcharacterized ~~leasehold~~as ~~improvements~~a ~~only~~“royalty” ~~when~~by anTreasury, ~~economic~~and ~~compulsion~~therefore no tax is due from the Company related to ~~renew exists,~~these ~~such~~fees. asThe ~~when~~lawsuit is currently being held in abeyance pending the ~~Company~~final ~~owns~~outcome of a ~~building~~similar ~~subject~~case towhich awas ~~ground~~recently ~~lease~~decided by the Michigan Court of Appeals.

InOn ~~the~~May ~~first~~19, ~~nine~~2006, ~~months~~Meritage offiled ~~2005, the~~a ~~Company~~complaint ~~completed~~against ~~nine sale and leaseback transactions involving Wendy~~O’Charley’s ~~restaurants~~Inc. ~~The~~ ~~Company collected $15,568,000 in proceeds from~~ (the ~~transactions~~franchisor ~~and used $8,868,000~~ of ~~the~~ ~~proceeds~~its ~~to retire long-term obligations. The transactions resulted in deferred gains~~O’Charley’s of ~~$6,288,000~~Michigan ~~which~~business ~~will~~segment) bein ~~recognized~~the asU.S. aDistrict ~~reduction~~Court infor ~~rent expense over~~ the ~~lease terms.~~Western ~~Deferred~~District ~~gains~~ of Michigan ~~$93,000~~(Case ~~and~~No. ~~$226,000~~1:06-CV-0349) ~~were~~seeking ~~recognized~~relief asincluding adamages ~~reduction~~and inrescission ~~rent~~of its ~~expense~~development inagreement ~~the three~~ and ~~nine~~franchise ~~months~~agreements ~~ended~~with ~~August~~O’Charley’s ~~28, 2005~~Inc.

In11 February 2005, the SEC Office of the Chief Accountant issued a letter to clarify the staff’s interpretation regarding the accounting for operating leases under generally accepted accounting principles. Issues covered in this clarification include the amortization of leasehold improvements, rent holidays, and landlord/tenant incentives. The SEC staff believes that its positions are based upon existing accounting literature, and as such, any registrants who determine their accounting for leases in prior periods to be in error should issue a

11Meritage Hospitality Group Inc. and SubsidiariesNotes to Unaudited Financial Statements For the Six Months Ended May 28, 2006 and May 29, 2005

MeritageNote HospitalityC Group– Inc. and Subsidiaries Notes to Unaudited Financial Statements For the Nine Months Ended August 28Guarantees, 2005Commitments and AugustContingencies 29, 2004(continued)

~~Note~~Under Cits –development ~~Lease~~agreement ~~Commitments~~with O’Charley’s ~~(continued)~~Inc., the Company is required to open a minimum of ten additional restaurants by July 2010; one by October 31, 2006, two in 2007, three each in 2008 and 2009 and one in 2010. The Company estimates that the total cost to open the additional O’Charley’s restaurants will be approximately $28 to $32 million, or approximately $2.8 to $3.2 million per restaurant, with land and site development being the significant variables. If the Company does not open the minimum number of franchised restaurants in accordance with the O’Charley’s Development agreement, O’Charley’s Inc. could declare a default, which, if not cured may allow O’Charley’s Inc. to modify or terminate the agreement. In the event the agreement is terminated, there are no quantifiable future monetary obligations to O’Charley’s Inc. other than to reimburse their expenditures related to identified prospective sites that were not developed. See description in the previous paragraph of the complaint that the Company recently filed against O’Charley’s Inc.

~~restatement~~The ofCompany ~~results~~is ~~from~~party ~~the~~to several ~~correction~~agreements ofexecuted ~~any~~in ~~such~~the ~~errors,~~ordinary ifcourse ~~deemed~~of ~~significant.~~business ~~The~~that ~~Company~~provide ~~has~~for ~~reevaluated~~indemnification ~~its~~of ~~accounting~~third ~~for~~parties ~~leases~~under ~~and~~specified ~~determined~~circumstances. ~~that~~Generally, ~~the~~these ~~impact~~agreements ofobligate ~~this~~the Company ~~clarification~~to onindemnify ~~its financial~~the ~~statements~~third ~~did~~parties ~~not~~only ~~have~~if acertain ~~material~~events ~~impact~~occur onor ~~the~~claims ~~Company’s~~are ~~financial~~made, as ~~statements~~these incontingent ~~the~~events ~~current~~or ~~quarter~~claims orare ~~prior~~defined ~~periods.~~in ~~Refer~~each toof ~~Note~~these Gagreements. –The ~~Lease~~Company is ~~Commitments,~~not ~~provided~~currently inaware ~~the~~of ~~Company’s~~circumstances ~~10-K~~that ~~report~~would ~~for~~require ~~the~~it ~~year~~to ~~ended~~perform ~~November~~its ~~28,~~indemnification ~~2004,~~obligations ~~for~~under ~~further~~any ~~information~~of ~~regarding~~these ~~the~~agreements ~~Company’s~~and, ~~leases~~therefore, has not recorded a liability.

~~Note~~The DCompany –is ~~Guarantees~~involved in certain routine legal proceedings which are incidental to its business. Except as noted above, ~~Commitments~~all of these proceedings arose in the ordinary course of the Company’s business and, ~~Contingencies~~in the opinion of the Company, any potential liability of the Company with respect to these legal actions will not, in the aggregate, be material to the Company’s consolidated financial statements. The Company maintains various types of insurance standard to the industry which would cover most actions brought against the Company.

InNote JulyD 2004,– theNotes Company made a payment of $272,035, including interest and penalties, to the Michigan Department of Treasury (“Treasury”) related to a tax claim for years 1997 through 2001. After making this payment, the Company filed a claim against Treasury to recover the entire amount of the payment. The Company’s position is that the tax payment, which is related to fees that were paid to its franchisor, Wendy’s International, should be refunded because the fees at issue were incorrectly characterized as a “royalty” by Treasury, and therefore no tax is due from the Company related to these fees. The lawsuit is currently pending. Receivable

AsIn ofJune ~~August 28,~~ 2005, the Company sold excess ~~has~~non-operating aproperty ~~forward~~for ~~financing~~cash ~~commitment~~proceeds ~~totaling~~of $594,000~~,000~~ ~~that~~and ita ~~may~~$300,000 ~~but~~note isreceivable. ~~not required~~The tonote, ~~utilize~~which towas ~~finance~~originally ~~the~~due ~~land~~June ~~and~~15, ~~building~~2006, ~~for~~has ~~future~~been ~~restaurants.~~extended ~~The~~until ~~commitment~~June is15, ~~for~~2007, at ~~real~~which ~~estate~~time ~~mortgages~~both ~~and allows~~ the ~~Company~~principal toand ~~select~~interest ~~either~~are arequired ~~fixed~~to orbe apaid ~~variable interest~~in ~~rate~~full. The ~~commitment~~note ~~does~~is collateralized ~~not~~by ~~contractually obligate~~ the ~~Company~~real toestate ~~borrow~~that ~~as such~~was ~~loans are made on a restaurant-by-restaurant basis~~sold.

~~The~~12 Company is party to several agreements executed in the ordinary course of business that provide for indemnification of third parties under specified circumstances. Generally, these agreements obligate the Company to indemnify the third parties only if certain events occur or claims are made, as these contingent events or claims are defined in each of these agreements. The Company is not currently aware of circumstances that would require it to perform its indemnification obligations under any of these agreements and, therefore, has not recorded a liability.

TheMeritage CompanyHospitality isGroup involvedInc. inand certain routineSubsidiariesNotes legal proceedings which are incidental to itsUnaudited business.Financial AllStatements ofFor these proceedings arose in the ordinarySix courseMonths ofEnded theMay Company’s28, business2006 and, inMay the opinion of the Company29, any potential liability of the Company with respect to these legal actions will not, in the aggregate, be material to the Company’s consolidated financial statements. The Company maintains various types of insurance standard to the industry which would cover most actions brought against the Company. 2005

Meritage Hospitality Group Inc. and Subsidiaries Notes to Unaudited Financial Statements For the Nine Months Ended August 28, 2005 and August 29, 2004

Note E – Segment Reporting

The Company operates exclusively in the food service industry and has determined that its reportable segments are those based on the Company’s methods of internal reporting and management structure. The Company operates 48 Wendy’s ~~reportable~~restaurants ~~segments~~in ~~are~~Western and Southern Michigan in the quick service restaurant industry. The operation of the Wendy’s restaurants comprises the Company’s Wendy’s of Michigan ~~and~~Business Segment. The Company also operates five casual dining O’Charley’s restaurants throughout the State of Michigan. The operation of the O’Charley’s restaurants comprises the Company’s O’Charley’s of Michigan Business Segment. There were no material amounts of revenues or transfers among reportable segments. The following table presents information on ~~the~~ reportable segments for the three and six months ended May 28, 2006 and May 29, 2005 (in thousands):

	Three months ended ----------------------------------------- August 28, August 29, 2005 2004						Nine months ended ------------------------------------------ August 28, August 29, 2005 2004
	Three months ended						Six months ended
	May 28, 2006			May 29, 2005			May 28, 2006			May 29, 2005
Revenues:
Wendy's of Michigan	$	12,~~912~~612		$	1412,~~044~~598		$	3723,~~647~~944		$	3924,~~571~~735
O'Charley's of Michigan		12,~~821~~553			621,433			4,~~115~~796			622,294
Consolidated revenues	$	1415,~~733~~165		$	14,~~106~~031		$	4128,~~762~~740		$	3927,~~633~~029
(Loss) earnings from operations:
Earnings (loss) from operations:
Wendy's of Michigan	$	~~340~~96		$	~~1,036~~54		$	(81535	)	$	~~1,879~~(421	)
O'Charley's of Michigan		(~~432~~297	)		(~~284~~412	)		(~~1,238~~768	)		(~~471~~806	)
Consolidated (loss) earnings
Consolidated loss
from operations (1)	$	(92201	)	$	~~752~~(358	)	$	(1,~~319~~303	)	$	(1,~~408~~227	)
Capital expenditures:
Wendy's of Michigan	$	~~112~~163		$	~~801~~1,428		$	~~1,568~~338		$	21,~~115~~456
O'Charley's of Michigan		~~578~~2			~~1,387~~703			~~2,739~~767			12,~~497~~161
Consolidated capital expenditures	$	~~690~~165		$	2,~~188~~131		$	41,~~307~~105		$	3,~~612~~617
Total assets:
Wendy's of Michigan	$	3428,~~952~~734		$	4436,~~978~~285		$	3428,~~952~~734		$	4436,~~978~~285
O'Charley's of Michigan		79,~~374~~376			26,~~151~~863			79,~~374~~376			26,~~151~~863
Total segment assets	$	4238,~~326~~110		$	4743,~~129~~148		$	4238,~~326~~110		$	4743,~~129~~148
Corporate assets		75,~~980~~297			78,~~464~~051			75,~~980~~297			78,~~464~~051
Consolidated total assets	$	5043,~~306~~407		$	5451,~~593~~199		$	5043,~~306~~407		$	5451,~~593~~199

