Growth and gripes in Gotham

Growth and gripes in Gotham

New York City restaurateurs are factoring an increasingly significant variable into their marketplace mathematics. Where once strong sales minus increased costs and fierce competition equaled uncertain margins, today municipal regulatory fervor is adding a new level of complication to the calculation.

Over the past year, New York City officials have lined up the foodservice industry in their crosshairs by mandating menu labeling for some operators, eliminating trans fats from restaurants, intensifying the inspection process and making it more difficult to obtain liquor licenses and sidewalk dining permits.

“This has been a particularly difficult year,” says Chuck Hunt, executive vice president of the New York City Chapter of the New York State Restaurant Association [3]. “It’s almost like the city government is trying to decrease the number of establishments by discouraging people from opening new ones.”

Even the busiest restaurants are finding it more difficult to earn a meager profit, Hunt says.

“Restaurateurs as a group generally have a strong sense of optimism,” he says, “but even that’s been seriously challenged.”

Over the past several years, New York operators have learned to adjust to the give-and-take dynamics of an expanding local economy offset by unrelenting competitive pressures and the mounting costs of ingredients, labor, energy, real estate and insurance.

But stepped-up regulatory pressure from the city has given even many of the most experienced operators new hurdles to overcome. In July a ban on the use of partially hydrogenated vegetable oil containing trans fats was enacted across the city, requiring operators to switch to other—sometimes more costly—substitutes.

In addition, a nationally publicized rodent infestation at a KFC [4]/Taco Bell [5] outlet in Manhattan prompted an embarrassed city health department to embark on a rigorous inspection crackdown that led to the temporary closing of hundreds of restaurants and the levying of steep fines aimed more at “revenue generation than correcting food safety problems,” Hunt says.

Calling the rat incident an aberration, he accused the health department of launching a blitz, saying: “They were penalizing operators for conditions that had never been cited in previous inspections and minor items that drove up the point score, demanding mandatory inspections that could have been avoided.”

Meanwhile, the New York City Department of Consumer Affairs has been denying renewals for sidewalk cafe permits to restaurateurs who might have been only minor shareholders in ventures that went out of business and left unpaid fines. Those operators have been forced to spend money on legal fees and required to pay all outstanding fines to renew their permits.

A growing number of operators also have been turned down for new or renewed liquor licenses because of resistance from powerful community boards seeking to limit the number of restaurants in their neighborhoods.

“City officials concerned with votes are heeding [the community boards’] recommendations,” Hunt says.

But even more dramatic has been health commissioner Dr. Thomas Frieden’s campaign to mandate menu labeling at some restaurants throughout the city, characterizing it as an effort to address the obesity problem. A citywide regulation passed in December 2006 was slated to take effect in July 2007 requiring that operators already offering calorie content on the Internet, food wrappers, tray liners or in brochures also must list it on their menu boards and menus.

However, the regulation was challenged in court last summer by the New York State Restaurant Association and subsequently struck down in September by a U.S. District [6] Court judge who ruled that the health department lacked the authority to impose such a policy.

Following the initial setback, the city vowed to recraft the regulation and introduced a second version in late October. The new iteration now requires all chain restaurants operating in New York that have 15 or more outlets nationwide to post the calorie content information on menus and menu boards. Health department officials estimate it will affect about 10 percent of the city’s approximately 23,000 restaurants. The NYSRA has not indicated whether it will challenge the new proposal in court.

Meanwhile, Hunt is not optimistic about the near-term rapport between the city and its restaurant community.

“We have a health commissioner who is trying to do social engineering,” he says. “I predict more of the same until [Mayor Michael] Bloomberg and his crowd disappear into the sunset.”

But while observers characterize the regulatory forecast for New York’s foodservice industry as being generally cloudy, operators nevertheless predict that the city’s business climate will remain bright, at least throughout the remainder of the year. Nick Valenti, chief executive of Patina [7] Restaurant Group, which recently purchased the eight-unit New York-based Smith & Wollensky [8] steakhouse chain, is upbeat about the city’s economic picture.

