Let’s start with inflation. The story today, as we continue to hear, is higher prices, with a willing consumer. Is it inevitable, in your view, pushback will eventually begin to show in the form of traffic declines? Has that started to happen already, especially with gas prices now hitting diners’ wallets?
We are starting to see margin compression, as labor and inflationary pressures outstrip the ability for operators to pass through costs to end-consumers. February foot traffic comps were positive, especially as demand recovered from Omicron and municipalities start to repeal mask and vaccine requirements. That being said, March foot traffic is starting to show pockets of weakness.
I think we are going to see a persistent and significant inflationary environment in the coming months—especially for restaurant operators. Rising oil prices will increase both delivery costs and the cost of packaging and supplies. The crisis in Ukraine is driving up the price of corn and wheat, while Russia is a major exporter of ammonia for fertilizer. This all means a continued increase in input costs for the restaurant industry. Not to mention the current state of the labor market and what that is doing to average hourly wages.
At the same time, government stimulus has dried up, and consumers will start to feel the impact of inflation in their wallets. This likely means a pullback in consumer discretionary spending, less willingness to support increased check prices, and weaker foot traffic comps in the near-term. While foot traffic comps look positive today and people are optimistic about, “getting back out there”—I think we are going to see some regression in the coming months.
Generally, the idea is once prices go up, they don’t come back down. Is it possible we see an exception here? Or is this a “new normal” part of the dining out experience going forward?
Generally, prices rise much faster at the beginning of an inflationary cycle than they decline on the back-end. Operators that experienced margin compression in previous periods are going to take some additional profit to offset past losses.
Given the size and pace of inflation, as well as the non-recurring nature of some of the drivers, I don’t believe this is a “new normal” situation. It will, however, be something that takes a long time to work its way through the system before things stabilize (to a certain degree).
As a result, price-sensitive customers will start to seek out value-oriented options when dining out. The demand will always be there, even if discretionary spending is somewhat tapered. There will be an opportunity for value-oriented operators to take some market share in the near-term.
Do you think some brands will turn to value when things settle down? What might that look like?
I jumped the gun a bit with my previous answer—but yes, definitely. People are going to be a bit more strategic with their discretionary spending. Operators will have a big incentive to reduce operating costs and overhead expenses (optimize staffing, input costs, and location layout) where possible. Those that can achieve this while still offering strong customer service and an experiential dining option will thrive.
How is minimum wage going to factor in? It almost feels like this topic got pushed aside by COVID as restaurants were forced to pay more for labor just to recruit. Is that about to change?
For the time being, minimum wage shouldn’t be a major factor in the industry. Per the US Bureau of Labor Statistics, average hourly wages in the leisure and hospitality industry were $19.35 in February 2022—an 11.25 percent increase versus February 2021 and a 14.5 percent increase vs February 2020 (pre-COVID). Tip credits, where applicable, will still play a role as operators juggle how to improve employee compensation and benefits in an unstable environment.
Until the labor supply imbalance resolves itself, the bigger headline will be how restaurant operators are fighting to attract talent.
Diving deeper into labor, will owners have to start hiring unvaccinated employees again to cover increased demand?
Job openings in the leisure and hospitality industry stood at about 1.7 million in January 2022, roughly 115 percent above January 2021 and 76 percent above January 2020 (pre-pandemic). At the same time, total employees for food and drinking places are still about 6 percent below pre-pandemic levels (January 2022 versus January 2020). Long story short, persistent labor shortages continue to weigh on the industry.
Back in August 2021, I wrote about how “operational stability and consumer confidence are critical factors in the economic recovery of the industry, and this requires complying with federal, state, and local health ordinances and keeping staff safe and on the job.” As mask and vaccine mandates are slowly repealed nationwide, I think we will see operators look to any qualified, available pockets of the labor pool to fill their staffing gaps.
How fierce is that battle for talent going to be, and are there changes in the system it will impart for good, like better benefits, workplace reform, etc.?
The battle for talent has been fierce for a while now, and it shows no signs of slowing down in the near term. Service industries (restaurants, retail, hospitality, etc.) face a unique challenge, as a large swath of the labor force used the lockdown period to reevaluate their options. Many pivoted to industries with comparable pay and benefits, but potentially favorable work-life balance. In talking to some clients, many of their top-tier talent wasn’t lost to a competitor, but to a pivot away from the restaurant industry in general.
To attract talent back to the industry, many operators are working to strengthen their benefits offering, implement more refined career progression upside, and are trying to create a more stable work-life environment. At the same time, operators are investing in technology to optimize staffing and improve efficiency—reducing employee burnout. Much of this will be sustainable in the long-term, to the benefit of the employee pool.
Urban restaurants have enjoyed expanded sidewalk seating capacity without a subsequent tax increase, essentially padding their margins. How will the reduced capacity impact their bottom lines?
As a New Yorker, increased outdoor dining (plus the to-go drinks) was a bright spot during the pandemic. While some operators invested in long-term structures such as patios, many will need to remove the impromptu outdoor infrastructure.
While outdoor dining enhanced seating capacity, many operators were still constrained by staffing shortages—effectively limiting capacity to the original location design pre-pandemic. The impact on margin may not be material in those cases. In fact, it might even improve the labor mix issue.
That being said, there is a portion of the consumer base that enjoyed the outdoor dining option—especially in the spring and summer months. Removing the option might dissuade some potential customers or see them pivot to a to-go option. This aspect is hard to quantify currently.
There will likely be some margin impact from this shift, although I think inflation and labor issues will be the big headlines for the foreseeable future. Outdoor dining will become another piece of the puzzle for operators to evaluate when considering long-term design and layout strategies.
It feels like the big chains just keep getting bigger now, with independents looking at years of recovery. Do you believe that’s going to hold? Or will the consumer demand shift the landscape at some point?
Larger chains with stronger balance sheets were able to take advantage of government stimulus, a favorable landlord environment, and vendor concessions to seize the opportunity for expansion. These chains have also done a great job pivoting based on consumer preferences—optimizing their resources via ghost kitchens, digital-only restaurants, and expanding into new service offerings. At the same time, independents, with limited resources and bargaining power, have struggled.
There will be a bit of mean reversion here, especially as COVID-driven momentum subsides. The restaurant industry is always ripe for innovation, and there is always demand for fresh, unique service offerings. I think you will see independents start to adapt and innovate, it will just take some time—as these platforms need to be a bit more strategic (cautious) with their capital investments.
What do you think will be the biggest shift from this era?
Given everything that is going on, it’s a bit tough to tell. My thesis is that labor and inflationary pressures work in cycles, and things will subside at a new “normal” sometime down the road (12-plus months).
The biggest long-term shift will be in the breadth and scale of dining alternatives – as customer preferences have evolved over the last 24 months. Operators are experimenting with new floorplans and modified customer interface/point-of-sales systems. Casual dining operators are testing out fast-casual alternatives. Chains are investing in digital-only restaurants while others are optimizing their existing infrastructure as ghost kitchens. Third-party delivery and to-go infrastructure are legitimate considerations. Supply chains are being redesigned as lifestyle brands enter the market (e.g., MrBeast Burger or Another Wing). A lot of this is still in the “test” phase and some of this will not be long-term viable. But much of this investment stems from a shift in customer preferences, and it will change the way we view the industry in the coming years.