Restaurants: Many Issues Underway
by John A. Gordon, Principal and Founder, Pacific Management Consulting Group
The COVID Movie, Take III
By now that very old and tiring plotline that we have seen before is sadly reemerging: the excellent momentum we had this spring and summer in the sit-down segment is lately weakening due to another COVID wave. <1> The actuality of new COVID cases and the drumbeat of bad news has driven confidence to dine out worse again. I can see this in the national pollsters that I track that comment on such matters as well as in Restaurant Research’s future dine-out visitation index, Traffic Cast, as below:
Recall from the initial Covid wave in 2020 that smart operators were watching the news and hospitalization and infection rates. One of the problems in the current Delta wave is that Texas and Florida are both relative hotspots and are heavy casual dining states. The sequential sales weakening pattern brings up the next point.
The difficulty of getting useful signals from quarterly earnings calls
I work complex earnings call disclosure issues with clients. One certain thing is that the reporting company is mostly focused on talking about the past, not the future.<2> There are many reasons for that. The result is that the focus of the analyst attention and press analysis is often on data that is 6 to 8 weeks old. The analysts are busy keeping up with the calendar of publicly-traded company earnings releases and other special projects in between and figuring out what they have been told. Occasionally, they can get a CEO to speak at their annual investor conference. In July, I watched an interview with Chris K, the McDonald’s CEO with a very good analyst. Chris must have been on a teleprompter script written by their media relations staff. It was the most torturous, boring, useless conversation, ever. It is not what the analyst intended.
There is a solution for restaurant operators, investors, and others who must have actionable granular information about our industry. It is to find several checks of the conventional wisdom that the industry has about certain companies and situations that may be only partially correct. It takes some time and creativity and I’d be happy to talk to you more about it. In the meantime, focus relentlessly on thinking about tomorrow, not yesterday. One bit of advice I gave a client recently is to begin every annual budget process with an update to the 3 or 5-year planning process. Even to sketch out or revise overall imperatives and the planned sources/uses of cash statements will be a useful start to the budget year.
Mid-single-digit and higher inflation on both food commodities and labor wage rates at the same time!
One need only look at CNBC or the Wall Street Journal or more on point, your master distributor invoices or payroll reports to see that we have both global supply inflation, goods unavailability, and supra wage inflation underway for some time. This looks to continue. Grain, herd rebalancing, lack of slaughterhouse workers, lack of ocean transport, diesel and driver shortages are all issues. The recently concluded Q2 earnings cycle implied more was to follow. Per my listening, Jack in the Box (JACK) was high on the board with COGS at plus 6% and labor at plus 7%.
The most recent commodity crisis is arabica coffee with cold weather and drought affecting the crop in Brazil in July.<3> Starbucks (SBUX) noted via its contracting it was protected for about 1.4 years.
In the Q2 earnings calls, there was some discussion that in the states where the extra federal unemployment comp had ended the application flow had picked up. McDonald's (MCD) noted that as did Sysco (SYY). What they didn’t note was if new hires had picked up. We will see what happens. There is a school of thought that industry employment will take a long time to rebuild given the disruption of 2020.
Current Food and Labor Cost inflation plus Delivery Cost Burden Result in Historic Cost Pressure on the P&L and Menu Price.
With COVID still nipping at us in multiple ways, it is rare to have both a food and a labor cost problem at the same time. I can’t recall it over my long time in the industry. Added to that is the pressure from the third-party commission expense that restaurant operators assume. This has been building for some time but also increased in the Pandemic Year. Not surprisingly, menu prices have risen. <4> For example, Chipotle took two earlier 2021 price increases centered on delivery items. Many restaurant operators have a separate pricing menu for delivery items and have negotiated with the 3rd party delivery shops to allow it.
The Risk of Too High Prices and What Operators Can Do
The price of any consumer discretionary product can be too high. Consumer feedback is slow and inefficient back to headquarters. Anyone reading this newsletter has had their share of cutting costs exercises over the years. <5> One tactic I’d like to suggest is to review the marketing plan and cut the discounts that don’t seem to work or don’t support the brand position. This requires matrix analysis by marketing, finance, and operations; and will have the effect of raising the net check without raising prices if done properly.
About the author: John A. Gordon is a long-time restaurant analyst and management consultant, with 45 plus years in operations, corporate staff (20 years), and management consulting roles (21 years). His founded firm, Pacific Management Consulting Group, works complex restaurant operations, financial management, and strategy roles for clients. He can be reached at firstname.lastname@example.org, office (858) 874-6626.
<3> Coffee Prices Jump to Six Year High as Brazilian Frost Risk To Crop, WSJ, July 27 2021.
<4> https://www. restaurantbusinessonline.com/financing/menu-prices-keep-soaring-grocers-are raising-prices-too.