Article contributed by – Roger’s (unfiltered) Restaurant and Retail Review – While this discussion reflects upon trends for publicly held restaurant companies, it should be useful for franchisees and potential franchisees to consider.

By Roger Lipton

There are four major components of profits for restaurants (and retailers):

Revenues (made up by same store sales, price and menu mix, and traffic)

Cost of Goods (food and paper)

Labor Cost (Store level managers and crew expense, including benefits)

Occupancy expense, consisting of minimum rents adjusted for volume overages, and common area management charges (CAM) when appropriate, normally also including utilities, real estate insurance and real estate taxes. Occupancy expense is important, usually at 6-8% of sales (if you’re lucky), but nowhere near the 30 points, give or take a few points, that make up both Cost of Goods and Labor. For this piece, suffice to say that occupancy expenses are trending higher, clearly not helping store level margins.

This discussion, however, is primarily meant to summarize restaurant executives’ expectation for revenues, cost of goods, and labor expense in 2017, which represent larger variables than occupancy expense. In that effort, we have excerpted the numbers presented below from the most recent corporate reports (including conference calls) from each of the companies shown below.

For context, over the last couple of years, while labor costs have marched consistently upward, commodity costs have reliably been a “partial offset”. At the same time, store level traffic has been challenged, which obviously puts store level margins at risk if one or both of these major line items increase as a percentage of sales. Very few restaurant companies have shown increases in traffic during 2016. Typically, it goes like this: Same store sales were up 2-3%, price and menu mix increases were 2-4%, so traffic was up (maybe 1%) or down (probably 1-3%). The labor percentage was up anywhere from 50-150 basis points, partially offset by commodity deflation of 25-100 basis points. The table above shows the commentary from nineteen publicly traded restaurant companies. You can see that the “good times” in the form of lower commodity costs seem to be behind us. Almost all the companies are looking for cost of goods to be flat or UP, rather than down.

You can also see that the labor percentage is often expected to be up by 3,4 or 5 percentage points, which would translate to 90-150 basis points of margin if the labor percentage is 30%. Suffice to say we are moving to the top of the previous range rather than the bottom.
Lastly, the table shows that comp sales expectations are (perhaps conservatively, perhaps not) estimated at 1-2% (higher at PNRA and TAST), and that implies continued traffic challenges since menu prices will generally be a couple of points higher.

Putting it all together, traffic and sales will be challenged, labor % will be up, probably by more than in ’16, commodity % will be “flattish”, less of an “offset” than in ’16. Occupancy expense, FWIW, won’t help either. For good measure, it will be difficult to raise prices at the store level, when grocery prices seem well controlled, which has no doubt helped to contribute to the sluggish store traffic we have been recently experiencing.

About the Author:
Roger Lipton is an investment professional with over 4 decades of experience specializing in chain restaurants and retailers, as well as macro-economic and monetary developments. After earning a BSME from R.P.I. and an MBA from Harvard, he began following the restaurant industry as well as the gold mining industry. While he originally followed companies such as Church’s Fried Chicken, Morrison’s Cafeterias and others, over the years he invested in companies such as Panera Bread and shorted companies such as Boston Chicken.

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Roger Lipton