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Restaurants: 2024 Comes Into View
by John Gordon, Principal and Founder, Pacific Management Consulting Group
Happy New Year to all! 2024 has begun and everyone has been looking to the new year and the future for restaurant planning and operational execution for some time. Corporate budgeting begins in earnest in August typically, and marketing event planning has to stay 2-3 windows ahead at all times.
We still have Q4 2023 earnings to hear, but based on surveys, conversations, and reports at ICR 2024 that just concluded, we have some idea of what is coming. Master Card Spending Pulse reported restaurant sales were up 7.8% year over year, for the period November 1 through December 24, 2023, the highest in their survey category mix. This does not strip out price or mix inflation of course, but there is reasonable hope that the traffic residual was positive. The last week of December was also reported to be strong. US stock companies reported demand resilience, notably Darden (DRI). The exception was Jack in the Box (JACK) which noted mixed consumption trends at lower income cohorts breakfast and robust competitive activity.[1]
In Q4, International does seem to have the cluster of downside reports, with MCD, SBUX, and PZZA calling out Middle East, China, and Europe softness. PZZA noted international was -6%.[2] In the US, past January 1st, we understand that the first week of January sales were softer. [3]
Is Optimism Warranted?
The overall operator and investor tone at ICR was one of cautious optimism. Brand operating margins are creeping closer to 2019, and food commodity costs are believed to be moderating after two extremely different years. Some brands, both Domino’s (DPZ) and now Papa John’s (PZZA) have announced new operating models (PZZA) or marketing partnerships (DPZ) that will be meaningful in my opinion.
Supporting this optimism, consumers are feeling better about inflation. The Federal Reserve Bank of NY reported last week that consumers believed the median 2024 inflation increase would be 3%, down from 6.8% in mid-2022.[4] And of course, the FED has signaled its intent to move to lower interest rates.
To be sure, the beginning of the year optimism is nice. The industry challenges remain, including the disconnect between our prices taken vs. food at home (grocery story inflation). And years of cumulative labor inflation are baked into the store economics model. In California, the utter disaster of AB1228 [see more discussion below] is about to hit QSR operators with a directed $4 wage hike all at once by April. Judging by the JACK management commentary at ICR, they do not yet have a sophisticated solution. As one PE investor noted, today’s interest rates are up 5 full percentage points over 2022 and earlier, but the industry has managed much higher interest rates than this in the past. [5] “These rates are not all that bad”, said Amy Forrestal, Managing Director at Brookwood Associates. “ We got used to a period of low rates”. That is a very good point.
Operators simply must engineer superior brands with great economics to cover the CAPEX buildout costs [which are up 30-40% from 2019]. Franchisors must be adept and flexible enough to create variable unit prototypes to maximize market-specific ROI for franchisees who will always be sensitive to the initial buildout.
ICR 2024 was full of stories of individual brands, both public and still private, that were making use of their values [not only prices] but experiential benefits and new organizational and marketing alignments. More notes on that in the next issue.
Restaurant IPO and M&A Notes
Despite the higher interest rates, much M&A activity can be seen already. Pinstripes, a 13-unit chain of food and bowling centers entered the NYSE on January 2, via a SPAC acquisition vehicle. It is expecting 2024 revenue of between $185M to 195M and adjusted EBITDA of between $30-33M. It presented strongly at ICR. Then, later in the year, FAT Brands has solid interest in the IPO of its highly profitable and growing Twin Peaks, casual dining brand.
Then, in a surprise move announced Tuesday, January 16, Burger King franchisor RBI announced it would acquire long-time public franchisee Carrols (TAST) for $1 billion and sell the stores to smaller franchisees in the market area. This strategy was mentioned recently by Executive Chair Patrick Doyle, to get franchisees closer to their stores.
And in a final divestiture move announced Tuesday [not so much of a surprise, really], the operator of Red Lobster, Thai Union Group, has signaled that it plans to exit its Red Lobster minority ownership, citing,” prolonged negative financial contributions to Thai Union and its shareholders via the Red Lobster investment. Red Lobster has recorded a $19M loss to date and a $530 M non-cash impairment. Thai Union paid Golden Gate Capital Group $575M for a minority stake in 2020. [6]
Food Price and Commodity Cost Details for 2024
Definitely better news in 2024. Most US food forecasting starts with the USDA, Economic Research Service. Here is what they had to say about 2024:
“In 2024, all food prices are predicted to increase 1.2%...Food at home prices are expected to fall .6%... while food away from home prices is expected to rise 4.9%.” These are decreases from the 2023 levels. [7]
In December, the food at home actual was 1.3%. Full-service food away from home was 4.5%, and limited-service food away from home was 5.9%. So this is where our “value gap” may be coming from—along with reminders everywhere to tip!
