Restaurant Recession – Operators And Suppliers, Are You Ready?

One of my favorite Warren Buffet quotes is “you only find out who is swimming naked when the tide goes out”. If you listen to a growing group of industry analysts, economists and organizations like the National Restaurant Association – the tide has started to go out. A restaurant recession is being predicted through most of 2017 and it is being seen as the first signs of an economic downturn for the U.S. and global economies.

Knowing this, every restaurant owner and operator should be asking themselves if they are prepared to weather or even survive the “perfect storm” of conditions coming together to make the tail end of 2016 and right through the first half of 2018 life threatening. Where as restaurants, suppliers and wholesalers need to think about a plan of action to deal with decreasing sales and more foodservice customers unable to pay on time – very few are paying attention.

Restaurants have historically been a leading indicator of a greater recession showing signs 3-to-6-months prior to the start of the last three US recessions. Analysts say that the catalyst for the current trend is likely a combination of US politics, terrorism, social unrest and general economic uncertainty in the world. Are restaurant industry sales the “canary in the coal mine and the one that lays the recessionary egg”?

Just last month, I received a call from an old friend, who for 37 years had owned and operated 7 casual pubs successfully.  He called to tell me that the handwriting was on the walls and that because of decreasing sales, increasing food, liquor, labor, occupancy and insurance costs, he was throwing in the towel on his last three restaurants.  The final straw was the new increase in minimum wages. He said the numbers simply didn’t work any more. 

A number of notable restaurants decided that they could no longer deal with increasing costs, elevated rents, and impossible lease renewals like the venerable Four Seasons, which closed after 50+ years in operation. Other long standing restaurants like the Spice Market, Telepan, Empire Szechuan, La Parisienne Diner, WD-50, Alder and many, many more have felt the crush. How many more are not prepared for an economic downturn?

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In 1973, when I started in my first restaurant, I had to work my butt off to survive three years of quadrupling oil prices, which killed food costs and a 9% unemployment rate. I had an initiation by fire. Luckily, my rent was low and labor was a family affair and we did everything ourselves. Hits came again in the early 1990’s when I had seven restaurants operating, but I was well capitalized and well positioned. With a casual theme concept, favorable leases, low food costs and no need for high end culinary staffing we did well.  Many of my unprepared friends did not. 

When the “Great Recession” hit in 2008, I was no longer in the restaurant business but was providing financing to small businesses, most of which were restaurants.  It was a scary time as the financial world stopped dead.  The real estate bubble burst and access to home equity loans or mortgage refinancing ceased completely. My company, Strategic Funding, had small but adequate credit lines and decided to continue to fund those businesses that appeared to have what it took to survive. Operators that had recession resistant concepts, tenacity, sound financial management skills and favorable leases, received financing from Strategic despite 10% unemployment and a global economic meltdown.

Today many conditions are repeating this pattern. Michael O’Donnell, the chief executive of the parent company of Ruth’s Chris Steak House, told investors in late July that its a la carte dining business is struggling. Special occasion dining at steakhouses is not a priority for people concerned about their pocketbook.  The new modern twist is that people are getting more and more restaurant quality meals from food markets at a fraction of the price and eating at home. According to data from the Bureau of Labor Statistics, prices for “food at home” — grocery store prices — fell in July and have declined over the last 12 months. Meanwhile, the “food away from home” – restaurant – category has seen prices move in the opposite direction. How are you responding to that?

Newer and larger challenges have emerged. Calls for increasing wages to provide more livable income for workers is actually having a negative effect, particularly on our industry. A substantial portion of the U.S. population lives in states and regions where minimum wage increases are expected over the next few years – namely New York, Connecticut, Massachusetts, Maryland, the District of Columbia, Michigan, California,  and others. Blend this into the recessionary stew pot and you’ve got problems.

“Restaurants operate on thin margins with low profits per employee and little room to absorb added costs,” the National Restaurant Association said in a statement earlier this year in response to news that the Labor Department was aiming to expand overtime eligibility among U.S. workers. “More than doubling the current minimum salary threshold for exempt employees, while automatically increasing salary levels, will harm restaurants and the employer community at large.”

This is not a “Doomsday” article – this is a “wake up and smell the coffee” alert.  There are things that smart operators and their suppliers can do to prepare for a restaurant recession:

  • Keep your current spending under control and try to put away “rainy day” cash reserves. This is a time for good systems and controls and for vigilant purchasing practices. Keep all your variable costs tightly under control because every dollar you save will be there for you when sales slide and costs increase.
  • Establish positive relationships with your primary vendors. This partnership will ensure that both of you come out of the recession together.
  • Establish a relationship with a reputable financing company that will be able to provide you with instant funds if you need it. Our company has close to 20,000 current and former small business customers who can call in and get the funds they need, when they need them.
  • Suppliers, wholesalers and service companies should not take on more credit risk as the “tide goes out”. Remember, you are not in the financial services business, you supply the foodservice industry.  Establish a financing partnership with a professional well-capitalized company like Strategic Funding, which will provide the capital to your customers to keep them within your credit terms, with no additional risk to you.
  • If possible, restaurant operators should start talking to their landlords to see how cooperative they might be in an extended economic downturn.  It is better to test the water and discuss it before you are falling behind in your rent. They are not receptive when things are bad. If possible, build up and hold a cash reserve specifically for rent and insurance costs.

Whether you are a restaurateur or you supply them, being prepared for a restaurant recession will not only help you weather the storm, but you will be ready to take advantage of potential opportunities that present themselves in those times.  When I was in the restaurant business, this is when I would buy restaurants at a substantial discount. I picked up the best bargains from suppliers seeking to keep product moving and to sell inventory and equipment. Luckily, I can say I always did very well in down economies – I hope you will do so too.

David Sederholt
David Sederholt is a multi-discipline entrepreneur who has launched and built numerous companies in specialty finance, foodservice and commercial real estate over 40 years. After owning, financing and operating over a dozen restaurants in his career he found a niche in serving small businesses seeking financing and strategic advice. For 10 years he served as Chief Operating Office of Strategic Funding Source, Inc., (now called Kapitus). David has also been a Managing Partner at a boutique investment bank and a specialty commercial real estate firm. He is a regular guest lecturer and contributor to business and industry publications as well as serving as a Board member and advisor to numerous companies and non-profit organizations. He is currently owner of Ragnar Partners, LLC, a private investment and advisory firm.