“Business is as strong as it’s ever been,” Valenti says. “Tourism is strong, hotel occupancy is strong. In spite of the news about subprime-mortgage problems and the weak housing market, it doesn’t appear that New York is suffering.”

Malcolm Knapp, president of Malcolm M. Knapp Inc., a New York-based foodservice consulting firm, says the city’s financial services, investment banks, law offices and corporations are having a good year. Financial services alone account for more than 35 percent of the city’s employment income, according to one source.

“Enormous deals were done in the first half of the year, so that means bonuses will be big,” Knapp says. “That bodes well for fine-dining restaurants in the city.”

It also means that holiday party business should be lively. Valenti said bookings at Patina’s restaurants “are strong right through the end of the year.”

Wally Ganzi Jr., chairman and chief executive of the Palm Management Group, which operates three steakhouses in New York and plans to open a fourth next year, agrees.

“Our bookings for private-party business through the end of the year are up 25 percent over last year,” he says.

Gary Levy, a partner at J.H. Cohn in charge of the public accounting and consulting firm’s hospitality division, says that despite the recent “doom and gloom in economic headlines, the [restaurant] industry is getting stronger.”

“I’d say I was cautiously optimistic,” he says. “The weather has been nothing but spectacular, and hotel occupancy rates are strong.”

Levy, whose company works with some of the top restaurants in New York, assessed the city’s economic picture generally as being vibrant, adding that many of his upscale clients are enjoying strong same-store sales increases.

He did acknowledge, though, that not all operators are doing quite as well in terms of sales. But many of those are located in the suburbs and are suffering from the same thing chains are suffering from—too much competition, he says.

While New York remains a global hub of international business and commerce, it also is a prime tourist destination for both international and domestic travelers—an important driver of top-line restaurant sales. Contributing to that is the fact that the city continues to be a safer and cleaner place in which to live and visit. Crime is down, according to the 2007 Mayor’s Management Report. Major felony crime decreased for the 16th consecutive fiscal year, falling by 5 percent from fiscal 2006. Based on FBI crime statistics, New York is the safest large city with the lowest crime rate among the 10 largest U.S. cities.

The streets also are the cleanest they’ve been in 33 years, the Mayor’s report says. For the third year in a row, the annual rating of acceptable street cleanliness exceeded 90 percent.

The weakness of the U.S. dollar as measured against other currencies also is contributing to New York’s tourism boom. The British pound, for example, is worth more than $2 in U.S. currency.

“The dollar is down,” Knapp says, “so if you’re coming from England, everything appears to be half-price. [International travelers] are spending here, and that’s good for the New York economy.”

At the same time, the cheaper dollar is keeping many domestic travelers here in the United States.

International and domestic tourism to New York generated $24.7 billion in spending in 2006, of which $5.8 billion, or 23 percent, was spent on food and beverages. Visitors spent another $5.45 billion, or 22 percent, on lodging.

Those numbers are expected to rise this year. According to NYC & Co., the city’s convention and visitors bureau, the preliminary forecast for all international arrivals in 2007 ranges from 7.6 million to 8 million visitors, which reflects a potential growth of 5 percent to 11 percent over last year’s total of 7.25 million arrivals.

International visitation accounts for about 17 percent of all trips to New York but generates more than half of all spending. In 2006, for instance, international visitors spent $12.37 billion of the $24.7 billion total.

Domestic arrivals into New York are expected to climb to an estimated 38 million in 2007, a 4-percent increase over the 36.5 million in 2006.

Overall, as many as 46 million people could come to New York this year, according to NYC & Co., reflecting a 5-percent increase over the 43.8 million who visited last year.

New York hotels also are having a banner year. John Fox, senior vice president for PKF Consulting, a hotel advisory firm based in New York, said city hotels are experiencing “a very strong year continuing into the fall, with record rates and close to record occupancy.”