Our last “normal “ year was 2020, when both food at home and food away from home rose about the same, 3.4%. Perfectly in balance then. Since then, the gaps have been huge.
My preferred Commodity Analyst friend and partner is Datum FS, Mr. David Maloni. He tracks and provides commentary on all major foodstuff and supply chain topics. Right now his December and January 2024 food market basket value is tracking just below a year ago. Suggest you follow his newsletter for weekly commentary.
Hotspot Highlight: Not California Dreamin’
While the wage inflation (AB1228) targeting ‘fast food’ restaurants in California will hit officially in April 2024, some operators have moved more quickly in implementing the $20/hour minimum wage. Expect that there will be wage compression throughout these restaurant chains: more tenured employees now making $20 or more such as shift supervisors or culinary will feel they need an upward adjustment. Therefore it will be more than just entry-level employees being affected. And it is entirely likely that other restaurant chains—fast casual and casual dining operators –will feel upward hiring restaurant wage pressure from this as well. The true authors of AB 1228—two Labor women from California targeted fast food because they disliked franchisors and franchisees so intently and believed they were abusing workers—but did not care if there would be spillover effects.
Several things are tragic about AB1228 developments. One is that the Governor approved spiking the wage from $4 at once to $20, without any adjustment period. [8]This was a result of the egging of SEIU and even the collaboration of the IFA, Matt Haller, personally, and the National Restaurant Association. IFA/Haller and the NRA were brought in as “color” to prove the restaurant industry as a whole supported this “deal” with the Governor. Nothing could be more false. No California franchisees except two McDonald’s corporate franchisee ‘friends’ were involved. So this was a midnight deal.
The Governor is materially to blame, as are SEIU and the California Labor Women. [9]The Governor has owned restaurants in the past and still owns a winery. Certain Democratic legislative members blindly followed SEIU's pressure. IFA’s upside in this midnight run is impossible to understand.
The other tragic thing is that jobs and the tax base will be lost. Two Pizza Hut franchisees have already notified they will terminate over 1100 employees. New restaurant construction can’t possibly hit the required hurdle rates with all these negative factors underway.
The outsized negative impact on JACK as a consequence
Unfortunately, Jack in the Box (JACK) will receive the chief negative consequences from this. With app. 100 company units in California, they will see company margin hits, so they are motivated to take price actions and use technology to improve labor scheduling and the like. They will need to model this because franchisees typically follow what the company has tested and proven—one of the reasons why company stores are needed in any franchise organization.
The issue at the moment is JACK reported weaker trends in lower income cohort breakfast spending at ICR. And it is still dealing with a messy acquisition of the Del Taco brand. It just announced [unbelievably in my view] that the Del Taco franchising would be decremental to earnings until 2027. The reason is the company stores they are selling to franchisees made more money than the royalties they will be getting. Until 2027 they project. And they are raising capital spending in 2024. So JACK management has its hands full.
More to come…….
About the author: John A. Gordon is a long-term restaurant industry veteran with 47 years of operations (6 years), corporate staff—financial planning and analysis (20 years), and 21 years via my founded restaurant consultancy, Pacific Management Consulting Group. Pacific works complex brand, financial analysis, and organizational reviews. John can be contacted anytime at 858 874 6626, jgordon@pacificmanagementconsultinggroup.com.
[1] Sourcing Hat Tip: Sara Senatore, Bank of America Note, January 10, 2024.
[2] Sourcing Hat Tip, Lauren Silberman, Deutsche Bank, Note, January 12, 2024
[3] Hat Tip: the great Michael Halen, Restaurant Analyst, Bloomberg.
[4] WSJ, January 12, 2024.
[5] Hat tip: Amy Forrestal, Managing Director, Brookwood Associates.
[6] Restaurant Business Online, Jonathan Maze, January 16 2024.
[7] USDA ERS paper, December 21, 2023, Morgan S. Sweitzer, Analyst.
[8] Most governmental cost mandates have a phase in period, not here.
[9] Contact me directly if you want to more about this story.