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Analysts: Prepare for higher food costs

Building guest traffic imperative should operating costs rise

As the economy shows signs of improvement and restaurant traffic begins to rebound, operators may face higher food costs in 2011 and will need to mitigate those increased expenses without hurting customer visits, industry analysts said last week.

John Glass, restaurant securities analyst for New York City-based financial services firm Morgan Stanley, said, “Just as we are beginning to finally emerge from a deep downturn in traffic and sales, we are beginning see the potential for rising costs.”

He spoke during a webinar held by Morgan Stanley and Chicago-based market research firm NPD Group entitled, “The Restaurateurs’ Dilemma: How Chains Will Keep Traffic Growing in 2011.”

“Restaurant brands are going to have to walk a delicate balancing act in 2011 to both keep profits growing as well as continuing to grow their traffic,” Glass said.

Warren Solochek, vice president for the foodservice group of NPD Group, added, “We’re clearly on the road to recovery … The key driver will continue to be unemployment. Until employment begins to improve, it’s going to be problematic for the industry as a whole.”

Facing anticipated food cost increases into 2011, bigger restaurant chains are better positioned to deal with the effects, Solochek said. Relationships and larger contracts with suppliers “will help [chains] to moderate what those costs are going to be and how they are going to pass them through to consumers.”

The industry took steps this year to drive traffic into positive territory in some cases and will need to continue pushing for more traffic.

Click here to view charts on what affects traffic and sales.

The NPD Group highlighted some bright spots and challenges for the restaurant industry as it relates to increased sales:

Parties with kids: “When the recession really took hold of the restaurant industry, we saw a lot of families pull back from using restaurants,” Solochek said. “Because of what particularly the larger pizza chains have done, they have been very effective at positioning their product as an inexpensive way to feed kids. We’re seeing a lot of positive movement back into the industry because of that.”

Breakfast: “The one real bright spot for this calendar year has been morning meals,” said Solochek. “This is a very good example of what operators are doing to drive interest.” New product activity and promotions have led to a positive trend, he said, with breakfast daypart sales up 1 percent in the early part of this year.

He cited Subway, with 21,000 U.S. units, which introduced a breakfast program that specifically enticed customers to make an extra visit to the chain. Meanwhile, Wendy’s is testing breakfast again, Panera Bread is implementing improvements in breakfast operations, and Taco Bell is experimenting with menus in the morning daypart.

Evening meals: “Supper will continue to be very problematic for the industry as a whole,” Solochek said. Consumers are cutting back on a lot of non-entrée products, such as beverages, side dishes and appetizers. “They are coming in and taking advantage of the promotional offer,” he said, “and not necessarily taking advantage of anything else on the menu.” A challenge for operators will be getting consumers to buy the higher-margin extra menu items, Solochek added.

Competition from convenience stores: “We’ll see an expansion of foodservice programs and an upgrade of foodservice programs for c-stores,” Solochek said. “Convenience stores are really very strong in morning and in the snacking-kind of dayparts. In 2011, that will be growing competition for a number of quick-service operators.”

Deal business: “The challenge operators will have in 2011 will be, ‘How do we get people to come back without offering something at a deep discount?’” Solochek said, suggesting that operators add a beverage or appetizer to deals and increase the price to get a higher average check.

Beverages: Products that give restaurant operators an advantage are ones they can’t get in a supermarket, such as smoothies and coffees. McDonald’s and a lot of other operators have focused on their beverage programs, Solochek said. NPD is finding that more consumers are using beverages as an afternoon snack purchase.

Contact Ron Ruggless and [email protected].

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