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John Gordon - February 2022



Restaurants: The Need to Stay Flexible

by John A. Gordon, Principal and Founder, Pacific Management Consulting Group

Triple inflation currently

As an industry, we were hoping to be on the other side of the Pandemic mess by now, but its effects continue in several ways that we are too familiar with: sales variability, supply chain inflation affecting, food, paper, equipment, and building elements; and the labor availability/people effect, ultimately caused by the Pandemic in the first place. As a result, the industry has triple inflation now: COGS, labor, and CAPEX <1>all at the same time. And we have to learn and reorient to changing consumer behavior, and honestly, reeducate our guests, too to what we can do for them to meet their needs.

Added to this mix unfortunately is the current threat of a major land war in mid-Asia which could kick off at any moment as of writing this week. Most of Europe<2> and Central Asia are franchised, but disruptions like this will affect global US franchisors and local national franchisees. This gets us back to my comment last month: what chain restaurant operator would have been planning for a Central Asian War in late 2021? Of course, none. Planning post-Pandemic has to have a faster cycle time, risk-based module included as part of the function.

The necessity of pricing actions and building pricing power

Listening to the Q4 2021 earnings calls to date, the very clear forecasts of 2022 cost inflation are seen. McDonald’s for example noted a 2022 food and paper inflation forecast of 8%. It noted that 2021 store wage rates rose 10%. <3> We will have more earnings this week but casual diners seem to be forecasting food and labor in the mid-single-digit zone each. It’s clear now that supply disruption chain and COGS pressure<4> will continue through 2022 and that pricing actions to protect margins must occur.

The question then reverts to pricing power and what are operators doing to maximize it. Certainly, great product new news does it along with reaching out to the guest in an individualistic way (loyalty, digital) that builds traffic, frequency and ticket. We need only look at Starbucks and Panera’s programs post-2010 and how they dug out of the Great Recession. We are now seeing the same words from McDonald’s in terms of the value of their loyalty program. <5>  Good-looking stores and QSC builds pricing power, too. They built a different guest mix over time.

Every brand has an aspirational guest mix they do not have yet. It takes time and money to get them. With the absolute need to pass on price increases, CEOs have a go signal to begin programming their guests away from silly discounts. In my opinion, there is no need for “Dancing Dollar Kings” <6> or even 20 under $2 menus<7> unless accompanied by a parallel upper-tier menu item in the marketing creative plan.

Lately, there has been a lot of self-expressed admiration of Chipotle and Starbucks ' pricing power factor. They have it easier because they never did deep discounting.

Reading SSS and Financial Results in 2022

Staying with our be flexible theme, we financial analysts need it too. So, we have finally lapped over 2020, the worst, most irregular year in restaurant financial history. In 2021, some publicly traded highlighted their financial results in change versus 2019 in commentary and side schedules while the core income statement and balance sheets reflected 2021 v. 2020. Most companies and sell-side analysts talked one year and two-year results.

In analysis going forward, there is a great need to look beyond the simple one-year SSS year over year change. There is no perfect base. 2021 is infinitely better than 2020.  2019 is a good pre Pandemic base. Parts of 2021 were influenced by reopening, which affected casual dining. And government stimulus payments flowed into the economy and restaurants in the spring/summer, causing some sales spikes. The point is, you might well need to refer back to 2019 to test the true trend.

Following is a Restaurant Business/Jonathan Maze article on same and my additional comments via Linked In: https://linkedin.com/john-a-gordon-67569aa/recent/activity/shares

Favorite Investor Question: What Will Happen to the Higher Mix?

Throughout 2021, I got many questions from investors wondering when the surge of additional items per food transaction that all of the QSRs and fast casuals reported in 2020 and 2021 would end. Some were afraid that purchasing behavior would end and those same-store sales will plummet as a result.

Well, we are just rolling out of 2021 and into 2022 and don’t have that many readings yet. One who reports all the sales components we do, however, is Starbucks (SBUX). SBUX reported the larger basket size consistently through 2020 and 2021 as a higher average ticket. In many of those back-year quarters, the average ticket was significantly positive and traffic was significantly negative.

In SBUX FY 22 Q1, in the North American zone, Starbucks stores reported comp sales of plus 18%, driven by a 12% increase in transactions and a 6% increase in the ticket. <8>  So, while the price was taken it seems that most of the prior year mix behavior—the higher number of items sold per transaction—seems to have been built into the base. And transactions were considerably higher albeit over a still recovering Pandemic 2021 base. So, we’ll have to watch it, but it seems we have a winner on our hands and people are repeating their post Pandemic behavior.

About the author:

John A. Gordon is a long-time restaurant industry veteran who loves the unpredictability and never-ending complexities of our business. He has unit-level experience (6 years), 18 years of corporate staff experience, and the last 20 years as a complex situations restaurant analyst and management consultant via his founded firm, Pacific Management Consulting Group. He is a certified MAFF, Master Analyst, Financial Forensics, and works special investigations for investors, new concepts business planning and assessment, proforma development, franchisee support, expert litigation actions, and more. He can be reached anytime at 858 874-6626, email, jgordon@pacificmanagementconsultinggroup.com.

<1>   One good resource to check US construction cost inflation is the R.S. Means Company.

<2>   Except McDonald’s, which has company operated units in Europe.

<3>   But noted this was some form of a “catch up” wage action by franchisees. MCD does not forecast 2022 franchisee wage actions.

<4>   Proteins and paper items most commonly noted. On February 14, the US suspended all Avocado imports from Mexico after a threat to US inspection personnel.

<5>   McD Earnings Call, January 27 2022.

<6>   Burger King US TV feature summer/fall 2021

<7>   Current Del Taco primary marketing feature.

<8>   Starbucks Earnings Call and press Release, February 1 2022.

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