While a few new properties like 6 Columbus, a boutique hotel on Columbus Circle, have opened this year, Fox says there is a “relatively static supply, which also helps with occupancy.”

Fox said occupancy through the first eight months of the year ended in August was 86 percent, up over last year’s figure of 84.5 percent.

Room rates also are up, he says. The average hotel room rate for the first eight months of 2007 was $269.06, a hike of 12.8 percent over last year’s figure of $238.54. Fox attributes the healthy increase to higher occupancies, which mean hoteliers don’t have to offer discounts for groups or compete with other properties.

The number of hotel rooms is expected to surge again next year when about 5,000 new rooms are added to the market. Another 3,000 to 5,000 rooms are scheduled to follow that in 2009 and 2010, he says.

The strong hotel market is benefiting chefs and restaurateurs, too. Hoteliers looking to anchor their properties with top-rated restaurants increasingly are turning to top operators. The biggest hotel-restaurant deal of 2007 was the high-ticket sale of Stephen Hanson’s New York-based multiunit company B.R. Guest Inc. [9] to Barry Sternlicht’s Starwood Capital Group for $150 million.

Hanson, who is a 50-50 partner in the new venture, says he anticipates expanding the company from its current 16 locations to between 60 and 80 over the next two years. Hanson said that in addition to opening new restaurants in Sternlicht’s hotels, he is in the market to acquire other high-end dining groups.

The latest Zagat Survey of New York City Restaurants also indicates that the New York marketplace has been performing well over the past year. Tim Zagat, publisher of the popular guidebooks, observes that business has been “booming.”

“Now that doesn’t mean it will continue to boom,” he says, “but up until now it has been extremely strong.”

He points out that 56 percent of the nearly 35,000 diners surveyed for the 2008 report are spending more than in the prior year, versus only 6 percent who said they were spending less. Zagat notes that the cost for the average meal in the new Zagat survey remained relatively flat, rising only 3 cents, or a modest 0.1 percent, to $39.46. However, the average tab at the city’s 20 most expensive restaurants jumped 11.1 percent to $143.06.

“The very high-end restaurants have had substantially higher inflation,” he says.

On the other hand, the guide seems to bear out the observation that competition continues to grow more intense. The guide recorded 234 notable restaurant openings over the past year compared with 88 closings.

“That’s a strong year,” Zagat says.

At the same time, Zagat survey numbers seem to show in microcosm that restaurants are competing for fewer dining-out occasions. Zagat surveyors slowed their dining-out frequency last year, reporting that they ate out 3.3 times each week, down from 3.4 times a week in the two previous years.

Competition is particularly stiff in the exploding high-end steakhouse sector.

“I find it kind of amazing that in an era when people think eating steak isn’t very healthy, you still see more and more steakhouses open,” Zagat says. “I think we list nearly 100 steakhouses [in the New York guide] now, and not so long ago that number was only 25.”

Over the past several years diners have seen a herd of steakhouses stampede into Manhattan, including the Kobe Club [10], STK, Quality Meats, Wolfgang’s Steakhouse, Porter House, BLT Prime [11] and Craftsteak [12].

Drew Nieporent, president of Myriad Restaurant Group [13], which operates such fine-dining restaurants as Nobu, Tribeca Grill [14] and Centrico, also observes: “There are a lot more participants in the steakhouse market. I don’t see how all of them will make it.”

The Palm’s Ganzi concurs, but notes that the crowded steakhouse market is not a particularly new phenomenon either.

“Back in the 1950s and ‘60s, there were 32 steak-houses in a two-square-block area where the [first] Palm is today—from Second Avenue to Lexington Avenue and between 43rd and 45th streets,” he says. “They called it ‘steak row.’ Most of them are gone today, but we’re still there.”

Nevertheless, he marvels that competition appears to be even more intense today than it was in the ‘50s and ‘60s.

“It’s not an unlimited market,” Ganzi says. “There are only so many people who can afford to pay a premium price for steak, and the continued openings also have created a tremendous pressure on the price of Prime beef. A lot of restaurants have raised their prices, but there comes a time when you can price yourself right out of the market.”

