After a lengthy stretch of soft results, the restaurant industry is enjoying some upward movement again. In the week ending October 17, restaurants posted their strongest sales and traffic growth in four weeks, according to Black Box Intelligence.
But there is an underlying driver worth tracking—year-over-year check growth of 5.7 percent, the highest figure recorded since mid-April. Check growth has lifted 5 percent or more during each of the last seven weeks.
A quick trip around this earnings season (see Wingstop, McDonald’s, Texas Roadhouse, Outback, and Chili’s) suggests brands of every size and category are doing their best to hold margins amid an inflationary environment that shows no signs of sliding. The silver lining is, to Black Box’s data, rising sales are making this a cost-management battle in many cases. As Brinker International CEO Wyman Roberts put it: “After 40 years, I’ll take managing costs over searching for sales and traffic any day. Those are good problems to solve because they’re largely within our control.”
Although that stretches to a point. "The thing that is the challenge for us are the things we can't necessarily control right in front of us, the macro headwinds," Wingstop CEO Charlie Morrison said of wing prices (more on that later).
Unlike other COVID stages, though, demand and transactions haven’t vanished due to lockdowns. And they’re coming on- and off-premises. Cheesecake Factory is pushing $60,000 per week, per unit outside the four walls currently, which is a more than $3 million AUV on its own. It’s leading the chain to comps 8.3 percent higher than 2019, with plenty of evidence this occasion is going to be a sticky one.
However, a challenge with reenergized volume is what it takes to serve it, both on the labor and commodity side. Cheesecake Factory has had to purchase more ingredients in the elevated spot market to meet volume needs, which it sees surpassing contracted levels into 2022. While the brand is close to 2019 staffing levels, it is still running higher with overtime since there’s more business flowing in. Texas Roadhouse CEO Jerry Morgan noted the same. “Based on our sales growth, we still need some folks and just in different areas of the country and the front of the house and the back of the house and management,” he said in the company’s quarterly review, adding employees are “probably working a little more overtime” and clocking extra shifts, “and we’d really like to get them some fresh legs and some help, and we definitely need more people.”
Cheesecake Factory anticipates Q4 cost of sales inflation to be about 3 percent higher than Q3, or 6 percent versus prior year. Additionally, on the labor front, Cheesecake Factory spent about $800,000 more than anticipated in Q3 in sick pay, largely associated with the Delta variant surge, and roughly $900,000 more on training costs. Margins took a hit of about 70 basis points in response.
And up prices went 3 percent, with the potential to lift another 1.5–2 percent next year if pressures don’t ease. In Q2 and Q3 of this year, Chipotle’s menu prices rose 9 and 10 percent, respectively. Texas Roadhouse this past quarter was hit with commodity inflation of 13.9 percent, primarily tied to higher beef costs. Restaurant margin dollars hiked to $135.1 million from $91.1 million last year. Commodity inflation was about 10, 15, and 16 percent across July, August, and September, respectively. And the brand expects high-teens inflation in Q4. For Q4, Texas Roadhouse’s implied pricing will be about 5.3 percent when you factor a 1.75 percent raise from April 2020 and 1.4 percent in October 2020 that’s rolling off.
At Wingstop, average spot price for bone-in wings reached a record $3.22 per pound in Q3, an 84 percent increase year-over-year. Food, beverage, and packaging costs leapt 11.7 percent at company-run stores. Franchisees plan to raise menu prices by an additional 4 to 5 percent, resulting in a 10 percent increase overall this year. Historically, the brand deployed a 1–2 percent pricing cadence each calendar. Spot prices have fallen to $2.87 per pound of late, and frozen inventory stocks are near 2019 levels, but the company said chicken wings would need to drop well below $2 per pound for the brand to feel comfortable.
As data shows, guests are willing to foot the bill so far. U.S. same-store sales rose 3.9 percent for Wingstop, year-over-year, and 29.3 percent on a two-year basis. Restaurants are entering the comp base with $1.2 million in AUV, up from $900,000 for stores built in 2019.