(1) ~~Corporate~~In ~~level~~2005, all general and administrative expenses ~~are~~that ~~included~~were innot charged directly to the ~~Wendy~~O’Charley’s of Michigan segment ~~and~~were included in the ~~allocation~~Wendy’s of ~~such~~Michigan ~~costs~~segment. In 2006, due to the growth of the O’Charley’s of Michigan segment, ~~will~~the ~~occur~~Company asbegan allocating corporate level general and administrative expenses between the ~~segment~~two ~~expands~~segments based on an allocation method determined by the Company. The change to the allocation method for corporate level general and administrative expenses did not materially impact the amounts charged to each segment.

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

Overview

Meritage is the nation’s only publicly traded Wendy’s franchisee, operating 48 quick-service Wendy’s restaurants in Western and Southern Michigan. ~~These~~Through ~~restaurants~~new development, ~~operate~~Meritage in has doubled the ~~highly~~number ~~competitive~~of ~~quick-service~~its ~~restaurant~~Wendy’s ~~industry,~~restaurants ~~and~~since ~~are~~1999. The ~~located~~Wendy’s restaurants operate in ~~close proximity~~a tohighly ~~their~~competitive ~~principal~~industry in which its competitors (e.g., McDonald’s, Burger King ~~and Taco Bell) who all attempt to achieve strong brand awareness~~, ~~effective marketing~~Subway, ~~price~~etc.) ~~and~~aggressively ~~value~~market their ~~perception,~~brands and ~~significant~~the ~~new~~price ~~product~~of ~~development~~their products. Wendy’s ~~attempts~~competes toby ~~compete through~~using ~~its~~many ~~diverse~~of ~~menu,~~the ~~quality~~same strategies ~~food~~as atits ~~reasonable prices~~competitors, ~~prime~~but ~~real~~also ~~estate~~offers ~~locations, friendly~~unique ~~and~~qualities ~~efficient~~such ~~service~~as ~~and~~the ause ~~pleasant~~of ~~atmosphere~~fresh ground inbeef ~~its~~and ~~restaurants~~freshly cut salads.

~~The~~Meritage ~~Company~~ is also the ~~nation’s first and~~ only publicly traded O’Charley’s franchisee, ~~holding~~operating ~~the exclusive right to develop~~ five O’Charley’s casual dining restaurants in Michigan. AsWith the ~~Company~~exception ~~has essentially completed the development~~ of ~~Wendy’s~~one ~~restaurants~~county in ~~the~~Southeast ~~West~~ Michigan ~~market~~, ~~new restaurant growth is primarily in~~ the ~~O’Charley’s~~ ~~segment.~~Company Inholds ~~August 2004,~~ the ~~Company~~exclusive ~~opened~~right ~~its~~to ~~first~~develop O’Charley’s ~~restaurant~~restaurants in ~~Grand~~Michigan. ~~Rapids~~Pursuant ~~and~~to ~~three~~its development agreement with O’Charley’s ~~restaurants~~ ~~were added during fiscal 2005~~Inc., ~~Construction~~the Company is ~~expected~~required to ~~begin~~open onten ~~another restaurant~~additional inrestaurants ~~the metropolitan Detroit area this fall~~by 2010. O’Charley’s is ~~best~~ known for the freshness and homemade quality of its food, and ~~featuring~~a ~~specialty~~diverse menu featuring items such as hand-cut and aged steaks, freshly baked yeast rolls, ~~and~~ fresh cut salads with special recipe salad dressings. ~~A successful rollout of the O’Charley’s concept in Michigan could provide a significant increase in the Company’s future earnings~~ and ~~cash~~signature ~~flow~~desserts.

ToSince ~~help~~September ~~support O’Charley’s growth~~2004, ~~Meritage~~the Company completed ~~eleven~~nineteen sale and leaseback transactions of its Wendy’s restaurants, ~~from~~with ~~November~~approximately ~~2004~~55% ~~through~~of ~~August~~the ~~2005.~~cash ~~The~~being used to pay down debt. ~~Company~~The ~~also~~remaining cash was primarily used ~~the~~to ~~cash~~expand its O’Charley’s business segment. Due to ~~pay~~recent ~~down~~losses, ~~debt~~the ~~and~~Company ~~increase~~also ~~cash~~utilized ~~reserves~~a portion of the proceeds to support its ongoing operations. The Company may enter into additional sale and leaseback transactions ~~during~~and ~~the~~use ~~remainder~~proceeds offor ~~fiscal~~further ~~2005~~expansion in new or existing concepts or for operational support.

Prior to preferred stock dividends, the Company incurred net losses of $696,000 and $1,969,000 during the three and six months ended May 28, 2006, respectively. Results were unfavorably impacted by (i) weak performances by both the Wendy’s and O’Charley’s brands, (ii) a sluggish Michigan economy, (iii) intense price discounting by competitors, (iv) high fuel and energy costs that have diminished the disposable income of its customer base, and (v) early operating investments in the O’Charley’s concept. In addition to these challenges, Michigan recently increased the state’s minimum wage by 44% over the next two years. The minimum wage increase is expected to significantly increase labor costs which will adversely impact the Company’s operating results. The Company is investigating initiatives to mitigate this impact.

Where it maintains control, the Company has been successful in minimizing costs and maintaining quality store operations. The Company believes that the installation of a new unit-level technology system, and the elimination and realignment of management and administrative positions throughout the organization, may result in annual savings of approximately $600,000 on a consolidated basis. The Company began realizing these savings in the second quarter of 2006.

In addition to cost reductions, the Company and its franchisor, Wendy’s International, are taking steps to strengthen customer traffic and sales. The new Frescata Sandwich and three additions to the Garden Sensations salad lines were introduced to the Wendy’s menu in 2006. Wendy’s International also announced the roll-out of breakfast in 2007. In conjunction with the new menu items, Meritage also undertook initiatives relating to its local store marketing and advertising programs. These initiatives are initially proving to be successful as the Wendy’s segment is beginning to see nominal year-over-year same store sales increases at the end of the second quarter. These increases in same store sales represents the first quarterly year-over-year sales increase since the third quarter of 2004.

Results of Operations

Wendy’s of Michigan Business Segment

The Company’s 48 Wendy’s restaurants constitute its Wendy’s of Michigan Business Segment. ~~For~~In ~~comparative purposes~~2005, ~~corporate~~all ~~level~~ general and administrative expenses ~~have~~that ~~been~~were not charged directly to the O’Charley’s of Michigan segment were included in the Wendy’s of Michigan ~~Business~~segment. ~~Segment~~In 2006, due to the growth of the O’Charley’s of Michigan segment, the Company began allocating corporate level general and administrative expenses between the two segments. The Company’s allocation is based on the estimated resources utilized by each segment with all unallocated expenses being charged directly to the Wendy’s segment. The change to the allocation method for corporate level general and administrative expenses did not materially impact the amounts charged to each segment. Results of operations are summarized below:


	Statements of Operations
Food and beverage revenue	$	12,912		$	14,044			100	.0%		100	.0%				$	37,647		$	39,571			100	.0%	100	.0%
	Three months ended												Six months ended
	$ (000's)						% of Revenue						$ (000's)						% of Revenue
	5/28/06			5/29/05			5/28/06			5/29/05			5/28/06			5/29/05			5/28/06			5/29/05
Food and beverage revenue	$	12,612		$	12,598			100.0	%		100.0	%	$	23,944		$	24,735			100.0	%		100.0	%
Costs and expenses
Cost of food and beverages		3,~~573~~503			3,~~804~~501			27.8	.7		27.8	.1		6,618			106,~~520~~947			~~10,759~~27.6			2728.1	.9	27	.2
Operating expenses		7,700			7,738			59	.6		55	.1					23,052			22,619			61	.3	57	.2
Labor and related expenses		4,176			4,249			33.1			33.7			8,175			8,510			34.1			34.4
General and administrative		727			786			5	.6		5	.6					2,385			2,263			6	.3	5	.6
Other operating expenses		3,602			3,439			28.6			27.3			7,088			6,842			29.6			27.7
Depreciation and amortization		572			680			4	.4		4	.8					1,771			2,051			4	.7	5	.2
General and administrative		702			779			5.6			6.2			1,523			1,657			6.4			6.7
Total costs and expenses		12,572			13,008			97	.3		92	.6					37,728			37,692			100	.2	95	.2
Depreciation and amortization		533			576			4.2			4.6			1,075			1,200			4.5			4.9
Earnings (loss) from operations		340			1,036			2	.7		7	.4					(81	)		1,879			(0	.2)	4	.8
Total costs and expenses		12,516			12,544			99.2			99.6			24,479			25,156			102.2			101.7
Earnings (loss) from operations		96			54			0.8			0.4			(535	)		(421	)		(2.2	)		(1.7	)
Other income (expense)
Interest expense		(~~469~~374	)		(~~748~~498	)		(3.0	.6)		(54.0	.3)		(767	)		(1,~~514~~045	)		(~~1,961~~3.2	)		(4.2	.0)	(5	~~.0)~~
Debt extinguishment charges		(6037	)		-(89	)		(0.3	.5)		-(0.7	)		(37	)		(~~568~~508	)		-(0.2	)		(2.1	.5)	-
Interest income		5313			1339			(0.1	.4)		0.3	.1		39			~~125~~73			230.2			0.3	.3	0	.1
Other income		(1	)		-			-			-						1			4			-		0	.0
Other (expense) income		(5	)		--			--			--			255			--			1.1			--
Sale of non-operating property		~~151~~--			--			1--	.1		--			--			~~151~~--			~~137~~--			--	.4	0	.3
Total other expense		(~~326~~403	)		(~~735~~548	)		(3.2	.6)		(54.3	.2)		(510	)		(1,~~805~~480	)		(2.1~~,797~~	)		(46.0	.8)	(4	~~.6)~~
Earnings (loss) before income taxes	$	14		$	301				.1%		2	.2%				$	(1,886	)	$	82			(5	.0%)	0	.2%
Loss before income taxes	$	(307	)	$	(494	)		(2.4	%)		(3.9	%)	$	(1,045	)	$	(1,901	)		(4.4	%)		(7.7	%)

