Restaurants: Trying to See Properly in a House of Mirrors
by John A. Gordon, Principal and Founder, Pacific Management Consulting Group
Notable Anniversary Upon Us: By the time the Executive Connection is published, we will have hit the 3rd anniversary of COVID hitting the world and rendering such death, destruction, and disruption. Our world, our business, a social business of serving people, was brutally impacted with effects still being felt today and accrued in the outyears. If you didn’t have a drive-thru, unit revenues typically fell 90 to 95%. Some brands were temporarily caught without enough cash or credit-Cheesecake Factory example. And we had to lay off staff. Some did it smartly—Darden as an example. Others did not, and we now have a generation of ex-restaurant employees that wouldn’t come back to work for us ever again.
This was a true “black swan” event, an unforeseen unfavorable event that causes changes in your life and business. 9-11 was another one. The problem is, black swan events seem to be more frequent. The 2022 war in Ukraine is another. It affected our industry directly via spikes in food item inflation (oils, grains), and eventually gasoline price spikes affecting our consumers.
This is why I am a fan of Mayor Mike Bloomberg’s new planning system: keep your planning and budgeting tight and focused to 3-5 years max. Produce contingency options rather than grand debate papers.
Trying to see in a House of Mirrors: As a restaurant analyst, I read 30-plus reports, and databases and consult other sources just to track the economy and how restaurant sales and economics are trending. The Quarter 4 earnings cycle has just ended. Other than the pizza segment (Domino’s and Papa John's only) there were no major consumer upsets. Some brands, such as Texas Road House and McDonald’s did very well. The Technomic sales TINDEX index is way above the 2019 base and continues to show a stable/sloping up line through January 2023. Even optically adjusting for the Omnicom distortion last year, the charts don’t look like a recession has hit the industry.<1> However, the industry reports in an app. 60-day lag and many earnings calls are not clear in terms of what is happening. But other consumer polling surveys are negative, showing restaurant sentiment and spending pullback.
One immediate question is what base year is being used. One will find different results comparing current results to 2019, 2021, or 2022. It is true the SEC income statement format shows (current year/prior year.) But prior year might be bad for all kinds of reasons. There is flexibility in earnings calls, investor days, and other presentations to make analysis and discussion more robust.
Need for a good index-the CRPI<2>can be a solution
Given current conditions, I’d recommend the creation of the calculated restaurant prior index, the CRPI if you will--2019, plus 2021 plus 2022. That will smooth out all kinds of 2021 and 2022 blips. This is necessary because we live in a headline-driven world and our business is complex. Our consumer pool was altered by COVID and is still recovering, as will be discussed shortly.
The CRPI can be administered by restaurant operators, security analysts, investors, and others by brand That takes away the disadvantage of comparing to an artificial index that has to be stilted. I will publish a US CRPI soon and more information.
Talking now to a real Consumer Insights and Innovation Strategist…
I’m glad to have met Lisa W. Miller, a friend and real restaurant industry consumer insights strategist<3>. She has had executive marketing research experience at Brinker and now has a Dallas based global management consulting practice, LWM Associates, with many consumer-facing clients, including large public restaurant chains.
Among her firm’s proprietary assets is a consumer survey she runs monthly. Lisa agreed to summarize some high-level observations from where the consumer base is right now on restaurants:
50% of the pre-pandemic restaurant consumer base has not returned to restaurant usage, even now. This has several implications for marketers, namely, frequency is the ballgame right now.
People would like to eat out but service conditions do not produce an overwhelmingly positive experience (Joy in Lisa’s terms)
32% will go out less but will splurge when doing so.
Lisa is just about to publish a book, The Business of Joy, that will give us more perspective. See https://www.lwm-associates.com for a book review and trailer.
Notable Casual Diner Earnings Notes: Casual and Fine diners had generally a good earnings quarter. Some reported good January-to-date sales. Of course, all of the sales gains has been driven by average ticket, which is a sum of menu board price increases plus mix. Texas Road House (TXRH) had great sales and Red Robin (RRGB (G.J. Hart is onboard as CEO) is on the road to recovery. The 100% franchised Dine Equity (DINE) (Applebees/IHOP) reported short on open units and was again unable to speak to franchisee store economics, a years-long problem. They do have a vision of what the future could be.
The problem with reporting “traffic”: a special note: casual and fine diners are the only restaurants that can report traffic accurately. That is because they predominately serve entrees, which can serve as a proxy for traffic. Fast casuals and QSRs serve via bags and boxes and cannot count “guests”. They can and do all internally count “food units”, burrito x, or burger y. They seldom report these stats, however. So they estimate traffic by the number of people paying. That stat is imperfect.
What to do? Ask the QSRs to report food units.
QSR Earnings notes: So some big news was that the RBI Executive Chair Patrick Doyle conducted his first earnings call and highlighted his focus on franchisee profitability. He read off the US BK/Can Tims and US PLK franchisee store EBITDA, for the first time since 2017. The US BK numbers were very low, about $140K. Almost as expected, another large BK US franchisee, Meridian, with 111 units, filed Chapter 11 on Wednesday, April 8. RBI’s CEO retired and the COO, Josh Kobza has fleeted up to CEO and will report to Patrick.
McDonald’s and all the YUM brands did well, Pizza Hut SSS in the US was plus 5, while both Dominos (DPZ) and Papa John’s (PZZA) saw extensive sales softness. The Pizza brand's softness is a considerable question, as Dominos reversed its prior story of not having enough drivers to a collapse in delivery demand, which is much worse. It caused DPZ to pull back several years of its multiyear earnings model.
Wow! This requires a lot more investigation. One issue I’m looking at is the current US DPZ TV marketing model is a nice full-size large pizza for $7.99. Understanding inflation and delivery fees add on to this, this is a long way from the basic 2 for $5.99 each bundled when used in DPZ’s heyday. Also, as Memo to DPZ Marketing, heavy GRPs on television are indeed flowing right now on national cable, but the scheduling and airing is virtually pure waste. DPZ pizza ads run back to back, sometimes 15 to 20 per hour on some national cable programs. That is due to sloppy ad scheduling/execution from the ad agencies. Anyone watching it would be x out the commercials.
Wendy’s (WEN) got a lot of negative attention for abandoning its ill-fated REEF trailer expansion plan. Potential cannibalization via trailers is the last thing Wendy’s needed. It was a bad development call with a bad operator. They should proceed with all speed in Australia and other easy international development routes. In the main, however, I love WEN as both a stock and as a brand.
The basics: There will still be pressure on labor and food/paper commodity costs in 2023, but hopefully less so. Price is still being taken as usual. Veteran restaurant reporter Leslie Patton (@PattonLes) has just written a very mindful piece describing the struggle we are still in three years later to get fully staffed. Her piece is worth a read or listen for the real on-the-ground people stories. <4>
About the author: John A. Gordon is a long-time industry veteran, with 45-plus years in operations, corporate staff, and leading his own consulting firm, Pacific Management Consulting Group. He is a Master Analyst of Financial Forensics (MAFF) and provides complex operations, financial analysis, and business review engagements for clients. 858 874-6626, email@example.com.
<2> Copyright pending, Pacific Management Consulting Group, 2023. All rights reserved.