On the Money: Crunching the Numbers

Franchisees…what bunch of complainers!

By David Farkas, Senior Editor -- Chain Leader, 5/1/2007

Franchisees…what bunch of complainers! At least that’s how McDonald’s owner-operators come across in Buckingham Research’s most recent "McDonald’s Franchisee Survey," published April 11.

You might wonder why they’re unhappy given that McDonald’s has posted 48 consecutive months of same-store-sales increases. Those surveyed, who together run 195 restaurants throughout the United States, even estimated sales would be up an average 4.1 percent in April. Those in the West (43 restaurants) reckoned comps would leap 5.4 percent. Most restaurant companies— particularly casual-dining chains—would happily take those numbers.

Buckingham analyst Mark Kalinowski, who oversees the survey, raised his same-store-sales forecast, from 2 percent to 4.1 percent, as a result. So what’s to complain about?

Plenty. Take new menu items. Franchisees in the survey are worried about how the associated costs of new products will affect sales and profits.

Only two of 19 comments are positive. Most franchisees, however, are of two minds. "Yes, they will add to top-line sales," says one. "However, not much is going to the bottom line."

Gripes another: "Snack Wraps should help, but food costs are high. I cannot afford to remodel, and the valuations are so low now. Why would anyone put money into this business now?"

McDonald’s stock meanwhile is trading at near its 52-week high and at 19 times forward earnings. Don’t expect to hear investors grumbling.

According to John Hamburger, publisher of Restaurant Finance Monitor, the restaurant business is teeming with numbers types who are imposing complicated leverage metrics on an otherwise straightforward business.

Hamburger lambasted the financial engineers in the March 16 issue for shifting investor and operator attention away from the "simple tools": operating margins, return on investment and the all-important sales-to-investment ratio.

"The sales-to-investment ratio is very simple to compute," writes Hamburger, a former restaurant CFO. "Operators don’t need an HP calculator. A pencil and napkin are fine."

He then listed ratios for nine national chains from 1997 to 2007. And guess what? It is time to get back to thinking about how to boost sales-to-investment ratios instead of sending them in the other direction—precisely what each of the nine big-name companies has done.

In the case of Cracker Barrel, for example, per-unit investment costs climbed $800,000 over the period, while per-unit sales grew just $124,000. Today, the chain’s ratio is still above 1-to-1 but not by much (it’s 1.15 to 1). Hamburger warns that the risk of failure has therefore increased. Pick one or two bad sites a year, he says, "and you are in big trouble."

Need an example? Bob Evans is struggling to boost margins and become more relevant. Over the years, the 591-unit family-dining chain opened too many restaurants too close together, driving its sales-to-investment ratio to 1-to-0.75. CEO Steven A. Davis wants to get it back to 1- to-1. You can read about his turnaround plan here.