Challenges and Opportunities Facing Restaurant Franchises

Although inflation is a concern across the industry, restaurant franchise operators are still looking for investment and growth opportunities, TD Bank survey finds

If you’ve visited your favorite restaurant franchise in the past few months, you’ve probably noticed a few changes. Maybe the owner has remodeled the interior or updated the décor. Perhaps new technology has been introduced for digital payments. Maybe they’ve even narrowed down the menu and removed some of your go-to dishes.

 

These changes are quickly becoming table stakes in the industry. Nearly 60% of restaurant franchise owners are feeling a significant business impact from challenges around labor shortages, supply chain disruptions and rising interest rates, according to a survey* conducted by TD Bank, at the 2022 Restaurant Finance and Development Conference in Las Vegas, Nevada.

 

The reality is that most restaurants went through a major business shift in response to the pandemic, with an increase in demand for delivery and takeout options. As customers return to their pre-pandemic routines, restaurants will undergo another fundamental shift in dine-in options.

 

The pressure facing restaurant franchise operators to remain competitive is immense. Challenges from inflation and labor are creating compressed margins, while more investment is required to keep pace with consumer demand for digital, delivery and ever better in-store experiences.

 

As consumers’ expectations evolve and the economic landscape continues to shift, the changes we’re seeing today are a leading indicator of what is to come. As we look ahead to second half of 2023, brands with solid digital and delivery programs and up-to-date facilities will have a distinct advantage.

 

The resiliency of the restaurant franchise industry should not be underestimated – for those operators willing to think outside of the box, there is immense opportunity.

 

Investing for Growth

 

Despite concerns around inflation and the economy broadly, the survey revealed that restaurant franchise operators are eager to invest in the right opportunities and capitalize on the changing climate.

 

In particular, operators who are financially liquid with a low balance sheet are well positioned to grab significant market share. These operators have leverage to make acquisitions, finance further development, improve operations, and invest in other enhancements that are attractive to consumers and set them apart from peers.

 

Increases in interest rates have changed the investment parameters for those looking to get a return – the financing decisions that made sense a year ago may not apply today or may need to be reassessed. Restaurants with weaker liquidity positions will need to be clever and resourceful with their finances, making the customer experience a top priority.

 

Technology Driving the Top Line

 

Technology has become a key investment for restaurant franchise operators. Streamlining processes and automating operations can require a big upfront investment, but the benefits far outweigh the initial costs in terms of exceeding customer expectations, market differentiation, and critical labor and operational cost savings.

 

The survey results revealed that in the coming year, 38% of operators plan to invest in in-store technology such as a new POS and digital signage. And 16% of respondents reported that their restaurant franchise plans to invest in alternative payment methods for speed and convenience.

 

In terms of top line growth, digital delivery is now an inescapable aspect of running a restaurant. Unsurprisingly, 37% of restaurant franchise operators plan to invest in mobile ordering, and an additional 23% plan to invest in delivery service of some kind. Digital delivery is quickly becoming a requirement for restaurant franchise operators – if they’re not delivering, they’re losing customers to someone who is.

 

Opportunities to Cut Costs

 

The two largest expenses for restaurant franchise operators are occupancy and labor costs. Changing locations is a long-term solution, making labor optimization critical. Investing in software that automates team management aspects such as schedule optimization may be worth a serious look, especially in locations that require predictive scheduling.

 

Menu simplification is another cost reduction opportunity. Conducting regular menu reviews is key to identifying items that are complicated, take too long to prepare, require special handling, or are ordered less frequently. Similarly, negotiating lower prices with suppliers can generate a surprising amount of savings. Although the general expectation is that commodities inflation will ease in 2023 and into 2024, it will take time before price decreases are realized on P&Ls.

 

In the quick service restaurant space, a growing de-emphasis on dining room service has the potential to significantly reduce labor costs. For the right brand, eliminating the dining room eliminates customer bathrooms, trash pickup and loitering as well as the employee labor required to manage these issues. On top of that, drive-thrus are highly profitable given the efficiency and minimal labor requirements, which may become more profitable with the recent development and testing of AI-driven ordering. While still in early stages, there is a considerable amount of time, capital, and effort being put into this development.

 

Changing Mindsets About Employees

 

When asked to describe the current labor market, an overwhelming 69% of survey respondents reported a decrease in labor quality and availability due to the current macro environment.

To address labor quality and availability, operators need to think beyond hourly pay. Employees now have different expectations: they want flexibility, they want to see value in their work, and they want to know they’ll be appreciated and treated well. Employers need to make the complete job package enticing to attract and retain employees.

 

The shift in employee sentiment combined with the tight labor market puts pressure on employers. In many cases, operators will need to adjust their entire approach to employment to stay competitive.

 

Investing in the Brand

As competition continues to increase from aggressive growth of existing brands, as well as a record number of new entrants, investing in the physical space is crucial. Customers quickly make up their minds on whether they like a physical space. Keeping the restaurant clean, neat, and up to date is a critical aspect to bringing in repeat customers.

 

For independent and fast casual operators, protecting and nurturing the brand is non-negotiable. These establishments are woven into the fabric of their communities. Staying true to the brand ethos that operators have built with consumers over the years is vital – consumers respond positively to the brands that they know and love.

 

In the aftermath of the pandemic, nearly 10% of restaurants closed nationwide. There is plenty of opportunity for those that are left to expand and take market share if they’re willing to invest in the right aspects of the business and stay ahead of consumers’ changing expectations.

 

*Survey Methodology: This study was conducted at the 2022 Restaurant Finance and Development Conference held in Las Vegas, Nevada from November 14-16, 2022. A total of 300 restaurant franchise operators and finance industry professionals were polled.

By Mark Wasilefsky

Mark Wasilefsky is the head of TD Bank’s Restaurant Franchise Group, with a combined tenure of more than 20 years in both investment and commercial banking, and six years of experience as director of corporate finance for two Fortune 500 Companies.