Imagine a Wal-Mart … for burritos.

Commentary about business and finance.
Feb. 27 2006 5:51 PM

The Wal-Mart of Burritos

Why Chipotle and other restaurant chains are thriving.

The restaurant industry is notoriously difficult. Margins are narrow, competition is tough, and restaurant operators are frequently held hostage to rising prices for energy and commodities. (In this study, nearly 60 percent of restaurants in Columbus, Ohio, failed over a three-year period.) But as an investment, restaurants are doing better than ever. Chipotle, which was spun out of McDonald's, went public in January at $22 a share and essentially doubled the first day. It has since tacked on a couple of points. Earlier this month, Morton's served up a juicy public offering. Several well-known eateries are on the IPO runway: Burger King filed for an IPO on Feb. 16. Donut chain Tim Horton's, a unit of Wendy's, will likely go public next month. Gordon Biersch, a 25-restaurant beer-and-fine-food chain, has likewise announced its intent to sell shares.

In theory, restaurants are a highly cyclical industry, dependent largely on discretionary spending. But in recent years, restaurants have grown faster than the economy as a whole. The National Restaurant Association forecasts that industry sales will rise 5.1 percent in 2006. Data from the Census Bureau shows that seasonally adjusted restaurant and bar sales have risen for eight straight months through January 2006.


There are many factors driving increased restaurant patronage. With people working longer hours and seeking greater convenience, taking out—or eating out—makes more sense. Time is money. And for many people, eating out can save time on cooking, cleaning, and shopping. The growth of a dining and food culture has also meant that the cost differential between restaurants and home cooking has narrowed, especially for Bobos who buy produce, meats, and precious specialty items at Whole Foods, Balducci's, and Trader Joe's.

More important, the restaurant industry has done a Wal-Mart. Through tight control of sourcing, a focus on logistics, and a firm rein on labor costs, it has managed to keep a lid on inflation. Yes, a Big Mac costs more than it used to. But virtually every fast-food joint still has a 99-cent menu. And it's not just fast food that's cheap. As noted in this space in 2004, between 1982 and 2004, according to figures provided by the ever-expanding Zagat survey, the average cost at the same restaurant rose from $29.23 to $50.32, a 2.62 percent annual rate—substantially below the rate of inflation in that period.

Restaurant stocks are the ultimate story stocks—investors buy into a concept and hope. In the 1990s, many of these stories ended badly. Planet Hollywood's stock opened big but ended up a horror show. Another 1990s high-flyer, Boston Market, went bankrupt in 1998. It's still around but is now owned by McDonald's.

But publicly held restaurant companies seem to be better-managed than they were a decade ago. Trendy restaurant stocks like P.F. Chang's and the Cheesecake Factory have proved to be quite durable. (Here's a five-year chart of P.F. Chang's and the Cheesecake Factory against the S&P 500.) And many of these new IPOs aren't startups. Burger King, with 11,000 outlets and seven straight quarters of growth, has been around for more than half a century. Chipotle, a 13-year-old, 480-store chain, has clearly benefited from being a part of the McDonald's empire. For the first nine months of 2005, it had net income of about $33 million on sales of $452 million.

Then there's the John Dos Passos explanation. Just as there are two Americas shopping, there are two Americas dining. Former vice-presidential candidate John Edwards may celebrate his anniversary at Wendy's, but most well-heeled Americans prefer a better grade of beef. Corporations and the rich are doing exceedingly well in George W. Bush's America. And so, too, are the places that cater to them. With Lipitor widely available, that means steak. Two of the recent restaurant offerings are from fancy steakhouse chains. Last August, Ruth's Chris IPO was the appetizer for Morton's entree. According to the 2006 New York Zagat Guide,at Morton's the cost of dinner for one, with one drink and a tip, is $65; at Ruth's Chris it's $60.

Of course, with median incomes stagnant, the masses are constantly on the lookout for cheap food to fill their stomachs. And for the price of a few shrimp at Morton's, a debt-ridden twentysomething can gorge on a gut-busting burrito at Chipotle ($11 for dinner in the 2006 New York Zagat), or on several Whoppers at Burger King.



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