Lane Cardwell

The Half-Empty Glass

Investors turn to research analysts to help make sense of trends and outlooks in all industries. Like hurricane forecasters, analysts build complicated models with a wide range of input variables that they are constantly updating and tweaking. This is done in an effort to try and look around the corner at what is going to happen to a company, or industry, that they follow on behalf of investors.

Casual dining is no different. Like the hurricane models reported on TV by excited weather forecasters, most of the financial models show different paths that the industry will follow depending upon the inputs that are used, and how they are weighted. Some models predict high winds; some predict a crippling storm surge. Only time will tell which is right.

I believe that it is instructive to understand what worries different followers of our industry in the financial markets. With big money at stake, and reputations and careers on the line, some of the sharpest minds on Wall Street are constantly analyzing the factors which they believe will make a casual dining company perform or falter. Occasionally, these analysts will step back from the individual companies that they follow and try to make sense of the segment for insight.

It is no secret that casual dining has been experiencing a tough consumer environment over the past two to three years. Early on, some of the traffic declines have been masked by higher than normal price increases (3-4%) which have helped keep comp sales looking decent. But below the surface there has been a wholesale defection of the casual dining customer base.  According to Knapp-Track statistics, comp sales have trended negative in eight of the past nine quarters. Guest traffic in casual dining is down approximately 10% since the beginning of 2006.

One of the more sobering forecasts of the future of casual dining was published recently by Cleveland Research. It is titled “Casual Dining in a Structural Bind”.

“Our bottom line conclusion is that we think casual dining is largely a broken model and that the industry will need to rationalize and reformulate over the next 2-3 years (either by choice or by force).”

There is no phrase more damning in the financial community than “broken model”.

Cleveland Research is unusual. They don’t produce research to sell stocks.  They produce research as a resource for those who buy and sell stocks. They utilize relationships within the industry to gain a deep understanding of the dynamics at work. They don’t produce research for public consumption, preferring to keep it within a tightly controlled distribution list of clients and “friends of the firm”. Jason Whitmer, senior research analyst and partner for Cleveland Research, can be reached at jwhitmer@cleveland-research.com for further insights about the work that his firm does. Thank you to Jason for letting me give you a peak at what they are telling their clients.

Exactly what is the essence of this jarring view of casual dining? Jason and his team have boiled it down to three main points:

·         Margin outlook is concerning

-“Food costs could be a real problem heading into 2009 as contracts get renegotiated”

-“Operating expenses have not been experiencing any relief lately due to higher energy and utility costs’

- “Labor costs have been a bigger challenge due to minimum wage rate increases”

·         Demand Both Cyclically and Structurally Impaired

-Cyclical refers to the economic problems that the country is currently facing. All cycles change.

-Structural change is the puckering factor that should make CEO’s rethink their business model. A structural change is usually permanent (until the next structural change).

    1. “Decline in dual-income households (stay-at-home moms grocery shop more)”

    2. “Rising share of foodservice at grocery stores”

    3. “Declining value/quality balance (worse food and service relative to big price increases)”

    4. “More competitive fast casual and quick service chains”

·         This is Not a Growth Business Anymore

- “We think this industry needs to go through a hefty rationalization period and begin to come up with more creative solutions to some of the long-term pressures.”

-“We think there is plenty of qualitative and quantitative evidence that casual dining is overbuilt with little differentiation.”

Let me end this with an excellent summary by Steve Johnson of Foodservice Solutions who posted this as a comment in The Half-Full Glass blog:

“Might it be we (restaurateurs) have missed something? Could it be that the consumer is shifting? As Nielsen’s channel blurring study has stated year after year, channel blurring is not in the mind of the consumer; it is only in the mind of the BRAND MARKETERS! Restaurant brand marketers are more focused on controlling the brand than cultivating it. The industry equilibrium is resettling and it is all about share of stomach.

Harkin back to your GROCERANT days when consumers flocked to your concept; you had a solid point of differentiation. It is my belief that copy cat niche chains have no marketing differentiation. Restaurants, C-stores and grocery operators are all faced with this new unstable paradigm. Grocery stores and C-stores on the East Coast have repositioned themselves with solid research, new highly educated staffs, and a laser focus on the consumer. Here is how I think they are winning: Packaging, Price, Portion, Portability and Purpose.

Our industry is reluctant to spend on research, quick to hire recycled industry vets, and even faster to copy what worked during the past 6 months, while looking no further. We have a half-full glass, we can adapt quicker, we have more quality touch points with the consumer, we can solve the consumers time starved problems faster, and most importantly, the consumer looks to our industry for leadership. I for one know we are up to the challenge.”

Posted by Lane Cardwell on September 12, 2008 | Comments (1)