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High labor and commodity costs, tight-fisted consumers portend a tough year

Expectations for foodservice sales growth in the year ahead aren’t just muted, but are downright alarming for some operators and industry analysts.

Reflecting near-universal apprehension, forecasts for the restaurant industry’s performance in 2008 are being dampened by constricted consumer spending, more pressures on profit from spiking labor and commodity costs and intensified competition for dining-out dollars.

While long-term growth prospects for operators and suppliers still are being bolstered by such larger trends as overall population growth, upticks in employment and disposable income and ever-increasing proportions of consumers’ food budgets being allocated to away-from-home meal options, 2008 nonetheless is expected to be tough on business.

Just like last year, consumers will remain pinched by energy prices and falling home values, and operators’ bottom lines will be constrained by rising costs and slowing sales.

It “looks and feels like a recession—yes, we said the ‘R’ word—for at least restaurant sales,” food-service securities analyst Andrew M. Barish at Banc of America Securities LLC said in a late December report to clients. “It has been clear that consumer demand across the entire restaurant sector has continued to weaken through the fourth quarter in all segments—high end, midtier casual and quick service—and will likely continue to be challenged through 2008.”

In an exclusive online poll of 167 Nation’s Restaurant News subscribers, 51.8 percent said they expect sales at their restaurants to improve from 2007 results, and 44.6 percent said they expect sales to be worse or about the same as last year’s. The remaining respondents did not make predictions.

The largest roadblocks to profitability this year, according to the survey, will be commodity costs, with 42.5 percent of respondents citing that factor, followed by 21.6 percent who blamed reduced customer traffic and 18.6 percent who pointed to inflated labor costs. Fewer than 10 percent cited utility costs, and about 10 percent of the respondents said they were not sure what would hit them the hardest.

To combat reduced traffic and increased costs,a 69.3-percent majority of the NRN survey respondents said they would increase menu prices in 2008, even over the increases many operators were forced to take last year to counter a 7.3-percent jump in wholesale food prices—the largest annual gain since 1980, according to data from the National Restaurant Association.

Menu prices in 2008 are expected to rise between 1 percent and 3 percent at the establishments of 30.7 percent of the NRN survey respondents.Another 31.9 percent expect to raise prices between 3 percent and 5 percent, while 6.7 percent of the respondents would increase menu prices by more than 5 percent.About 21 percent said they did not plan to raise prices, and about 10 percent said they were not sure if or how much they would increase prices.

The economic environment also has raised operators’ doubts about new-unit development plans,according to the NRN survey. About 35.4 percent of respondents said they were not yet sure if their expansion planning would change from previous expectations, while 33.5 percent said they would not change their development plans and 31.1 percent said they now intend to halt or slow their previously budgeted new-unit openings in 2008.

Other studies, including forecasts by the National Restaurant Association, expect the new year to echo the challenges operators faced in the past 12 months.

“Growth figures in 2008 will be similar to 2007,” said Hudson Riehle, senior vice president of research and information services for the Washington, D.C.-based NRA. “Despite the positive gains we expect, growth rates are down when compared to two to three years ago, mirroring the overall economic environment, which is softening.”

The economic backdrop that the NRA paints includes moderate growth in the national gross domestic product, which the association predicts will increase by 2.3 percent this year, compared with a 2.1-percent increase in 2007. Real disposable personal income is expected to remain steady, up 3.4 percent in 2008, though off from last year’s 3.6-percent growth rate. U.S. job growth is expected to slow, up just 0.9 percent this year, compared with a 1.3-percent jump in 2007.

The NRA predicts that total foodservice industry sales will grow 4.4 percent in 2008 to $558.32 billion. That encompasses sales in all sectors, including managed services, on-site foodservice, vending services and U.S. military restaurant services.When backing out the expected menu price inflation of 3.6 percent and factoring in an expected 1.1 percent increase to wholesale food prices, real growth in foodservice sales is expected to be 0.9 percent industrywide, about even with the NRA’s revised figure of 0.8 percent for real growth between 2006 and 2007. A year ago, the NRA had expected 2007 sales to increase at a 2.7-percent real growth rate, which ended up being far too bullish a projection.

The total number of foodservice locations in 2008 is expected to total 945,000, up about 1 percent from 2007. The similar forecasts for growth rates in new locations and sales suggest strongly that industry growth is coming from unit openings rather than same-store sales gains.

At eating-and-drinking places, including full-service, quick-service, cafeteria and snack outlets, the NRA forecast calls for sales to increase 4.4 percent, or 0.8 percent when adjusted for menu price inflation, to $393.19 billion this year. Most restaurant segments will post growth rates that hover around the 0.8 percent overall rate, heightening competition and favoring operators that take a bargain-pricing stance, the NRA says.

“Operators [that] offer a very good price-value relationship will have a leg up because cash on hand for consumers will be tighter,” Riehle said.

The industry already has seen the beginnings of new value battles, especially among quick-service burger chains. In a development reminiscent of the burger wars of the 1980s, McDonald’s, Burger King and Wendy’s all have been heavily promoting their versions of the 99-cent double cheeseburger. McDonald’s value-price mainstay has long been successful in driving traffic even as some franchisees lately have broken ranks and as much as doubled the price to counter food inflation.

Value also has been a buzzword of late in the casual-dining sector, with new marketing and promotions from such chains as Ruby Tuesday, Red Lobster and Applebee’s.

According to the NRA’s forecast, snack or nonalcoholic beverage bars, including such brands as Starbucks Coffee, Dunkin’ Donuts and Jamba Juice, are expected to post an inflation-adjusted growth rate of 3.2 percent, leading all commercial-restaurant sectors.

The NRA predicts that some sectors of the on-site foodservice market will record above-average growth rates. Colleges and universities, hospitals and nursing homes and primary and secondary schools are expected to post industry-leading real-growth rates of 4.7 percent, 3.8 percent and 3.2 percent, respectively, the association says.

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