Lane Cardwell

Restaurant Reincarnation

Let's face it. There are just too many restaurants. There is plenty of blame to go around but the biggest offenders have been the publicly traded casual dining chains. They went on a development binge between 2003 and 2006 and the result was net unit growth for the category of approximately 5% per year during this period. Doesn't sound like a lot? Think about it this way. During this four year period there was 22% growth in the number of casual dining restaurants and less than 5% growth in the U.S. population. Or as your head of marketing would say, "Too many seats chasing too few butts."

Morgan Stanley published a research piece on the industry dated January 6, 2009. Using company and NPD data it showed casual dining restaurant growth was reined in by 2007 to less than 3%, and by 2008 to less than 1%. Forecasts for 2009-2010 are for unit growth rates in casual dining that return to more modest levels. That is all well and good, but it still leaves us with an overbuilt situation. One of the reasons that the casual dining industry has been suffering from declining comp traffic over the past few years is that they have built restaurants at too fast a rate for the number of customers.

Fear not. Just as in nature, there are phenomena that bring an imbalance back into balance. Too many people and not enough food? Famine works cruelly to return balance to the population. Too many trees in the forest? A forest fire will thin them out so that the strongest may survive. And so on. Balance is always achieved in the long run, although getting there may not be a pleasant process. In the restaurant industry, and in retailing, this balance is achieved through store closings. Either through careful pruning of those restaurants in the chain that no longer make money, or by a Chapter 7 liquidation like Steak & Ale and Bennigan's, excess restaurants are removed from the industry.

There is only one problem with achieving this balance in the restaurant industry--restaurant reincarnation. We have a terrible habit of taking a closed restaurant and putting a new tenant in the space who opens, yes, another restaurant! Goldman Sachs research analyst Steven Kron estimates that approximately 12,000 casual dining restaurants will need to close in order to return the industry to a state of supply and demand equilibrium. With the process of restaurant reincarnation it will take a long time to weed these restaurants out.

You have seen restaurant reincarnation at work. You may have even contributed to it. A restaurant closes, someone else goes in and remodels the inside, puts a new sign over the door, and the community has its missing restaurant back. Sometimes it is much more successful than the preceding restaurant. Usually, however, it is less successful and limps along until it also closes. Then the process begins again and another restaurant is reincarnated into the space. This can be repeated 3, 4, or 5 times over a 10 or 15 year period in some locations.

When Circuit City closes its doors I doubt that you will see them all reopened as another brand of electronics retailer. Maybe a few, but for the most part there has been a healthy elimination of an overbuilt situation in this segment.

Why does the restaurant industry act differently? Why is it, "Once a restaurant, always a restaurant"? It's because we have kitchens. A landlord can always tempt another restaurant into the space because one of the most expensive parts of our buildout, the kitchen, is there. It takes a really bad location to finally have the kitchen removed, or the building scraped, and the space turned into something else.

And so until the process of restaurant reincarnation is finally played out, and all of the closed restaurants reopen as clothing stores and spas, we are going to remain in an overbuilt situation for a while. It is the way of our world.

Posted by Lane Cardwell on February 22, 2009 | Comments (3)