Food and Beverage Revenue

~~Decreases~~Despite inthe ~~average~~continued ~~weekly~~challenges ~~sales~~facing ~~per store of 10.0% and 7.2% for~~ the ~~three~~Company ~~and~~as ~~nine~~noted ~~months ended August 28, 2005, were partially offset by an increase~~ in the ~~number~~“Overview,” ~~of stores in operation. Sales were~~when ~~unfavorably~~compared ~~impacted by (i) disappointing sales due~~ to ~~factors~~the ~~associated~~corresponding ~~with Wendy’s~~period ~~International~~from aslast ~~detailed~~year, inaverage ~~the~~ “~~Liquidity~~same ~~and~~store ~~Capital Resources~~sales” ~~section,~~ (~~ii) increased competition~~i.e., food ~~(iii)~~and abeverage ~~slow~~revenue ~~economic~~for ~~recovery~~stores in ~~West~~full ~~Michigan (unemployment~~operation ~~remains~~during ~~among~~ the ~~highest~~first intwo ~~the~~quarters ~~nation), (iv) the effects~~ of ~~historically high~~both ~~gasoline~~2005 ~~prices on customers,~~ and (v2006) ~~the allegation that a finger was found in a~~ ~~chili~~increased ~~purchased~~$293 ator ~~a California Wendy’s store (later proved to be false)~~0.1% Induring ~~an effort~~the tothree ~~improve~~months ~~customer~~ended ~~traffic and sales, Wendy’s International introduced a new strategic plan in~~ May ~~2005 consisting of~~28, ~~among~~2006. ~~other things, “Value Choices~~This ~~Menu”~~increase ~~enhancements~~represents ~~and~~the afirst ~~new~~quarter-over-quarter ~~advertising~~increase ~~campaign~~since ~~entitled~~the ~~“Do~~third ~~What~~quarter ~~Tastes~~of ~~Right~~2004.” ~~The~~Same ~~Company~~store ~~has yet to see~~ sales ~~improvements~~for ~~as a result of~~ the ~~Wendy’s International~~six ~~initiatives.~~months ~~Management~~ended ~~cautions~~May ~~that~~28, ~~the~~2006 ~~negative~~decreased ~~sales~~$17,147 ~~trend~~or ~~could continue~~3.3% ~~into~~from the ~~fourth quarter as it remains difficult to accurately forecast the~~prior ~~variables affecting sales~~year.

15 The increase in same store sales was primarily due to sales generated by the newly introduced Frescata Sandwich and three new additions to the Garden Sensations salad line during the second quarter of 2006. In conjunction with the new menu items, Meritage also undertook initiatives relating to its local store marketing and advertising programs. The Company is hopeful that customer traffic and sales will continue

to strengthen in response to the roll-out and promotion of these new products. However, management cautions that it remains difficult to accurately predict the variables affecting sales.

Cost of Food and Beverages

~~Cost~~For the three months ended May 28, 2006, the cost of food and beverages as a ~~percentage~~percent of ~~revenue,~~sales was ~~compared~~the tosame as the ~~same~~corresponding ~~periods~~period from last year~~, increased 2~~.2% inFor the ~~third~~six-month ~~quarter~~period, ofthe cost ~~2005,~~decreased ~~and~~by 20.6%5 ~~for~~percentage points. One factor in the ~~nine~~decrease ~~months~~was ~~ended~~a ~~August~~drop ~~28,~~of ~~2005.~~approximately ~~The~~4% ~~unfavorable~~in ~~variance~~average ~~was~~beef ~~primarily~~prices ~~due~~during tothe ~~increases~~first intwo ~~beef~~quarters ~~costs~~of ~~and~~2006 ~~other~~as compared ~~commodities.~~to ~~Beef~~the ~~costs~~same ~~accounted~~periods ~~for~~in 2005 (beef purchases represented approximately 2221% of ~~the~~ total food purchases ~~and~~in ~~beverage cost~~the ~~during~~first ~~each~~two quarters of ~~these~~2006 ~~periods.~~compared ~~Wendy’s~~to ~~International~~22% ~~recently~~of ~~reported~~the ~~that~~total ~~beef~~purchases ~~costs~~during ~~will~~the ~~decrease~~same ~~approximately~~period ~~10%~~of in2005). ~~the~~These ~~fourth~~improvements ~~calendar~~were ~~quarter~~partially ofoffset ~~2005,~~by ~~which~~the ~~should~~lower ~~favorably~~margins associated ~~affect~~with ~~operating~~the ~~results.~~reintroduction ~~Where~~of itthe ~~maintains control,~~“99 ~~the~~Cent ~~Company~~Super ~~has~~Value ~~been~~Menu” ~~successful~~and inthe roll-out ~~controlling~~of ~~food~~the ~~costs~~Frescata sandwiches. ~~However,~~ Meritage has ~~limited~~ little control over ~~its~~certain areas of its food costs as ~~many~~the majority of its products are purchased under contracts negotiated by Wendy’s International. InWhere ~~May~~it ~~2005,~~maintains ~~Wendy’s International changed the “Super Value Menu” to the “Value Choices Menu~~control,” ~~adjusted suggested menu pricing~~however, ~~and~~the ~~added~~Company ~~new~~keeps ~~menu items; all of which were intended to mitigate the~~food ~~increases~~costs in ~~food~~line ~~and~~with ~~beverage~~guidelines ~~costs~~established asby aWendy’s ~~percentage of sales going forward~~International.

~~Operating~~Labor ~~expenses~~and ~~through~~related ~~the~~expenses ~~nine month period ended August 28, 2005~~ were upslightly bylower ~~approximately 1.9%,~~compared ~~primarily related~~ to ~~increased~~both ~~rent~~periods ~~expense~~in ~~from~~ the ~~sale~~prior ~~and~~year. ~~leaseback~~The ~~transactions,~~Company asclosely ~~depreciation~~monitors ~~and~~its ~~interest~~labor ~~expenses~~costs ~~were~~and ~~replaced~~attempts byto ~~rent.~~adjust ~~Because~~staffing ~~certain~~at its ~~labor~~restaurants ~~costs~~to ~~were~~correlate ~~reduced~~with changes in ~~May~~sales ~~2005~~volumes, ~~operating~~while ~~expenses~~at ~~for~~ the ~~three~~same ~~months~~time ~~ended August~~maintaining ~~28,~~a ~~2005~~high ~~were~~level ~~relatively~~of ~~flat as compared to 2004~~service. AsThe aCompany ~~percent~~was ofable ~~sales,~~to ~~however,~~reduce ~~they increased~~its bylabor ~~4.5%~~costs asin ~~many~~both quarters of ~~these~~2006 ~~costs~~through ~~are~~a ~~fixed~~staff inrestructuring ~~nature~~ and ~~therefore constitute~~ a ~~higher~~ ~~percent~~reduction ~~of revenue~~ in ahealthcare ~~declining sales environment~~costs.

Other Operating Expenses

Operating expenses increased primarily due to increased rent expense from sale and leaseback transactions (up by $127,000 for the three-month period and by $289,000 year-to-date) and an increase in utility costs (up by $57,000 for the three month period and by $149,000 year-to-date). The year-to-date increases were partially offset by decreases to franchise fees, advertising expenses, supplies and other costs that are tied to sales fluctuations.

General and Administrative

~~Compared~~General ~~to the same period last year, general~~ and administrative expenses ~~for~~were ~~the~~reduced ~~nine~~through ~~months ended~~the ~~August~~elimination ~~28,~~and ~~2005~~realignment ~~increased~~of management byand ~~$122,000~~administrative ~~or 5.4%~~positions, ~~mostly~~and ~~related~~due to ~~professional service~~a ~~fees.~~reduction ~~The~~of ~~Company~~professional ~~has~~service fees ~~taken~~and ~~steps~~Michigan toSingle ~~reduce~~Business ~~such~~Taxes ~~costs and~~ as acompared ~~result, expenses for the three months ended August 28, 2005 have decreased $59,000 in comparison~~ to the same period last year.

Depreciation and Amortization

The decrease in depreciation and amortization expense was mainly due to ~~(i)~~ sale and leaseback ~~transactions~~ transactions as depreciation was replaced by rent~~, (ii) equipment that became fully depreciated in February 2005, and (iii) the acceleration of depreciation in the first quarter of 2004 for two restaurants that were closed~~.

Interest Expense

The decrease in interest expense ~~resulting from the sale and leaseback transactions~~ was ~~partially~~ ~~offset~~attributable byto the ~~conversion~~debt ofreduction ~~certain~~from ~~variable~~sale ~~interest rate loans to higher fixed~~and ~~interest~~leaseback ~~rate loans in fiscal 2004 in anticipation of rising interest rates~~proceeds.

