Restaurants - The Need for Meaningful Catalysts
With thoughts and hopes building for 2025, developments in 2024 help to set the foundation. Like every year since 2019 and the Pandemic onset in 2020, the Restaurant Industry continues to be ever dynamic. 2024 was overall a weak year unfortunately, with soft sales and traffic declines across the board, except for the major players in the fast casual segment. Six US brands continue to be very strong. Even with a weak year, there is still plenty to do, for operators, franchisees, investors, suppliers, consultants and advisors, journalists and others in this huge industry, to get ready for the next positive cycle.
The need for restaurant catalysts
This business needs catalysts to move. We are at a weakened position , and meaningful catalysts are needed to move the needle. Several Q3 earnings calls forecasts pointed to a better “second half of 2025”. It seems to me for that to happen we need much better people development at all levels, including at the CEO level. We need to work our way out of the almost world wide price angst problem. We need more focus to the middle of the P&L and CAPEX costs and discipline. We need to rationalize the number of restaurants in the US. And finally, new product and concept development to fix legacy problems and attract core and aspirational guests.
Current Developments
October Advance Foodservice Sales improved. Census seasonally adjusted sales wiggled higher in October, plus 4.3%, versus 3.9% YAG. From this we have to subtract app. 4 full percentage price for price/check increases, so we were still slightly negative on implied traffic. However, this was a still a slight improvement over September.
Forward View on US Tariff Impacts: While of course we don’t know what will happen at this point, announced tariff future actions to date will have some impact on restaurant foodstuffs. The University of Michigan recently ,ran an analysis on sources of worldwide imports by country, traced back to Canada and Mexico. The following food impacts which could impact restaurants, were:
· “Other vegetables and melons”, 79% of US per ton imports from Canada and Mexico.
· Bread and Bakery materials: 72%
· Meat x Poultry: 48%
· Malt and Beer, 84%.
Hat tip to Prof. Jason Miller, MSU.
Any foodstuff increases are just the beginning cost into the food manufafacturing and delivery chain, which are typically slower moving than the raw material costs. Consensus reporting from public restaurants now indicate low single digit commodity cost basket inflation. Another factor to watch.
Restaurant Bankruptcies Inevitable in 2024
There have been 30 major restaurant chain or multiunit franchisees bankruptcies in 2024.[1] At least one more brand is the works, Boston Market. It had failed Ch11 filings in 2024. Red Lobster was the largest. It has already found a home, with the distressed ownetrship group, backed by Fortress investment Group. It closed north of 120 units.
When the SOFR interest rate [2] began to rise in July of 2023, it rocketed up from .3%, peaking at 5.32% in August 2024. That put stress on restaurants that had debt that indexed to this rate, or had resets coming where they had to refinance. With a weakening sales environment especially in older brands, AND the double food and labor cost inflation impact in 2022/2023 made it a predictable but perfect storm.
There will be more in 2024. One observation from these developments is once again, poor new unit construction, remodeling, and shaky business purchase acquisition planning and due diligence are seen. The restaurant industry from shift supervisor to CEO to Boards of Directors over emphasize the income statement to the exclusion of the P&L.
My first area manager told us endlessly, ‘Its not what you expect, it is what you inspect’. This means watch more things. Debt and capital plans simply must be linked to operational reality. Over use of the EBITDA metric contributes to this disconnection. EBITDA is a mere subtotal and is “profit before everything”[3] To implement this improvement, changes in CEO, Divisional, District and Area leadership, and some corporate staff bonus and performance appraisals will be required. More corporate reporting beyond “adjusted EBITDA” will be essential. By example, look at CAVA’s reporting of net income, net cash provided by operations and free cash flow as a model[4].
Other Notable Notes:
Taco Bell should be recognized for multiple new drink tests and implementations such as green tea based Agua Real Fruit Rereshers ($3.99, 16 ounces), and now the test of the Live Mas Café in a store platform. I’m positive they will learn a lot.
Jersey Mike’s
The Jersey Mike’s acquisition was amazing. It resets the table in terms of world wide sandwich competition, with a strong brand, with great management and store economics entering the fray.
I asked my friend, Alicia Miller, founder and CEO of the franchise analysis and advisory firm, Emergent Growth Advisors to provide perspective. Alicia specializes in investment and advisory of franchise organizations of all sizes, and is a foremost expert.
"One in seven franchise brands with a history of PE backing are owned by Roark. Blackstone's recent acquisitions demonstrate no one can be complacent. Right now Subway has the edge internationally. It will take time for Jersey Mike's to get there. But Subway's international growth is mission-critical to offset further expected contraction of Subway units still to come in the US market and not end up over-leveraged. Whereas Jersey Mike's still has plenty of opportunity to take significant share in its home market and has higher quality, more reliable cash flow. It can be choosy picking the right international partners and gradually developing the support infrastructure and brand awareness. Plus, Jersey Mike's still has Peter Cancro - one of the best operators in all of franchising. Subway will have a tough time finding a for-hire leader that comes close to Cancro's proven ability to execute and build solid relationships with his franchisees."
[1] Restaurant Business Online, December 6 2024.
[2] The replacement benchmark for many loans.
[3]. The late Charlie Munger, decades long partner of Warren Buffett.
