It’s still too early to unravel the restaurant shakeout. COVID-19 closure estimates have spread from 110,000 (the National Restaurant Association) to a high-single digit end-game, as suggested by supplier Performance Foods. Darden CEO Gene Lee placed the figure in the 5–15 percent range.
Yet, just like in bottomed-out periods, such as April, this remains an uneven debate. Independents are likely to shoulder the burden and, in turn, bring forth conversion potential for larger chains, as well as fresh concepts and emerging, well-capitalized brands. While an unfortunate turn, it’s an undeniable one, and likely a significant aftershock of COVID-19 that will be felt for years to come.
One brand worth circling is Texas Roadhouse. BTIG analyst Peter Saleh believes the concept has the potential to increase long-term unit potential “by a few hundred restaurants, extending its growth trajectory by at least another decade.”
There are two dynamics at work for the steakhouse leader. Over the past several years, Texas Roadhouse migrated a small portion of its development into smaller markets with populations of 40,000 to 60,000.
Historically, the brand targeted what CEO Kent Taylor refers to as “medium-sized towns in America.” But six of its openings in 2020 sprung up in that smaller range, or roughly a third of its 2020 development. Taylor said in October a quarter of Bubba’s 33 openings in 2021 would be in less-dense markets, and 50 percent of its remaining Texas Roadhouse growth. There’s no urban development on deck, either. So a similar or slightly higher figure of small-market expansion is coming this year compared to last.
Taylor said previously these areas generate quick sales and aren’t hurt by the fact they’re in less-populated towns. Actually, the concept tends to attract customers from a wider geographic area, Saleh said, with many guests travelling 10–15 miles to dine at Texas Roadhouse.
When the brand drops in more rural trade areas, it immediately becomes a destination and employer of choice.
But there’s a COVID kicker at work, too. “We believe these smaller markets are less attractive to large chain competitors and mostly served by independent restaurant operators,” Saleh said.
“As we expect industry closures to be largely shouldered by independent operators this year, the current disruption could disproportionately impact smaller markets and create unit potential for well-capitalized operators,” he added.
A LOOK BACK AT THE COVID TRAIL:
Texas Roadhouse Reimagines Life in a COVID World (Q2 report)
Texas Roadhouse’s To-Go Sales are Up 575 Percent (Q1 report)
Texas Roadhouse as a company closed Q3 with 623 restaurants, including 493 company stores, 31 Bubba’s 33 units, 70 domestic franchises, 27 international franchises, and two corporate “other” spots. (Texas Roadhouse had two outlets of its fast casual, Jaggers, with another planned before the fiscal year ends).
Saleh said greater penetration in smaller markets, with the independents reality factored in, could lift Texas Roadhouse projections from 800 restaurants to as many as 1,000.
Today, there are 708 Outback Steakhouses (567 corporate) and 527 LongHorn Steakhouses. There is no 1,000-unit steakhouse in the country. There are only six full-service brands in America that closed 2019 above the four-digit mark—Waffle House, IHOP, Applebee’s, Denny’s, Chili’s, and Buffalo Wild Wings.
If Texas Roadhouse gets there, it will scale at 20–25 units per year for the next decade. The brand opened 13 company-owned stores through Q3 and said it expected to end the year with at least 20 new corporate locations. CFO Tonya Robin said Texas Roadhouse predicts as many as 10 openings for the first half of 2021, with a full-year goal of 30 company-owned stores for the year (spread across the portfolio).
The 1,000-unit figure isn’t as high-reaching as it might seem. It’s more a consistency target than a boom one.
In December, Texas Roadhouse appointed Jerry Morgan president, effective in January. Morgan is a 23-year company vet who joined Texas Roadhouse as managing partner of its first Texas location. He most recently served as regional market partner.
Taylor helmed the president role ever since Scott Colosi retired in June 2019. The potential hint here arrived courtesy of a comment Taylor made when Morgan was announced. “Going from three jobs to two, will allow me to focus my additional time, energy, and creativity on our future growth, such as establishing Bubba’s 33 and Jaggers as segment leaders and expanding our retail initiatives, including Butcher Shop and our new Margarita Mix,” he said. “I also want to expand our To-Go operations and have several other ideas that I think will propel Texas Roadhouse into the next decade.”