Debt Extinguishment Charges

~~For~~In the ~~three~~first ~~and~~six ~~nine~~ months ~~ended~~of ~~August 28,~~ 2005, the Company ~~retired~~completed ~~$978,000~~eight sale and leaseback transactions ~~$8,868,000,~~as ~~respectively,~~compared ofto ~~long-term~~only ~~indebtedness~~two in ~~connection with~~ the ~~sale~~same ~~and leaseback~~period of ~~nine~~fiscal ~~Wendy’s~~2006. ~~restaurant~~Related ~~sites.~~to ~~The~~these sale and leaseback transactions, the Company ~~incurred~~retired $607,877,000 and $~~568~~880,000, respectively, ~~for~~of long-term ~~prepayment~~indebtedness and recorded debt extinguishment charges consisting of prepayment penalties and the ~~related~~ write-off of the remaining unamortized financing costs ~~associated with these loan payoffs~~.

16Other Income

~~Gain~~ In the onfirst ~~Sale~~quarter of ~~Non-Operating~~2006, ~~Property~~the Company received a $218,000 fee for assisting a landlord to find a buyer of the real property and improvements comprising a former Wendy’s restaurant site. The Company also recognized a $43,000 gain upon the sale of investment securities.

In the third quarter of fiscal 2005, the Company sold two surplus properties and realized gains of $151,000. The Company obtained a $300,000 note receivable upon one of the sales.

O’Charley’s of Michigan Business Segment

AtThe ~~August~~Company’s ~~28,~~five O’Charley’s restaurants constitute its O’Charley’s of Michigan Business Segment. In 2005, ~~the~~certain ~~Company~~general ~~operated~~and ~~four~~administrative expenses were charged directly to the O’Charley’s ~~restaurants~~of ~~that~~Michigan segment with the remaining ~~constitute~~corporate level general and administrative expenses being included in the Wendy’s of Michigan segment. In 2006, due to the growth of the O’Charley’s of Michigan segment, ~~Business~~the ~~Segment~~Company began allocating corporate level general and administrative expenses between the two segments. The ~~first~~Company’s ~~restaurant~~allocation is based on the estimated ~~opened~~resources inutilized ~~August~~by ~~2004,~~each ~~and~~segment aswith ~~such,~~all unallocated expenses being charged directly to the ~~Company~~Wendy’s ~~operations~~segment. inThe change to the ~~nine~~allocation ~~months~~method ~~ended~~for corporate level general ~~August~~and ~~29,~~administrative ~~2004~~expenses ~~consist~~did ofnot ~~limited~~materially ~~store~~impact ~~operations~~the ~~and~~amounts ~~significant~~charged ~~start-up~~to ~~and pre-opening~~each ~~costs~~segment. Results of operations are summarized below:

	Statements of Operations ----------------------------------------------------------------------------------------------------------------------------------------- Three months ended Nine months ended --------------------------------------------------------------- --------------------------------------------------------------- $ (000's) % of Revenue $ (000's) % of Revenue --------------------------------------------------------------- --------------------------------------------------------------- 8/28/05 8/29/04 8/28/05 8/29/04 8/28/05 8/29/04 8/28/05 8/29/04
	Statements of Operations
Food and beverage revenue	$	1,821		$	62			100	.0%		100	.0%				$	4,115		$	62			100	.0%	100	.0%
	Three months ended												Six months ended
	$ (000's)						% of Revenue						$ (000's)						% of Revenue
	5/28/06			5/29/05			5/28/06			5/29/05			5/28/06			5/29/05			5/28/06			5/29/05
Food and beverage revenue	$	2,553		$	1,433			100.0	%		100.0	%	$	4,796		$	2,294			100.0	%		100.0	%
Costs and expenses
Cost of food and beverages		~~574~~811			18447			31.8	.5		2931.2	.0		1,514			~~1,284~~711			1831.6			313.01	.2	29	.0
Operating expenses		1,186			41			65	.1		66	.1					2,777			41			67	.5	66	.1
Labor and related expenses		982			581			38.5			40.5			1,849			931			38.6			40.6
Pre-opening costs		~~184~~15			~~259~~165			100.6	.1		~~417~~11.5	.7		180			~~516~~332			~~446~~3.8			1214.5	.5	~~719~~	.4
General and administrative
Other operating expenses		720			402			28.2			28.1			1,383			660			28.8			28.8
expenses		205			26			11	.3		41	.9					556			26			13	.6	41	.9
General and administrative		164			176			6.4			12.3			347			350			7.2			15.3
Depreciation and amortization		~~104~~158			274			56.2	.7		35.2	.2		291			~~220~~116			26.1			5.1	.3	3	.2
Total costs and expenses		2,~~253~~850			~~346~~1,845			~~123~~111.6	.7		~~558~~128.8	.1		5,564			53,~~353~~100			~~533~~116.0			~~130~~135.1	.1	~~859~~	.6
Loss from operations		(~~432~~297	)		(~~284~~412	)		(2311.6	.7)		(~~458~~28.8	.1)		(768	)		(~~1,238~~806	)		(~~471~~16.0	)		(3035.1	.1)	~~(759~~	~~.6)~~
Other income (expense)
Other expense
Interest expense		(4358	)		-(22	)		(2.3	.4)		-(1.5	)		(115	)		(7027	)		-(2.4	)		(1.2	.7)	-
Other income		1			-			-			-						1			-			-		-
Loss before income taxes	$	(355	)	$	(434	)		(13.9	%)		(30.3	%)	$	(883	)	$	(833	)		(18.4	%)		(36.3	%)
Total other expense		(42	)		-			(2	.3)		-						(69	)		-			(1	.7)	-
Net loss before income taxes	$	(474	)	$	(284	)		(26	.0%)		(458	.1%)				$	(1,307	)	$	(471	)		(31	.8%)	(759	.6%)

Results ofFood operations for the three and nineBeverage months ended August 28, 2005 reflect the immaturity of this business segment as it takes at least six months for each restaurant to reach initial maturity. Pre-opening costs include, but are not limited to (i) travel, meals and lodging, and payroll and related costs incurred in connection with the training of the management teams, (ii) travel and payroll related costs of the new store training team, (iii) recruiting costs, and (iv) the cost of food giveaways during the periods prior to opening. New store pre-opening costs are estimated at approximately $200,000 per restaurant. Because of the pre-opening costs and operational inefficiencies that are normal in the initial months of a new store’s operation, the O’Charley’s business segment will experience a significant net loss in fiscal 2005. The segment is also operating with relatively high general and administrative expenses to provide support for planned expansion of this segment. Revenue

17 The increase in food and beverage revenue is due to the greater number of stores in operation in 2006 as compared to 2005. Weekly sales per store were significantly below original projections. As a comparison, sales at Meritage’s O’Charley’s restaurants in operation for the full six months ended May 28, 2006 were 37% lower than the franchisor’s weekly sales per restaurant during the first quarter of its 2006 fiscal year. Some of the factors impacting sales include (i) the lack of O’Charley’s brand awareness in our market due to the absence of a national advertising program in the Company’s market and due to the franchisor’s failure to communicate the appropriate level of media and marketing support needed to successfully launch the O’Charley’s concept in a new market, (ii) increased competition, and (iii) a weak Michigan economy and high energy costs which have diminished the disposable income of the Company’s customer base. The Company has increased its focus on local marketing and advertising, and is implementing new strategies in an effort to improve sales volumes.

Cost of Food and Beverages

With the exception of fresh produce and dairy products, the Company buys nearly all of its food products from a commissary operated by O’Charley’s Inc. The increase in the cost of food and beverages in 2006 was primarily attributable to price increases in items purchased from the commissary.

The labor improvements as a percent of sales are mostly attributable to improved management of hourly labor as the stores mature in their operations.

Pre-opening Costs

Start-up and pre-opening costs are estimated at $200,000 per store and include, but are not limited to, (i) payroll and payroll related expenses of training store management, (ii) travel and related costs of new store opening teams, (iii) food giveaways during pre-opening activities and (iv) recruiting. The pre-opening costs in 2006 were significantly lower than in 2005 because only one store was opened in 2006. In fiscal 2005, two stores opened during the six months ended May 29, 2005, and an additional store was under development at the end of that period.

Other Operating Expenses

For the three and six months ended May 28, 2006, other operating expense increased due to the addition of a new store but remained consistent with the prior year period as a percent of sales.

General and Administrative

In advance of opening its first O’Charley’s store, the Company hired a management staff to support the required store growth. This led to a high general and administrative expense in comparison to sales. Because the infrastructure was already in place to support growth, additional general and administrative expenses have been minimal as more stores have been added. However, because sales have been lower than projected, the Company has taken steps to reduce general and administrative costs (see Liquidity and Capital Resources below).

Depreciation and Amortization

The increase in depreciation and amortization expense was mainly due to the increased number of stores in operation compared to the same periods last year.

Interest Expense

The Company’s long-term indebtedness increased as more stores were opened, thus resulting in an increase in interest expense.

Consolidated Operations

Income TaxesTax Expense

~~Due~~In ~~to recent cumulative pre-tax losses, in~~ accordance with SFAS No. 109, Accounting for Income Taxes, ~~management~~the Company ~~has~~regularly ~~assessed~~assesses the realizability of its deferred tax assets. ~~For~~ ~~the~~Based ~~three~~on ~~and nine months ended August 28~~this assessment, ~~2005,~~ the Company ~~increased~~has ~~its~~fully ~~valuation allowance~~reserved ~~for~~its deferred ~~income~~tax ~~taxes by $190,000 and $1,255,000, respectively, and was therefore unable to benefit from the losses incurred during these periods~~asset.

Liquidity and Capital Resources

Cash and cash equivalents (“cash”) increased $674,000 in the nine months ended August 28, 2005 to $4,152,000. Flows

~~Net~~The ~~cash~~following ~~used~~discussion inrelates ~~operating activities was $2,455,000 compared~~ to ~~net~~the ~~cash~~six ~~provided~~months ~~of $2,125,000~~ended inMay ~~2004~~28, ~~a decrease of $4,580,000~~2006. ~~The~~Cash ~~decrease~~and ~~is primarily related to an~~cash ~~increase~~equivalents in(“cash”) ~~the~~decreased ~~net loss of~~ $2782,~~994,~~000, ~~and~~to ~~a net decrease in current liabilities of~~ $1,~~425~~023,000. Aas ~~major~~detailed ~~portion of the current liabilities decrease is attributable to the timing of O’Charley’s restaurant construction invoicing and the repayment of the line of credit~~below.

