Lead Story…. There’s an old joke about the food service industry that doesn’t appear to be attributed to anyone in particular and goes something like this:
Q: How do you make a small fortune in the restaurant business?
A: Start with a large fortune.
Sure, it’s more than a bit of hyperbole but the point gets across: it’s really, really difficult to make money in the restaurant business. Your food has to be consistently good, customers are notoriously fickle with ever-changing tastes, margins are often razor-thin, inventory is perishable and one bad review or health issue can can bring down your entire business. Challenges aside, in recent years restaurants have been viewed as a savior of sorts for the struggling retail sector. The logic goes something like this: eCommerce is increasingly eating into the profits of brick and mortar retailers which is putting the large department and big box stores that acted as a primary draw to shopping centers under pressure. Food is one of the few areas that seems to be immune to Amazon and its cohorts and the so-called Good Food Revival Movement has led to clusters of hip restaurants in cities across the US that attract foodies and other “influencers” in droves. Therefore, restaurants are replacing department and big box stores as primary draws to retail centers and down areas.
Relying on a highly volatile industry with low profit margins and traditionally high rates of failure to prop up an entire class of real estate may not be the best strategy but this is what it has come to for beleaguered retail landlords. In investigating the restaurant boom, journalist Kevin Alexander penned a three-part series about the modern restaurant industry for Thrillist late last year and concluded that the industry is in a bubble (emphasis mine):
The American restaurant business is a bubble, and that bubble is bursting. I’ve arrived at this conclusion after spending a year traveling around the country and talking to chefs, restaurant owners, and other industry folk for this series. In part one, I talked about how the Good Food Revival Movement™ created colonies of similar, hip restaurants in cities all over the country. In the series’ second story, I discussed how a shortage of cooks — driven by a combination of the restaurant bubble, shifts in immigration, and a surge of millennials — is permanently altering the way a restaurant’s back of the house has to operate in order to survive.This, the final story, is simple: I want you to understand why America’s Golden Age of Restaurants is coming to an end.To do that I’m going to tell the story of the rise and fall of Matt Semmelhack and Mark Liberman’s AQ restaurant in San Francisco. But this story isn’t confined to SF. In Atlanta, D.B.A. Barbecue chef Matt Coggin told Thrillist about out-of-control personnel costs: “Too many restaurants have opened in the last two years,” he said. “There are not enough skilled hospitality workers to fill all of these restaurants. This has increased the cost for quality labor.” In New Orleans, I spoke with chef James Cullen (previously of Treo and Press Street Station) who talked at length about the glut of copycats: “If one guy opens a cool barbecue place and that’s successful, the next year we see five or six new cool barbecue places… We see it all the time here.”Even Portland, the patient zero of the Good Food Revival Movement, isn’t safe. This year, chef Johanna Ware shut down universally lauded Smallwares, saying, “the restaurant world is so saturated nowadays and it requires so much extra work to keep yourself relevant.” And Pok Pok kingmaker Andy Ricker closed his noodle joint Sen Yai, citing “soaring rents, the rising minimum wage, and stereotypical ideas about ‘ethnic food’ as ‘cheap food'” in an interview with Portland Monthly.Rising labor costs, rent increases, a pandemic of similar restaurants, demanding customers unwilling to come to terms with higher prices — it’s the Perfect Restaurant Industry Storm. And even someone as optimistic as Ricker offers no comforting words about where we’re headed.“These are tough issues that many restaurateurs may face in the very near future,” he says. “Closing now is preemptive.”
When looking at the broader economy, this makes a lot of sense. Restaurants have three main cost inputs: food, rent and labor. In some regards, restaurants actually benefited from the Great Recession. High vacancy resulting from the real estate bust pushed rents down and persistently high unemployment and low labor force participation rates kept a lid on wages, especially at the low end which is the level at which the majority of restaurant workers are paid. However, over the past few years rents have increased substantially and wages are finally starting to rise as well, putting pressure on the already skinny bottom line – and customers are generally not exhibiting any willingness to pay higher prices for the same food. Couple that with more new restaurants opening and a labor pool that, in some cases isn’t deep enough to support it and you have a problem. Alexander’s article goes into great detail about how cost pressures are driving restaurateurs towards either high end – fine dining or (relatively) affordable – food halls. It’s a long article but absolutely worth the read.
So what made me think back to an article that I first read in December of last year? Julie Jargon of the Wall Street Journal wrote a story this week entitled Going Out for Lunch Is a Dying Tradition that seemed to re-enforce Alexander’s theory about the restaurant industry being in trouble (emphasis mine)
The U.S. restaurant industry is in a funk. Blame it on lunch.
Americans made 433 million fewer trips to restaurants at lunchtime last year, resulting in roughly $3.2 billion in lost business for restaurants, according to market-research firm NPD Group Inc. It was the lowest level of lunch traffic in at least four decades.
While that loss in traffic is a 2% decline from 2015, it is a significant one-year drop for an industry that has traditionally relied on lunch and has had little or no growth for a decade.
This doesn’t seem like good news for a segment that is supposed to act as a draw for retail districts, does it? Part of the problem here is that services like Amazon Now and Uber Eats make it easier and cheaper for people to order in. Another problem is price – groceries have actually gotten cheaper since 2015 while restaurants have gotten substantially more expensive – which is mostly attributable to the increases in labor and rent inputs mentioned above. This is the worst case scenario for restaurants since it makes cooking at home relatively more attractive than eating out. More from the WSJ (emphasis mine):
The pain is spreading to suppliers. Meat giant Tyson Foods Inc. recently said a 29% drop in quarterly earnings was due partly to the decline in restaurant traffic.
“Consumers are buying fresh foods, from supermarkets, and eating them at home as a replacement for eating out,” Tyson Chief Executive Tom Hayes said.
The average price of a restaurant lunch has risen 19.5% to $7.59 since the recession, as rising labor costs pushed owners to raise menu prices—even as the cost of raw ingredients has fallen. According to the Bureau of Labor Statistics, the U.S. last year posted the longest stretch of falling grocery prices in more than 50 years.“We believe significant food deflation was the primary culprit behind last year’s weakness, favoring food at home pricing over food away from home pricing to a degree not seen outside of the global financial crisis,” Sanford Bernstein analyst Sara Senatore said in a recent report on the restaurant industry.
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Chart of the Day
Better off staying in
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