Morgan’s shift should take day-to-day duties off Taylor’s plate, Saleh said, and allow him to focus on Texas Roadhouse’s emerging concepts—Bubba’s 33 and Jaggers. While Jaggers is a more recent development in terms of expansion aims, Bubba’s 33 is a concept the company has touted for years.
Back in February during the company’s Q4 review, when things were somewhat normal in the restaurant world, Robinson said Bubba’s 33 stores appeared to be “getting the legs underneath them in their communities.”
There were 28 locations of the TV-laden sports chain at the time, which specializes in burgers, pizza, and wings, and identifies as a “family dining meets garage bar” restaurant. The branding comes from Taylor’s “Bubba” nickname. The first opened in May 2013 in Fayetteville, North Carolina.
In February, there were 18 Bubba’s 33s in Texas Roadhouse’s comps base (units open a full 18 months). And they reported same-store sales gains of 7.1 percent, year-over-year, in 2019.
Three opened that year. Before COVID, the company planned to bring as many as seven to market in 2020. One debuted in Q3 and three for the year.
Taylor said the concept produced positive comps in September and October, and was recovering nicely. Along with Texas Roadhouse, it also received a new mobile app with the ability to accept gift cards as a method of payment.
Reset into 2021, Taylor said Bubba’s 33 should represent 25 percent of the company’s store growth.
Saleh believes Bubba’s 33 could ultimately expand “to several hundred locations at a minimum.”
“In our view, one of the governors to growth for this concept has been the development cost, as sales volumes were similar to Texas Roadhouse and margins slightly higher given the alcohol mix,” Saleh said.
This is a topic with deep roots. From 2017–2019, the average capital investment for a Texas Roadhouse was $5.5 million, $5.2 million and $5.3 million, respectively. Bubba’s 33, meanwhile, required a capital investment of $6.7 million, $7.1 million and $6.1 million.
And so Texas Roadhouse got to work evaluating Bubba’s 33’s asset design and concepting a smaller unit.
Bubba’s range between 7,200–7,600 square feet and seat roughly 270 guests. That’s comparable to a Texas Roadhouse, which measures between 7,200–7,500 and holds 58–68 tables for 270–230 customers, plus 18 or so bar seats.
The company made some key changes to Bubba’s 33’s prototype, including removing the second service bar to reduce build costs. Coupled with the current retail landscape, Saleh said the dynamic is more favorable for unit development.
“As we have heard from several restaurant operators, landlords are providing more incentives and accommodations in today’s environment than they have previously,” Saleh said.
Add heightened restaurant closures into the fold and there’s “an opportune environment for growth of a new concept, backed by the resources and management expertise of a company like Texas Roadhouse,” he added.
There are other levers in play. As the economy normalizes, unemployment benefits expire, and restaurants open, Saleh predicts labor expense could moderate from the excesses of recent quarters. Labor expense increased by 7.6 percent annually from Q3 2017 through the end of 2019. And it was arguably the biggest and more frequent story Texas Roadhouse had to tackle with investors, since it’s always preached a full-staffing approach versus cutting back. A cost worth paying up for, in other terms.
Texas Roadhouse experienced more than 300 basis points of deleverage on labor expense over the four-year period Saleh referenced. He estimated this reduced earnings per share by nearly $1.
“That said, we believe that the supply of labor could outpace the demand over the coming years, as capacity is removed from the industry, at least in the near-term,” Saleh said. “While we don’t expect Texas Roadhouse to recover all 300 bps of headwind, we believe this line could be a source of leverage with moderate pricing and more meaningful traffic gains in the years ahead. “
Dressed down, fewer restaurants could have a benefit on the labor front. Just going back to Q4, labor as a percentage of total sales dropped 23 basis points to 33.1 percent at Texas Roadhouse. Labor dollars per store week hiked 5.4 percent, driven largely by wage and other inflation of about 4.2 percent and growth in hours of 0.6 percent.
While wage pressure isn’t likely to let up (it’s more likely to press further under a Joe Biden administration), Texas Roadhouse could find more willing employees as it looks to support new-unit growth. Especially in smaller markets and regarding unemployment figures seen during the pandemic
Roughly 20.6 million Americans were receiving some kind of jobless aid through November 28, 2020. About 885,000 people filed for unemployment for the first time the week ending December 12, 2020, the highest weekly number since early September.