• Net cash used in ~~investing~~operating activities ~~totaled~~was $41,~~304~~058,000, compared to $32,~~668~~058,000 during the same period in ~~2004~~2005, an improvement of $1,000,000. ~~Cash used~~The inimprovement ~~investing~~was ~~activities~~due ~~consists~~to ~~primarily~~(i) ofa ~~purchases~~$754,000 reduction of ~~property~~the net loss, ~~plant~~after adjustments to reconcile net earnings to net cash provided by operating activities but exclusive of changes in current assets and ~~equipment~~ liabilities, and (ii) a $732,000 decrease in current assets in 2006 compared to a $165,000 increase in 2005. The increase from these two items was partially offset by a 2006 first quarter net decrease in the current liabilities of $893,000 as compared to a net decrease of $242,000 in 2005.

• Net cash ~~provided~~used byin ~~financing~~investing activities ~~was~~decreased $72,~~433~~664,000 ~~compared to $4~~,~~165,000~~ inprimarily ~~2004. This net increase was largely~~ due to ~~proceeds~~the ~~from sale and leaseback transactions~~$2,512,000 ~~increases in proceeds from long-term obligations and a~~ reduction in purchases of ~~common~~property ~~stock, offset by increases in principal payments on long-term obligations (a significant portion related to mortgages retired in connection with sale~~ and leaseback transactions), a reduction in net proceeds from the issuance of common stock, preferred stock and warrants (primarily related to the private equity offering in the first quarter of fiscal 2004), and an increase in dividends paid (both common and preferred)equipment.

~~At August~~• ~~28,~~Net ~~2005,~~cash ~~the~~provided ~~Company’s~~by ~~working~~financing ~~capital~~activities ~~ratio~~decreased ~~(current~~$5,052,000. ~~assets~~This todecrease ~~current liabilities)~~ was ~~1.01:1~~due ~~versus~~to ~~0.77:1~~(i) ata ~~November 28~~$11,037,000 ~~2004.~~reduction ~~The~~in ~~Company’s~~proceeds ~~working capital~~from ~~has~~sale ~~historically~~and ~~been~~leaseback ~~negative~~transactions, ~~as trade receivables~~ and ~~inventories~~(ii) ~~are~~a ~~typically insignificant~~decrease ~~due to the transactional base~~ of ~~the business and perishable nature of its products. Additionally~~$962,000 ~~the~~in ~~current~~proceeds ~~portion~~from of long-term obligations ~~constitutes~~and aborrowings ~~major component~~on ofthe ~~current~~line ~~liabilities~~of credit. ~~The~~At ~~primary~~the ~~reason~~same ~~for~~time, the ~~increase~~Company’s indebt ~~cash~~pay-off ~~and working capital~~ was ~~the~~$7,393,000 ~~cash~~less ~~proceeds~~than ~~from~~ the ~~sale~~same ~~and~~period ~~leaseback~~last ~~transactions and the related pay down of debt~~year.

The Company’sFinancial net loss position for the nine months ended August 28, 2005 increased by $2,994,000 compared to 2004. This is a combination of the weak financial performance of our Wendy’s restaurants, the Company’s decision to make early operating investments in the new O’Charley’s concept and debt extinguishment charges related to the sale and leaseback transactions. Condition

~~The~~Prior ~~Company’s~~to ~~franchisor,~~preferred ~~Wendy’s~~stock ~~International~~dividends, isthe ~~experiencing~~Company ~~operating~~incurred ~~and financial~~net ~~difficulties~~losses ~~that~~of ~~are~~$696,000 ~~affecting~~and $1,969,000 during the ~~entire~~three ~~Wendy’s~~and ~~franchise~~six ~~system.~~months ~~Meritage~~ended ~~believes~~May ~~many of~~28, ~~these~~2006, ~~areas~~respectively. ofResults ~~concern~~were ~~relate~~unfavorably impacted toby ~~situations~~(i) ~~over~~weak ~~which~~performances ~~Meritage~~by ~~has~~both ~~limited~~the orWendy’s noand O’Charley’s ~~control.~~brands, ~~Areas~~(ii) ~~where~~a ~~Meritage~~sluggish ~~maintains~~Michigan ~~limited or no control include~~economy, ~~but~~(iii) ~~are~~intense ~~not~~price ~~necessarily~~discounting ~~limited~~by tocompetitors, ~~national advertising,~~ ~~marketing,~~(iv) ~~menu~~high fuel and ~~product~~energy ~~engineering,~~costs ~~menu~~that ~~pricing,~~have ~~supply~~diminished ~~chain~~the ~~and~~disposable ~~food~~income ~~costs~~of ~~(many~~its customer ~~products~~base, and ~~services~~(v) ~~are~~early ~~purchased~~operating ~~under~~investments ~~contracts~~in ~~negotiated~~the ~~and executed by Wendy~~O’Charley’s ~~International)~~concept. ~~Where~~In addition itto ~~maintains~~these ~~control~~challenges, ~~Meritage~~Michigan ~~has~~recently ~~undertaken efforts to reduce costs~~

1819

~~while~~increased ~~still maintaining quality service levels. In~~ the ~~areas~~state’s ~~where Meritage has limited or no control, it must rely on the~~minimum ~~efforts~~wage ofby ~~the~~44% ~~franchisor~~over ~~to alleviate~~ the ~~system-wide~~next ~~operating~~two ~~and performance issues~~years. As ~~the~~The ~~table~~minimum ~~below~~wage ~~depicts,~~increase ~~the~~is ~~average~~expected ~~weekly~~to significantly ~~sales~~increase ~~per~~labor ~~store~~costs ~~have~~which ~~remained~~will ~~static~~adversely ~~since 2002~~impact ~~and~~the ~~store earnings declined significantly despite Meritage~~Company’s ~~favorable~~ ~~performance~~operating ~~metrics,~~results. ~~which~~The ~~illustrate~~Company ~~the~~is ~~Company’s~~investigating ~~commitment~~initiatives to ~~high~~mitigate ~~quality operations~~this impact.

	Nine months ended __________________________________ 8/28/2005 8/29/2004						Fiscal 2004			Fiscal 2003			Fiscal 2002
Store Results:
Average weekly sales per store	$	20,	132	$	21,	677	$	21,	539	$	20,	078	$	21	,546
Food cost as % of sales		29	.0%		28	.2%		28	.5%		26	.3%		25	.5%
Store earnings		3	.6%		7	.7%		7	.2%		7	.2%		9	.4%
Performance Metrics:
Stores Sparkle Certified (highest rating)		100	.0%		100	.0%		100	.0%		100	.0%		90	.0%
Food variance (1)		1	.2%		1	.3%		1	.3%		1	.4%		1	.9%

Since 2004, the Company completed nineteen sale and leaseback transactions (three in fiscal 2004, thirteen in fiscal 2005 and three in fiscal 2006). The Company collected $29,092,000 in net proceeds, used $16,461,000 to pay down long-term indebtedness and deposited $11,808,000 into the Company’s treasury. The sales resulted in deferred gains of $11,987,000 which are being amortized over the 20-year lease terms and recorded as a reduction of base rent expense. The related early pay down of long-term indebtedness resulted in finance charges of $1,116,000.

~~(1)~~ Subject to ~~The~~market ~~food~~conditions, ~~variance~~the ~~represents~~Company ~~the~~may ~~fluctuations~~enter ininto ~~food~~as ~~cost~~many as ~~compared~~seventeen additional sale and leaseback transactions containing terms similar to those in prior transactions including similar charges and deferred gains. The Company anticipates that it would use approximately 60% of the ~~ideal~~pre-tax ~~food~~proceeds ~~cost~~to ~~derived~~pay ~~from~~off long-term debt, with remaining net proceeds being deposited into the Company’s treasury and available for general corporate purposes, including new restaurant development. Prior to 2005, the Company relied upon its Wendy’s ~~International~~operations ~~recipes~~to support its corporate level overhead and meet its cash requirements and other commitments. ~~The~~However, ~~generally~~due ~~recognized~~to ~~optimal~~the ~~food~~Company’s ~~cost~~recent history ~~variance~~of islosses, 1the Company’s operational cash flow has not been sufficient to cover its operating expenses.~~25%~~ As a result, the Company has utilized a portion of the proceeds from the sale and leaseback transactions to support its ongoing operations.

The Company ~~accelerated~~is ~~its~~hopeful ~~hiring~~that ~~and~~new ~~general~~menu offerings and ~~administrative~~national ~~costs~~advertising tocampaigns ~~support~~undertaken ~~the~~by OWendy’~~Charley~~s International, and Meritage’s ~~restaurant~~initiatives ~~development~~on local store marketing, will strengthen sales in 2006 and beyond. AsIn ~~such~~the meantime, the Company ~~anticipates~~has ~~expenses~~reduced overhead tocosts ~~decrease~~through asthe installation of a ~~percentage~~new ofunit-level ~~total~~technology ~~sales~~system and through asthe ~~its~~elimination ~~portfolio~~and realignment of ~~restaurants~~management ~~increases.~~and ~~Under~~administrative ~~its~~positions ~~development~~throughout ~~agreement with~~the ~~O’Charley’s, Inc~~organization., ~~the~~The Company is ~~required~~already beginning to ~~open~~realize athe ~~minimum~~benefits of ~~eleven~~these ~~additional~~cost-saving ~~restaurants~~efforts. byAnnual ~~July~~savings ~~2010~~are expected to be approximately $600,000 ~~two~~on ~~each~~a consolidated inbasis. ~~2006~~If ~~and~~operational ~~2007,~~results ~~three~~do ~~each~~not incontinue ~~2008~~to ~~and 2009~~improve, ~~and~~the ~~one~~Company inmay utilize ~~2010.~~other ~~These~~financing ~~new~~sources ~~restaurants~~such ~~require~~as an(i) ~~investment~~proceeds infrom ~~real~~future ~~estate~~sale and leaseback ~~equipment.~~transactions, ~~The~~(ii) ~~Company~~$927,000 ~~estimates~~in ~~that~~notes ~~the~~receivable ~~total~~coming ~~cost~~due toin ~~open~~fiscal ~~all~~2006 15and ~~restaurants~~2007, ~~required~~(iii) ~~under~~a ~~the~~$5,000,000 ~~development~~forward ~~agreement~~financing ~~will~~commitment be(discussed ~~approximately~~in ~~$40~~more detail below) to ~~$50~~construct and ~~million~~equip up to two O’Charley’s restaurants, orand ~~approximately~~(iv) its line of credit which ~~$2.6~~currently tohas $31,231,000 in available funds for real estate purchases.3 ~~million~~Other ~~per~~options include ~~restaurant,~~deferring ~~with~~new ~~land~~store openings and ~~site~~capital ~~development~~expenditures, ~~costs~~and ~~being~~financing ~~the~~or leasing ~~significant~~new ~~variables~~restaurants or equipment packages.

