A special presentation from Morningstar Management Behind the Moat Conference.
Investing Insights: How Does A Restaurant Carve Out A Moat?
[REITs]Q3 hedge fund letters, conference, scoops etc
Transcript
About a year ago we noticed that the conversation we were having a lot of the restaurant management teams we talked to both public and private were very similar to the conversations we had with retailers about 10 years ago or so. Yeah they’re facing delivery they have to do with mobile order and mobile payments. And so the same kind of conversations that we had and frankly there was a lot of confusion about how they go about it. Do we need to have a delivery program. Do we need to do these kind of things. Reminded us a lot of what we were hearing and since we’ve done a lot of work with the retail retailers over the past decade or so we thought we’d try to apply some of that to the restaurant space and really develop a new playbook for you as investors either public or private to analyze restaurant companies within. And I think that’s actually probably broader than that too. I think some of the lessons we’ll talk about today can be applied elsewhere in the consumer space. So it’s a starting point today. I want to highlight two ideas both of popped as of late in the third quarter earnings but we still think that they’re valid. Kind of a one to three year horizon idea and that’s McDonald’s. I think the idea here is this one is doing a lot of things right.
It dovetails a lot of themes we’ll talk about throughout the day in terms of technology and adding convenience and adding the most flexibility for consumers because that’s what they’re looking for at a concept like McDonald’s on top of a pretty healthy capital allocation plan. Almost a 3 percent yield right now. We get paid away. I think they don’t have a big 2019 with the experience of the Future initiative that they have the kiosk ordering. I think that’s going to benefit traffic midway through the next year and then even over a longer term horizon. I know they had a big quarter last week but Starbucks still has a name that’s pretty interesting to us. I think that they saw some issues to work out in the U.S. things that can be solved. There’s a tremendous China opportunity and they will be one of the more interesting CPG players in the coffee space as well. So we’re going to divide the presentation into two parts. The first is we’re going to do 10 predictions for the restaurant industry over the next call 2 to 3 years and then the second part I’ll transition into some of the questions you should be asking management teams in the restaurant industry and some of the key metrics that help you evaluate whether or not they’re adapting to what is a quickly evolving consumer environment. So the first prediction for the restaurant industry and I don’t know if anybody sat in on the General Mills presentation this morning but this kind of dovetails with it so far. If you look back the last two years in the in the grocery industry the big news was Amazon Whole Foods yet we really haven’t seen much of an impact from that integration at this point. However I think we’re starting to see just the early signs that grocery stores are getting more worried about that potential impact.
You know I think with Amazon bringing that Prime membership in the real world I think that was kind of the key lever here that now suddenly you know we might start to see some real impact from Amazon Whole Foods. And so we need to keep prices low and this is a chart that shows food away from home CPI and food at home CPI. You know right now it’s been pretty restaurants have been running at about the 2 3 percent inflation range. The blue bar on the top and then if you look at food and food at home which is the grocery store inflation that we’ve got pretty artificially low in 2017. But that sense kind of rally back but we see that little tail at the end here it’s starting to why now again. So I think if you look in the back half the year you’re going to see a lot of grocery store chains keep the prices low to keep the traffic they may have as a way to combat Amazon Whole Foods. The flipside of that that’s going to tell a lot of pressure on restaurant chains which are already suffering from you know tough traffic. They’re not going to much pricing opportunity they’re going to have to keep their prices low so I think even though we saw a pretty good third quarter out of Most restaurant chains I think you’re going to see a lot of pressure in terms of pricing and that’s going to keep comps in that you know 1 or 2 range for most chains even some of negative numbers on that because of that pricing pressure.
I think what we’re looking over the next five years is actually a contraction in the number of restaurant units that are out there. And in fact we’re projecting a low single digit decline in the number of units we saw the fast casual category growing about six point four percent over the next five years but that’s down from about 10 percent in the five years prior to that. And then if you look at traditional fast food and casual dining space we had those declining. I think it’s been very difficult for those small.