The new stimulus bill provides jobless workers an additional $300 weekly boost to state-provided aid, as well as a $100 hike to people with wage and self-employment income, for 11 weeks through mid-March.
According to Black Box Intelligence, the number of restaurant jobs lost due to the pandemic remained at about 2.1 million employees during October and November. The weak labor market fueled an environment in which wage pressures softened for frontline team members in limited-service restaurants, the company said. Average hourly wages for limited-service frontline workers remained flat year-over-year at the national level during the Q3. Meanwhile, full-service cooks saw their average hourly wages increase rapidly, the company said.
“Back-of-house positions were harder to fill before the pandemic and now may require some additional pay to attract and retain the best talent,” Black Box said.
Also, as staffing levels were cut in full-service restaurants, those that remained were likely more seasoned and tenured cooks, which also contributed to average wages showing bigger increases.
Either way, it’s going to be a different labor pool in a few months.
This graph from BTIG below illustrates the potential.
In terms of performance itself, Texas Roadhouse has represented one of the sector’s best stories during COVID. This isn’t overly surprising considering its industry leading results heading into the crisis.
Here’s how sales have trended in recent months:
- Same-store sales: –13 percent
- Average weekly sales: $86,065
- To-go sales as a percentage of average weekly sales: 26.2 percent
- Same-store sales: –6.6 percent
- Average weekly sales: $93,849
- To-go sales as a percentage of average weekly sales: 23.6 percent
- Same-store sales: –0.5 percent
- Average weekly sales: $95,803
- To-go sales as a percentage of average weekly sales: 21.1 percent
All of Q3
- Same-store sales: –6.3 percent
- Average weekly sales: $92,213
- To-go sales as a percentage of average weekly sales: 23.3 percent
The brand’s Q3 comp pieced together as 3 percent check, about 2.5 percent pricing, and negative 9.3 percent traffic.
Naturally, Texas Roadhouse will probably witness some sales softness this current quarter as it deals with rolled back mandates in many markets. In October, about 98 percent of the chain’s restaurants were open with some type of dining room capacity. Robinson said 188 were at 100 percent capacity (which is more like 75–80 given what it takes to socially distant a dining room), or 32.5 percent of Texas Roadhouse’s portfolio. There were 111 at 75 percent and 23.4 percent at 50 percent.
And in September and October, more than half of Texas Roadhouse’s restaurants comped positive.
But the overall landscape is feeling the weight of Mother Nature and COVID case spikes. Industry same-store sales in November (per Knapp-Track) declined 22.6 percent, or 730 basis points, worse than October. Same-store sales in the three largest states experienced sequential deceleration with California declining 39.4 percent compared to 28.6 percent in October, while Texas fell 14.5 percent and Florida 17.1 percent versus 10.2 and 13.4 percent, respectively, in October.
“The retrenchment in sales trends is a result of reduced indoor dining capacity in many jurisdictions or outright closure of indoor dining similar to that in California. We expect this trend to worsen in December and continue into the new year, with few top-line catalysts for the industry until the spring,” Saleh said.
But don’t count Texas Roadhouse out.
“If you’d ask me in July, where we were negative $13 million and then you would have said, would you be positive in October? I would have said probably not,” Taylor said previously. “And here we were positive in October, which just basically tells me that our operators, as usual, are exceeding our expectations. So I can’t give you a solid answer [about December]. I just know that I keep being surprised by our operators, and I look forward to continue being surprised.”
Texas Roadhouse is positioning itself for brighter days. UCLA economists recently issued a forecast that predicted the U.S. would experience “a gloomy COVID winter and an exuberant vaccine spring,” followed by stellar growth for years to come.
The forecast, which assumed mass vaccination of Americans would take place by summer, predicted annualized growth in the nation’s gross domestic product would accelerate from 1.2 percent in the current quarter to 1.8 percent in Q1 of 2021, then to 6 percent in Q2 and 3 percent growth each quarter going into 2023.
So for restaurants that bridge the gap, there could be alluring pent-up demand on the other side. And Texas Roadhouse, for one, will be waiting.