~~Meritage’s~~On ~~expansion~~May ~~into~~19, ~~the~~2006, ~~casual~~Meritage ~~dining~~filed ~~restaurant segment as~~ a ~~franchisee~~complaint of against O’Charley’s Inc. ~~subjects Meritage to various business and financial risks~~(the ~~including,~~franchisor ~~without limitation, unanticipated expenses or difficulties in securing market acceptance~~ of ~~the~~its O’Charley’s ~~restaurant~~of ~~brand~~Michigan ~~(there~~business ~~currently~~segment) ~~is no national advertising program~~ in ~~Michigan),~~ the ~~ability~~U.S. ~~of its management and infrastructure to~~District ~~successfully~~Court ~~implement~~for the ~~O’Charley’s~~Western ~~development~~District ~~plan~~of in Michigan, ~~and~~(Case ~~its limited experience in the casual dining segment~~No. ~~Failure~~1:06-CV-0349) orseeking ~~delay~~relief including indamages ~~completing~~and ~~the 15-store~~rescission ~~restaurant~~of its development agreement ~~could~~and ~~have~~franchise ~~an adverse affect on the~~agreements ~~Company~~with O’Charley’s ~~financial condition~~Inc.

~~The~~Under ~~nine~~its ~~sale~~development ~~and~~agreement ~~leaseback~~with ~~transactions~~O’Charley’s ~~completed~~Inc., in the ~~first~~Company ~~three~~is ~~quarters~~required ofto ~~2005~~open ~~resulted~~a inminimum ~~proceeds~~ of ~~approximately~~ten ~~$15,523,000~~additional ~~which,~~restaurants ~~after~~by ~~the~~July ~~retirement~~2010; ofone ~~the related~~by ~~mortgage~~October ~~debt and the associated prepayment penalties of $463~~31,~~000,~~ ~~netted the Company approximately $6~~2006,~~192,000~~ intwo ~~cash. These sale and leaseback transactions, combined with the sale and leaseback transactions~~ in ~~2004, resulted in deferred gains of~~ ~~approximately $7~~2007,~~862,000~~ ~~which~~three ~~are~~each ~~being~~in ~~amortized~~2008 ~~over~~and ~~the~~2009 ~~twenty year lease terms~~ and ~~accounted~~ ~~for~~one ~~as a reduction~~ in ~~rent expense on a straight line basis~~2010. The ~~transactions completed~~Company inestimates ~~the~~that ~~first three quarters reduced long-term obligations by $8,868,000 through~~ the ~~retirement of mortgage debt, and increased~~ total ~~operating lease~~ ~~obligations~~cost byto ~~$24,215,000~~open ~~(over~~ the ~~20-year~~additional ~~lease~~O’Charley’s ~~terms)~~restaurants ~~of which $1,145,000~~ will be ~~due within the next year. The Company has a tax net operating loss carryforward of~~ approximately $~~2,860,000 at November~~ 28, ~~2004 which will be used~~ to ~~offset a portion of~~ ~~the~~$32 ~~taxable~~million, ~~gains~~or ~~resulting~~approximately ~~from~~$2.8 ~~these~~to ~~sales~~$3.2 ~~The~~million ~~Company~~per ~~has~~restaurant, ~~other~~with ~~properties~~land ~~which~~and ~~could~~site bedevelopment ~~considered~~being ~~for~~the ~~sale~~significant ~~and~~variables. ~~leaseback~~If ~~transactions~~the ~~and~~Company isdoes ~~currently~~not ~~marketing~~open ~~five~~the ~~stores~~minimum ~~which,~~number inof ~~the~~franchised ~~aggregate,~~restaurants ~~could result~~ in ~~additional~~accordance ~~proceeds~~with ofthe ~~approximately~~O’Charley’s ~~$6,300,000.~~Development ~~The~~agreement, ~~Company~~

1920

~~anticipates~~O’Charley’s ~~that~~Inc. ~~future sale and~~could ~~leaseback~~declare ~~transactions~~a ~~would~~default, ~~require~~which, ~~approximately~~if ~~60%~~not ofcured ~~the~~may ~~pre-tax~~allow ~~proceeds~~O’Charley’s Inc. to ~~pay~~modify ~~off~~or ~~long-term~~terminate ~~debt~~the agreement. In the event the agreement is terminated, ~~with~~there ~~remaining~~are ~~after~~no quantifiable ~~tax~~future ~~net~~monetary ~~proceeds~~obligations ~~used~~to ~~for~~O’Charley’s ~~general~~Inc. ~~corporate~~other ~~purposes~~than to ~~including~~reimburse ~~new~~their ~~restaurant~~expenditures ~~development~~related to identified prospective sites that were not developed.

~~Cash~~Considering ~~flow~~the ~~from~~lawsuit ~~operations,~~filed ~~cash~~against onO’Charley’s ~~hand,~~Inc. ~~asset~~noted ~~sales~~above, and ~~cash available through existing~~considering ~~revolving credit agreements and financing commitments should provide for the Company~~O’Charley’s ~~projected~~Inc.‘s ~~short-term~~own ~~and~~statements ~~long-term~~that ~~cash~~it ~~requirements,~~will ~~including~~not ~~cash~~build ~~for continued~~new ~~operations,~~stores ~~capital expenditures and debt service. Additional sources available~~until ~~for~~they ~~the~~are ~~Company~~accretive to ~~meet~~ its ~~obligations~~shareholder ~~include deferring capital expenditures~~value, ~~deferring new~~the ~~store~~Company ~~openings~~believes ~~and~~the ~~financing or leasing new restaurants or equipment packages. There~~O’Charley’s ~~can~~development beschedule nonoted ~~assurances,~~above ~~however,~~may ~~that the Company will~~ be ~~able~~delayed ~~to complete these activities~~ or ~~that completion would yield the expected results~~suspended.

InAt May 28, 2006, the ~~first~~Company’s ~~nine~~working ~~months~~capital ofratio ~~2005~~(current assets to current liabilities) was 0.33:1, versus 0.60:1 at November 27, 2005. Working capital is typically negative as trade receivables and inventories are insignificant due to the ~~Company~~transactional nature ~~borrowed~~of $3the business and the perishable nature of the inventory. The decrease from November 27,~~040,000~~ ~~for~~2005 ~~two~~is primarily due to the decline of cash and the recording of the ~~O’Charley’s~~obligation ~~restaurants~~under the line of credit in current liabilities. ~~These~~With ~~loans~~the ~~are~~ongoing ~~variable~~operational improvements ~~rate~~and ~~loans~~the ~~with~~potential ~~interest~~proceeds ~~equal~~from sale and leaseback transactions, the Company anticipates that it will have sufficient cash to meet its obligations for at least the next ~~prime~~twelve ~~rate~~months. However, there can be no assurances that the Company will have sufficient acapital ~~10-year~~to meet its short-term and 20long-~~year~~term ~~amortization,~~cash ~~and~~requirements ~~require~~if ~~monthly~~operational ~~payments~~results ofdo ~~principal~~not ~~and~~continue ~~interest~~to improve or the possible cash sources detailed above do not yield the expected results.

The Company has a forward financing commitment totaling $5,000,000 ~~financing~~that ~~commitment~~it may, but is not required to, ~~construct~~utilize to finance the land and ~~equip~~building upfor tofuture ~~two~~ O’Charley’s restaurants. ~~This~~The commitment requires a minimum 15% equity investment by the Company of appraised ~~premises~~site and construction value. The ~~Company~~commitment ~~can~~is ~~choose~~for ~~between various~~10-year ~~fixed~~real orestate ~~variable~~mortgages (20-year ~~interest~~amortization) ~~rate options, terms,~~ and ~~amortization~~allows ~~schedules~~the ~~that are~~Company ~~similar~~ to ~~the~~select ~~Company’s~~either ~~other~~a ~~financing~~fixed ~~arrangements~~or variable interest rate. ~~This~~The ~~commitment~~commitments ~~does~~do not contractually obligate the Company to borrow ~~any~~on ~~or all~~ any of the ~~funds~~commitments as such loans are made on a restaurant-by-restaurant basis. The commitment expires on June 30, 2006, but subject to the outcome of the lawsuit with O’Charley’s Inc. noted above, the Company is exploring an extension of this commitment.

The Company maintains a ~~$2.6~~line ~~million~~of credit ~~facility~~for ~~with~~restaurant adevelopment ~~bank~~in ~~consisting~~the ofamount ~~a $600,000 line~~ of ~~credit secured by inventory and equipment of seven leased Wendy’s restaurants, and certain other receivables (currently maturing on April 30, 2006), and a~~ $2,000,000 ~~revolving line of credit~~ secured by real estate purchased with this facility. ~~(currently~~Commitments under the line of credit ~~maturing~~expire onin April 302007, ~~2007).~~and ~~The~~require ~~facility requires~~ monthly payments of interest only at ~~the~~ a rate equal to the prime rate plus 0.25%. AsIn ofDecember ~~August 28,~~ 2005, ~~there~~the ~~was~~Company noborrowed ~~outstanding~~$769,000 ~~balance~~against onthe ~~this~~line to ~~credit~~purchase ~~facility~~real estate for development.