It’s simply difficult to predict what comes next.
“The entire industry is feeling it. And the biggest problem is no one has given us, especially from the leadership of our country, any indication that this is going to come to an end,” Fazoli’s CEO Carl Howard says. “And that is what’s the most frustrating thing. I can’t look somebody in the eye because I get asked all the time when do you think this is going to end? All the time.”
The National Restaurant Association sent a letter to Congressional leaders earlier in the week highlighting “how supply chain challenges and inflation are weighing down restaurant industry rebuilding.”
According to Association survey data, 95 percent of restaurants have experienced significant supply delays or shortages of key food items in recent months; and 75 percent have made menu changes because of supply chain challenges.
Wholesale food prices increased sharply in September, posting the highest 12-month increase since 1980. Restaurant commodity prices, as evident with Texas Roadhouse, Wingstop, and others, are soaring, with beef up 57.7 percent, fats and oils 49.6 percent and eggs up 39.2 percent. Again, menu prices are the early response, 4.7 percent higher in last 12 months alone.
QSR caught up with Alec Haesler, director at Carl Marks Advisors, to chat about this current environment and where the industry goes from here, with cooler weather, the holidays, and curveballs still unseen on the horizon.
As we begin to approach the holiday season, and winter, how would you characterize the state of the industry today? Is this a fragile time in the recovery curve?
This is definitely a fragile time in the recovery. We saw a quick snap-back in demand in the first half of 2021, only to see it stymied a bit by the Delta variant. Now, foot traffic comps, depending on the industry sub-sector, are returning or even outpacing pre-pandemic levels. In some instances, we are seeing clients outperform 2019 comps in unexpected regions/locations.
At the same time, persistent labor shortages are testing operators’ ability to meet customer demand. Food commodity inflation is squeezing margins, with no sign of slowing down. COVID-19 continues to place added emphasis on employee safety, while regulatory mandates have added complexity and put restaurant operators at odds with certain customers.
The next several months will be an important test of all these different dynamics—and what a normalized operating environment might look like.
Specifically, some restaurant owners have expressed to me that we're walking a delicate line with the consumer, in terms of higher prices and “stealth inflation” affecting their willingness to spend. That coupled with service struggles due to staffing issues. How are you advising restaurants on these concerns?
The restaurant industry isn’t facing these challenges alone. We are seeing labor shortages and inflationary pressures across the board. As this is occurring everywhere, consumers have been somewhat accommodating of the situation—whether that be a short-staffed rush hour or an increase in the price of a meal. Some of this might be offset by consumer excitement to be back “out-and-about.” However, as the current environment persists, we may start to see cracks in consumers’ willingness to accommodate.
This is a delicate line to walk. For the time being, a lot of this comes down to upfront communication with consumers. “Things might be a little slower today, we are short-staffed” or “The price of product XYZ has gone up on the menu” goes a long way with customer satisfaction.
Recent trends in average check price illustrate that consumers are willing to accept higher prices, although operators need to be careful in raising prices too much or using stealth inflation techniques too aggressively. We are advising clients that they need to assess margins to ensure sufficient cashflow to sustain operations. However, pricing modifications need to be strategic—and monitored in real-time to gauge customer willingness. Luckily, many operators are doing this—which minimizes some of the competitive concerns about pricing.
Do you think staffing will eventually normalize? And if so, what does that look like? More automation? Fewer, but higher-paid workers? Something else?
The supply-demand mismatch for labor will eventually normalize, although it will take time. This could mean years, not months. Restaurants, retail, and leisure operators were some of the hardest hit by COVID-19 lockdowns, Certain employees were forced to pivot in to completely new job functions / industries. There is likely a portion of the pre-pandemic work force that is never returning to the industry. This will be an adjustment, albeit one that drives innovation.
In terms of the future state—there isn’t a one-size-fits-all solution to the existing labor shortage. There are multiple facets to the conversation:
Improved staffing technology and POS has never been more relevant; innovation in the space will be a key aspect of future-state staffing models.