He says sales are up in two of the Palm’s New York steakhouses and business is flat at the third.

While Ganzi also believes a steakhouse shakeout is imminent, he maintains that opportunities still exist for new restaurants. The Palm [15] is planning to open a fourth New York outlet in the Financial District in 2008, in anticipation of a downtown resurgence.

Andrew Mandell, a managing broker with Ripco Real Estate in New York, notes that business is indeed returning to the Financial District, following several years of post-9/11 drought.

“It’s not just offices, although those are coming back,” he says. “The residential component is starting to evolve, and it’s leading to fresh openings downtown. I have a sense that the nightlife is coming back.”

In the meantime, real estate continues to be a challenge for many New York restaurateurs. Mandell estimates that rent in midtown Manhattan has risen from about $55 per square foot in 2003 to more than $100 per square foot today.

“Clearly, real estate is expensive in New York City, and restaurants must be well-capitalized,” he says. “But the volume [a restaurant] can generate in Midtown is enormous. Many restaurants that are successful are up in the double-digit millions in terms of volume.”

At the same time, he says, “new areas of the city have been developing and presenting opportunities for restaurants that were not available previously.”

Mandell cites evolving Manhattan neighborhoods like the Lower East Side, Clinton and Harlem.

“There is so much development in Harlem, and it continues to be underserved when it comes to restaurants,” he says.

The borough of Brooklyn also has emerged as an important restaurant destination.

“Brooklyn is getting stronger and stronger,” Zagat says. “Five or 10 years ago, we didn’t have 30 Brooklyn restaurants in the guide. Today there are 185—including three of the [city’s] top 20. There are a lot of very good restaurants there that cost a whole lot less than the good restaurants in Manhattan.”

Not all restaurateurs are interested in pursuing business opportunities off the island of Manhattan, though. Nieporent says he has “zero desire” to open a new restaurant in Brooklyn.

“I’d rather just get more people to come to Tribeca,” he says.

While New York’s fine-dining community largely appears to be prospering, dinnerhouses in the area also have had a reasonably good year. Knapp, who tracks casual dinnerhouse chains around the country, says comparable-store sales are up 0.3 percent for chains in the New York area year-to-date through the first eight months of 2007. Total sales for New York increased 5.2 percent for the same period.

By comparison, comparable-store sales for dinner-houses across the entire United States were down 0.6 percent year-to-date for the eight-month period ended in August. Total sales for that period rose 5.1 percent.

“The [New York] area is just doing better,” Knapp says.

The positive sales momentum also is fueling dinnerhouse growth in the area. Zane Tankel, chairman and chief executive of Apple-Metro Inc., the operator of 27 Applebee’s [16], two Chevys Fresh Mex and one proprietary concept called Zanaro’s in Greater New York, says his company is gearing up for major expansion.

Apple-Metro, which is based in suburban Harrison, N.Y., just signed a lease to open a new Applebee’s location on Fordham Road in the Bronx and has plans to build another unit in the Astoria section of Queens.

Tankel says the company also is looking for opportunities in lower Manhattan in the Financial District.

“It’s not that real-estate prices are softening so much as people seem to be negotiating more than they have been,” he says.

However, the $130 million company also is looking to expand beyond its traditional New York marketplace. In August Apple-Metro hired Miguel Fernandez, formerly senior vice president of company operations for Applebee’s International [16] in Overland Park, Kan., to help the franchisee expand through the acquisition of corporate locations.

Early this year Applebee’s agreed to be acquired by IHOP Corp. [17] in Glendale, Calif., which said it would sell its 500-plus company outlets to franchisees. Fernandez, who was named executive vice president and chief operating officer of Apple-Metro, will guide the acquisition of additional Applebee’s locations, Tankel said. The franchisee—whose Times Square outlet is highest-grossing Applebee’s in the system—currently hopes to acquire former company-owned units in the Washington, D.C., area.