Some of Meritage’s loans and franchise agreements ~~relating~~contain tocovenants requiring the maintenance of certain financial ratios which, if not met, may result in a default being declared. The Company regularly reviews and analyzes its ~~Wendy’s~~covenants ~~operations~~to ~~contain~~ensure compliance. At May 28, 2006, the Company was in compliance with all covenants. However, due to ~~requiring~~operational issues outlined above, the ~~maintenance~~margin of compliance related to certain financial ratios has narrowed in recent years. The Company’s operational results began to improve during the three months ended May 28, 2006. However, if these trends do not continue, the Company could fall out of compliance with such ratios. ~~including:~~Through its sale and leaseback transactions, the Company has continued to reduce its long-term obligations which reduces debt compliance concerns.

• In March ~~Fixed~~2006, ~~Charge~~Michigan ~~Coverage~~passed ~~Ratio~~legislation ~~("FCCR")~~increasing ofthe ~~not~~state’s ~~less~~minimum ~~than~~wage 1from $5.~~2:1~~15 ~~for~~per ~~the~~hour ~~Wendy's~~to ~~operations;~~$6.95 ~~FCCR~~per ishour ~~defined~~in asOctober ~~the~~2006, ~~ratio~~$7.15 ofper ~~Operating~~hour ~~Cash~~in ~~Flow~~July ~~(the~~2007 ~~sum~~and of$7.40 per ~~earnings~~hour ~~before~~in ~~interest,~~July ~~taxes,~~2008. ~~depreciation~~The ~~and~~minimum ~~amortization,~~wage ~~operating~~increase ~~lease~~is ~~expense,~~expected ~~and~~to ~~non-recurring~~significantly ~~items)~~increase labor tocosts ~~Fixed~~which ~~Charges~~will (adversely impact the ~~sum~~Company’s ofoperating ~~debt~~results. ~~service~~The ~~including~~Company is ~~principal~~investigating ~~and~~initiatives ~~interest~~to ~~payments~~mitigate ~~plus~~or ~~operating~~offset ~~lease~~this ~~expense)~~impact.

•21 ~~FCCR of not less than 1.2:1 for certain Wendy's restaurant loans subject to a real estate mortgage;~~

• FCCR of not less than 1.4:1 for certain Wendy's restaurant loans subject to a business value loan;

• Leverage Ratio (Funded Debt: Earnings Before Interest, Taxes, Depreciation and Amortization) not to exceed 5.5:1;

• Debt Service Coverage Ratio ("DSCR") of not less than 1.2:1; DSCR is defined as the ratio of Adjusted EBITDA (the sum of earnings before interest, taxes, depreciation and amortization, non-cash losses, less distributions and non-cash gains, plus or minus non-recurring items) to Debt Service (the sum of principal and interest payments); and

• Restrictions against using operating cash flow from the Wendy's business for other means if such use would cause the FCCR to be less than 1.2:1.

Meritage’s loans and franchise agreements relating to its O’Charley’s operations contain covenants requiring the maintenance of certain financial ratios (computed on a consolidated O’Charley’s/Wendy’s of Michigan operation level) including:

• Leverage Ratio (Funded Debt: Earnings Before Interest, Taxes, Depreciation and Amortization) not to exceed 6.0:1;

At August 28, 2005, Meritage was in compliance with all of the above covenants. However, due to operational issues outlined above, the margin of compliance relating to the financial ratios has become increasingly narrow. If these operational trends continue, the Company could fall out of compliance with such ratios. The Company has, however, recently announced plans to reduce and refinance its obligations which, if successful, should improve or eliminate these concerns.

In the first quarter of 2004, the Company completed a private equity offering which resulted in an increase in stockholders’ equity of approximately $4,750,000. The Company used offering proceeds to fund (i) a portion of the construction and equipment for its first O’Charley’s restaurant which opened in August 2004, and (ii) the related start-up and pre-opening costs associated with the O’Charley’s rollout. Additionally, because the O’Charley’s business segment is not currently generating positive cash flow, offering proceeds were used to make the $100,000 quarterly dividend payments to the Company’s Series B Convertible Preferred Stockholders in fiscal 2004 and 2005. The Company expects to use cash on hand or net proceeds from the sale and leaseback transactions discussed above to make the remaining dividend payments in fiscal 2005.

Proceeds from the private equity offering and from the sale and leaseback transactions previously described were used to finance equity contributions for the O’Charley’s development. The Company expects to use proceeds from further sale and leaseback transactions to fund equity contributions for planned development in fiscal 2006. Thereafter, cash generated from these restaurants is expected to cover a portion of the equity contributions for the development of future O’Charley’s restaurants. For sites that the Company leases, the Company plans to own its equipment, although equipment financing (lease or debt) would be available from various lenders.

In January 2005, the Company paid a $0.05 per share special cash dividend to its common shareholders which totaled $262,000. The special dividend was paid from proceeds from the sale of non-operating surplus property in fiscal 2004.

Critical Accounting Policies

The Company’s discussion and analysis of its financial condition and results of operations are based upon the Company’s consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. The significant accounting policies are discussed in Note A of the Company’s consolidated financial statements and footnotes thereto and management’s discussion and analysis of financial condition and results of operations included in Meritage’s Annual Report on Form 10-K for the fiscal year ended November 28 27, ~~2004~~2005. Certain of these accounting policies are subject to judgments and uncertainties , which ~~may~~ affect the application of these policies. The Company bases its estimates on historical experience and ~~on various~~ other assumptions believed to be reasonable under the circumstances. The Company evaluates its estimates on an on-going basis. In the event estimates or assumptions prove to be different from actual results, adjustments are made in subsequent periods to reflect more current information. Management believes that any ~~subsequent~~ subsequent revisions to estimates used would not have a material effect on the financial condition or results of operations of the Company.

The Company adopted the provisions of SFAS 123(R) at the beginning of the first quarter ended February 26, 2006. Under SFAS 123(R), an entity is required to measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award, with such cost recognized over the applicable vesting period. On October 25, 2005, the Compensation Committee of the Board of Directors accelerated the vesting of the then outstanding and unvested employee stock options. These options were granted prior to the announcement of revisions to SFAS 123, with the intent that the accounting standards then in place would not undergo material changes. However, the substantial accounting changes required by FAS 123(R) prompted the Company to accelerate the vesting to avoid the negative effect of recognizing compensation expense. Had these vesting periods not been accelerated, in accordance with SFAS 123(R), the Company would have recognized approximately $1,135,000 in cumulative expense spread over the subsequent four years, beginning in fiscal 2006.

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

~~Because all of~~ Meritage’s debt ~~operations~~is ~~are~~ in ~~the~~U.S. ~~United~~dollars ~~States,~~and ~~there~~approximately is38% noof ~~foreign~~the ~~currency exposure.~~debt ~~All~~is ofat variable interest rates. Accordingly, the Company’s ~~debt~~earnings isare affected by changes in Uthe interest rates on which variable rates are based.S. ~~dollars~~If ~~and~~market ~~approximately~~rates ~~70%~~increase by an average of ~~its~~1%, based on ~~debt~~current isloan atbalances, ~~fixed~~our interest ~~rates~~expense ~~which~~over ~~limits~~the ~~financial~~next ~~instrument~~year ~~risk~~would increase by approximately $85,000. Some of the Company’s variable rate mortgage loans contain provisions that permit the Company to convert to a fixed interest rate at certain periods during the loan term. ~~During fiscal 2004, four of these loans were converted to fixed rate loans.~~ These provisions allow the Company to ~~continue to~~ limit exposure to interest rate fluctuations. Accordingly, ~~the Company~~Meritage does not utilize any derivatives to alter interest rate risk.

In the normal course of business, Meritage purchases certain products (primarily food items) that can be affected by fluctuating commodity prices. Most of these products are ~~purchased~~priced ~~under~~based on agreements negotiated by ~~Wendy’s~~its ~~International~~franchisors ~~or O’Charley’s, Inc.~~ and are outside of Meritage’s control. It is the Company’s understanding that its ~~suppliers~~franchisors utilize various purchasing and ~~hedging~~pricing techniques in an effort to ~~minimize~~ reduce volatility. Meritage does not make use of financial instruments to hedge commodity prices. While fluctuating commodity prices impact the Company’s cost of food, Meritage retains some ability to adjust its menu pricing to offset these increases. However, highly competitive market conditions have limited the Company’s ability to fully offset higher commodity costs through menu price increases.

~~Based on~~22 the discussions above, Meritage does not make use of financial instruments to hedge commodity prices. While fluctuating commodity prices such as the cost of beef may impact the Company’s cost of food, Meritage retains some ability to adjust its menu pricing to offset these increases. However, highly competitive market conditions have limited the Company’s ability to fully offset higher commodity costs through menu price increases.

Item 4. Controls and Procedures.

As of ~~August~~May 28, ~~2005~~2006, an evaluation was completed under the supervision and with the participation of the Company’s management, ~~including the Chief Executive Officer and President, Chief Financial Officer and Treasurer, and General Counsel,~~ as to the effectiveness of the design and operation of the Company’s disclosure controls and procedures. Based on that evaluation, the Company’s management concluded that the Company’s disclosure controls and procedures were effective as of ~~August~~May 28, ~~2005~~2006. ~~Other~~ ~~than~~There ~~as noted below, there~~ have been no changes to the Company’s internal control over financial reporting identified in connection with the evaluation required by Regulation 13a-15(d) that occurred during ~~the first three~~ fiscal ~~quarters~~2006 that has materially affected, or is reasonably likely to materially affect, Meritage’s internal control over financial reporting.

22PART IIOTHER INFORMATION

In connectionItem with the audit of, and the issuance of an unqualified report on, the consolidated financial statements for the year ended November 28, 2004, the Company’s previous auditors identified certain deficiencies in the design and operation of internal controls related to accounting, analysis and documentation of income taxes, which collectively represented a material weakness in internal control over financial reporting1. In response,Legal the Company implemented the following procedures in fiscal 2005: Proceedings.