- Anything that can reduce job complexity while improving customer satisfaction is a huge win
- 2020 was an ideal year to test and implement some of these investments as reduced customer volume minimized service interruptions / glitches
Automation is interesting, and will be part of the conversation—although that generally takes a bit longer to implement.
- We are seeing certain large operators test out automation; everything from the more familiar order kiosks at quick-service locations to automated back-of-house capabilities
- The longer the labor shortage persists, the more automation-based capex/investment projects we will see
Many operators are rethinking location layout; not only to improve labor efficiency, but to better align with the future state of delivery, take-away, and add-on digital-only restaurant platforms
- Many locations aren’t built for the added complexity, which is exacerbating the labor shortage
- The ability to rethink and redesign both the front-of-house and back-of-house will alleviate some of the labor pressures
- Of course, this will require investment and landlord flexibility
Compensation and benefits have been, and will continue to be, a key piece of the puzzle.
- We have seen operators offer sign-on bonuses, interview incentives, and other creative offerings to get prospective employees in the door
- Both compensation and employee benefits have increased as well, with room to grow as things persist
- The breadth of benefits has also expanded—from college tuition to childcare
Not only that, but the labor shortage has made worker retention as critical as ever.
- Operators are reinvesting in training, job progression, and employee quality of life
There are a lot of moving pieces to the staffing conversation. You will likely see a mix-and-match approach, with operators leveraging a combination of technology and location design to improve staffing efficiency as best they can. At the same time, there will likely be an increased reliance on employee satisfaction to minimize attrition.
And what about on the supply/commodity front? Are those transitory pressures, or something operators should expect to stick around awhile?
Transitory? Yes. Near-term resolution? Unlikely. Carl Marks Advisors gets to work with clients across a wide variety of industries that touch all facets of the supply chain. The consensus we are hearing (and seeing) is that supply chain issues and commodity inflation are likely to persist through 2022. While demand has snapped back incredibly quick, it will take time for supply chains to untangle.
Let’s talk about the holidays specifically. What are you expecting from diners? Will take-away options be more important than ever?
Take-away and delivery are going to play a bigger role in the holiday season going forward. The pandemic accelerated investment in these options—the breadth and ease of the service offering is significantly enhanced compared to just 24 months ago.
Many consumers leveraged take-away/delivery last holiday season. While you might not see all of them repeat the same, there will be a subsection that prefer this to the traditional night out. Combine this with the accelerated shift to ecommerce retail sales during the holidays, as well as supply chain issues for brick-and-mortar retail (potentially empty shelves), and you will see take-away/delivery doing a meaningful percentage of total sales during the holidays.
For those operators who rely on large parties during the holidays (year-end holiday parties, happy hours, etc.), we are hearing anecdotally that interest is building—although results vary by region. The mass “return to office” that was anticipated this summer was, like many things, delayed due to the Delta variant. Holiday parties are likely to be down vs. 2019 but up vs. 2020. Holiday travel still hinges upon COVID-19 overhang, as well as other factors such as CDC guidance and potential expansion of vaccine boosters. Again, we expect volume to be down vs 2019 but up vs 2020. Given labor shortages, it’s tough to imagine operators being able to meet seasonal staffing needs if demand outpaces expectations.
Broadly speaking, what do you think will separate the winning brands moving forward? What are they investing in today?
We continue to believe flexibility is what will separate the winning brands. The restaurant industry is at an inflection point—the ability to pivot and react to an ever-changing environment will be critical. This means a bottoms-up evaluation of everything—from staffing, menu offerings, location layout, geographic positioning, customer satisfaction, marketing strategies, technology, automation, delivery/take-away, digital-only restaurants, etc.—and determining what works and what doesn’t. The ability to learn and innovate will help operators create something sustainable in what remains an uncertain world. Those that remain flexible will be the ones that adapt quickest, giving them an edge going forward.