• On May ~~The~~19, ~~Company~~2006, ~~expanded~~Meritage filed a complaint against O’Charley’s Inc. (the franchisor ~~review~~of its O’Charley’s of Michigan business segment) in the ~~financial~~U.S. ~~statement~~District Court ~~closing~~for ~~process~~the toWestern ~~include~~District aof ~~comprehensive~~Michigan ~~review~~(Case No. 1:06-CV-0349) seeking relief including damages and ~~analysis~~rescission of its development agreement and franchise agreements with O’Charley’s Inc. The Company will consider alternatives to settle the matter ~~quarterly~~but ~~tax~~is ~~closing~~prepared ~~process,~~to ~~and~~fully ~~implemented~~pursue ~~recommendations~~the damages and equity to ~~enhance~~which ~~existing~~it ~~procedures~~is entitled.

• The Company engaged a public accounting firm that assisted in implementing necessary procedures, schedules and other documentation necessary to support tax account balances.

• The Company reallocated personnel to focus more attention on accounting for income taxes and has provided expanded training to its staff.

• The Company provided the above documentation to its independent auditors to further ensure accounting for income taxes was properly reported in the financial statements.

PART II OTHER INFORMATION

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

(c) The following table summarizes Meritage’s purchases of its common shares, par value $0.01 per share, for the quarter ending ~~August~~May 28, ~~2005~~2006:

Issuer Purchases of Equity Securities

Period		Average Price Paid per Share
Month #1
5/30/05 - 6/26/05	13,700		$ 5	.00		13,700		201,304
2/27/06 - 3/26/06	9,000	$	4.64		9,000		124,482
Month #2
6/27/05 - 7/24/05	48,378		$ 4	.91		48,378		152,926
3/27/06 - 4/23/06	900	$	4.66		900		123,582
Month #3
7/25/05 - 8/28/05	2,300		$ 5	.15		2,300		150,626
4/24/06 - 5/28/06	0	$	--		0		123,582
Total	649,~~378~~900	$	$ 4.64	~~.94~~	9,900	~~64,378~~

(1) In August 1999, the Board of Directors authorized the Company to repurchase from time to time, subject to capital availability, up to 200,000 shares of Meritage’s common stock through open market transactions or otherwise. This program was announced in November 1999. In February 2002, the Board authorized the repurchase of up to an additional 200,000 common shares under this program. The additional authorization of share purchases was announced in February 2002. There is no expiration date relating to this program, but the Board is permitted to rescind the program at any time.

Item 4. Submission of Matters to a Vote of Security Holders.

The 2006 Annual Meeting of Shareholders was held at Meritage’s offices in Grand Rapids, Michigan, at 9:00 a.m. on Tuesday, May 16, 2006. The Company solicited proxies for the matters brought before the shareholders pursuant to a definitive proxy statement that was filed with the Securities and Exchange Commission on April 7, 2006. 4,978,886 common shares were present in person or by proxy at the meeting, representing 91.6% of the total shares outstanding.

The shareholders elected the following six members to the Company’s Board of Directors to serve until the 2007 Annual Meeting: James P. Bishop (4,978,266 shares in favor; 820 withheld), Duane F. Kluting (4,976,716 shares in favor; 2,370 withheld), Joseph L. Maggini (4,976,716 shares in favor; 2,370 withheld), Brian N. McMahon (4,978,266 shares in favor; 820 withheld), Robert E. Schermer, Sr. (4,976,716 shares in favor; 2,370 withheld) and Robert E. Schermer, Jr. (4,978,266 shares in favor; 820 withheld). Each director received no less than 99.9% of the total shares voted.

The shareholders also ratified the appointment of Plant & Moran PLLC as the Company’s independent auditors for the fiscal year ending November 26, 2006. The following are the results of the vote: In Favor: 4,978,886; Opposed: 100; Abstentions: 100.

Item 5. Other Information.

On ~~August~~May 16, ~~2005~~2006, the ~~Company~~Board ~~opened~~of ~~its~~Directors ~~fourth~~appointed ~~O’Charley’s~~the ~~casual~~following ~~dining~~officers of Meritage: Robert ~~restaurant~~E. ~~located~~Schermer, inJr. ~~Holland~~– Chief Executive Officer and President; James R. Saalfeld – Vice President, ~~Michigan~~General Counsel, Chief Administrative Officer and Corporate Secretary; Robert H. ~~Meritage~~Potts is– ~~the~~Vice ~~nation’s~~President ~~first~~of Real Estate; and Gary A. Rose – Vice ~~O’Charley’s~~President, ~~franchisee~~Chief Financial Officer, Chief Operating Officer and ~~has~~Treasurer. Robert E. Schermer, Sr. was reappointed Chairman of the ~~exclusive~~Board ~~rights~~of toDirectors. ~~develop~~The Board also ~~O’Charley’s~~reestablished ~~restaurants~~the inExecutive, Audit, Compensation and Nominating & Corporate Governance Committees as standing committees of the ~~State~~Board of ~~Michigan~~Directors.

Item 6. Exhibits.

~~Exhibit No.31.131.232.132.2 Description of Document Rule 13a-14~~ (a)~~/15d-14(a)~~ Exhibit ~~Certification of Chief Executive Officer~~List. ~~Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer. Section 1350 Certification of Chief Executive Officer. Section 1350 Certification of Chief Financial Officer.~~

Exhibit No.

31.1

31.2

32.1

32.2

Description of Document

Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer

Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer

Section 1350 Certification of Chief Executive Officer

Section 1350 Certification of Chief Financial Officer

Exhibits filed herewith.

SIGNATURES

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

Dated: ~~October~~June 429, ~~2005~~2006 MERITAGE HOSPITALITY GROUP INC. By /s/ Robert E. Schermer, Jr. Robert E. Schermer, Jr. Chief Executive Officer By /s/ Gary A. Rose Gary A. Rose Chief Financial Officer

EXHIBIT INDEX

Exhibit No.

31.1

31.2

32.1

32.2

Description of Document

Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer.

Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer.

Section 1350 Certification of Chief Executive Officer.

Section 1350 Certification of Chief Financial Officer.

Exhibits filed herewith.

SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549

Washington, D.C. 20549

FORM 10-Q

(Mark One)

or

SAFE HARBOR STATEMENT

PART I FINANCIAL INFORMATION

FINANCIAL INFORMATION

Item 1. Financial Statements.

Meritage Hospitality Group Inc. and SubsidiariesSubsidiariesConsolidated Consolidated Balance SheetsSheetsMay August 28, 20052006 and November 2827, 20042005

ASSETS

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and SubsidiariesConsolidated Balance Sheets — continued AugustMay 28, 20052006 and November 2827, 20042005

LIABILITIES AND STOCKHOLDERS’ EQUITY

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and SubsidiariesSubsidiariesConsolidated Consolidated Statements of OperationsOperationsFor For the NineSix Months Ended AugustMay 28, 20052006 and AugustMay 29, 2004 2005(Unaudited)

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and Subsidiaries Consolidated Statements of OperationsOperationsFor For the Three Months Ended AugustMay 28, 20052006 and AugustMay 29, 2004 2005(Unaudited)

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and SubsidiariesSubsidiariesConsolidated Consolidated Statements of Stockholders’ Equity For the Year Ended November 2827, 20042005 and thetheSix Nine months Ended AugustMay 28, 20052006 (Unaudited)

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and SubsidiariesSubsidiariesConsolidated Consolidated Statements of Cash FlowsFlowsFor For the NineSix Months Ended AugustMay 28, 20052006 and AugustMay 29, 2004 2005(Unaudited)

Meritage Hospitality Group Inc. and Subsidiaries Consolidated Statements of Cash Flows (Continued) For the Nine Months Ended August 28, 2005 and August 29, 2004 (Unaudited)

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and SubsidiariesConsolidated Statements of Cash Flows (Continued) For the Six Months Ended May 28, 2006 and May 29, 2005(Unaudited)

See notes to unaudited financial statements.

Meritage Hospitality Group Inc. and SubsidiariesSubsidiariesNotes Notes to Unaudited Financial Statements For the NineSix Months Ended AugustMay 28, 20052006 and AugustMay 29, 20042005

Note A —– Earnings (Loss) Per Share

Note B – Stock Based Compensation

Meritage Hospitality Group Inc. and SubsidiariesSubsidiariesConsolidated Consolidated Statements of Cash FlowsFlowsFor For the NineSix Months Ended AugustMay 28, 20052006 and AugustMay 29, 20042005

Note C – LeaseGuarantees, Commitments and Contingencies

11Meritage Hospitality Group Inc. and SubsidiariesNotes to Unaudited Financial Statements For the Six Months Ended May 28, 2006 and May 29, 2005

MeritageNote HospitalityC Group– Inc. and Subsidiaries Notes to Unaudited Financial Statements For the Nine Months Ended August 28Guarantees, 2005Commitments and AugustContingencies 29, 2004(continued)

Meritage Hospitality Group Inc. and Subsidiaries Notes to Unaudited Financial Statements For the Nine Months Ended August 28, 2005 and August 29, 2004

Note E – Segment Reporting

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

Overview

Results of Operations

Wendy’s of Michigan Business Segment

Food and Beverage Revenue

Cost of Food and Beverages

OperatingLabor and Related Expenses

Other Operating Expenses

General and Administrative

Depreciation and Amortization

Interest Expense

Debt Extinguishment Charges

16Other Income

O’Charley’s of Michigan Business Segment

Cost of Food and Beverages

Labor and Related Expenses

Pre-opening Costs

Other Operating Expenses

General and Administrative

Depreciation and Amortization

Interest Expense

Consolidated Operations

Income TaxesTax Expense

Liquidity and Capital Resources

Cash and cash equivalents (“cash”) increased $674,000 in the nine months ended August 28, 2005 to $4,152,000. Flows

Critical Accounting Policies

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

Item 4. Controls and Procedures.

22PART IIOTHER INFORMATION

PART II OTHER INFORMATION

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

Issuer Purchases of Equity Securities

Item 4. Submission of Matters to a Vote of Security Holders.

Item 5. Other Information.

Item 6. Exhibits.

SIGNATURES

EXHIBIT INDEX

Meritage Hospitality Group Inc. and Subsidiaries
Consolidated Statements of Cash Flows (Continued)
For the Six Months Ended May 28, 2006 and May 29, 2005
(Unaudited)

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