U.S. retail chains continue to face daunting challenges—everything from ferocious competition from ecommerce, to rapidly changing shopping habits, to the slow death of middle-market malls. While department stores and mall retailers tend to be synonymous with such struggles, the truth is that restaurant chains are affected by the changes, too.
Starting in 2018, a rash of bankruptcies in the restaurant business signaled the beginnings of a shakeout, with filings by RMH Franchise, Bertucci’s, Logan’s Roadhouse, Real Mex Restaurants, Noon Mediterranean, Romano’s Macaroni Grill, Scotty’s Brewhouse, Ruby’s Diner, Uncle Maddio’s, Red Restaurant Group, Gatti’s Pizza and Even Stevens, to name a few. Against this backdrop, some prognosticators are issuing dire warnings: The new book by James Beard Award-winning food journalist Kevin Alexander, "Burn the Ice: The American Culinary Revolution and Its End," asserts that the U.S. restaurant industry is on the cusp of a historic correction.
How can restaurants respond? To be sure, they must make every effort to stay relevant by looking hard at customer-facing factors such as menus, the dining experience and marketing and branding strategies (including social media). However, restaurant operators would also do well to take advantage of an often-overlooked point of leverage in strategic efforts to stay nimble—their real estate portfolios. By renegotiating leases, selling owned real estate and closing lagging locations, restaurateurs can dramatically improve their positions. For some operators, the right strategy here can mean the difference between surviving or becoming another victim of disruption.
Why Maximizing Real Estate is No Longer Optional
While real estate has always been important, it is arguably even more so today as a result of the way competitive pressures continue to mount. On this score, the effect of the Internet on restaurants is particularly interesting. After years of asserting that restaurants were “Internet proof,” some in the industry now worry that the rising popularity of GrubHub, Caviar and similar startups will, over time, significantly shrink the average ticket price at brick-and-mortar outlets. When Uber Eats delivers that meal, they reason, the customer cannot order an expensive bottle of wine or multiple rounds of pricey craft beer. Related questions include whether upscale restaurants will lose a significant number of customers to meal-kit startups such as Blue Apron and Hello Fresh, and whether restaurants will suffer as top grocers—names like Kroger, Publix, Whole Foods and Walmart—ramp up click-and-collect service and fresh-food delivery.
By renegotiating leases, selling owned real estate and closing lagging locations, restaurateurs can dramatically improve their positions.
On the demographics front, the ongoing shift away from casual dining and toward fast casual clearly poses additional challenges to larger-format restaurants located in or near regional malls. For decades, baby boomers took the family out to places like Red Lobster, Houlihan’s or Bertucci’s. Now the oldest boomers are starting to retire. Those on fixed incomes will undoubtedly make fewer restaurant trips in the years ahead, and their kids are already hooked on fast-casual options like Chipotle Mexican Grill. The casual-dining sector, in other words, is vulnerable. These operators—and, indeed, any restaurant chains with locations in and around lagging “B” and ‘”C” malls—need to carefully scrutinize their leases with a view toward ferreting out waste and maximizing productivity. In various markets around the country, legacy restaurant operators continue to pay rents that were appropriate for another era but that are now clearly above-market. Given the dynamics outlined above, they cannot afford to have such costs on the books.
But renegotiating leases isn’t just about haggling for rent relief or shrinking your store footprint. These days, we are seeing massive channel blurring as more non-retail tenants—everything from banks to health clubs to cellphone stores—add cafés, bars and other F&B offerings. In some cases, these new uses are eroding the traffic and sales of existing restaurants, bars and cafés on the property. Imagine a situation in which a center’s major office tenant opens a cafeteria that sells employees sub sandwiches, salads, pizza, coffee, ice cream and more. Clearly, that office operator could be violating the lease exclusives of several tenants at the center. Restaurants should do everything possible to uncover such situations prior to their next lease renewal. If they cannot eliminate that competing use, the information could at least give them some additional leverage with the landlord during the renegotiation. And of course, any vacancies by major tenants also could give the restaurant operator more options thanks to protective clauses in the lease. Be sure you understand exactly what options are available to you in those previously negotiated documents.
When the time does come to negotiate with the landlord, restaurant operators also need to be armed with more facts than they might have acquired back during the go-go years. That means securing reliable data on comparable rents in the trade area, changes in traffic patterns, demographic shifts in the marketplace and more. If a lease truly does need to be changed, you want to be able to illustrate exactly why in clear and certain terms.
The Upside of Shuttering Locations
Experts in commercial real estate tend to feel frustrated by headlines that equate closing a few stores with being in dire trouble. Starbucks Coffee has nearly 30,000 stores globally. If Starbucks closes 100 or 200 locations in a given year, this is hardly a sign of trouble, and yet one recent news article suggested precisely that. In fact, shuttering underperforming locations is a smart way to keep a portfolio strong.
Any restaurant chains with locations in and around lagging 'B' and ‘C' malls—need to carefully scrutinize their leases with a view toward ferreting out waste and maximizing productivity.
When restaurant chains own their own real estate, an effective strategy often involves working with a third party to find a solid replacement tenant for that location prior to putting it on the market. Yes, this is a capital-intensive process, but it is often well worth the investment, and real estate advisors typically can offer money to bridge any funding gap and make the sale happen. These third-party firms also know how to pound the pavement to find suitable replacement tenants—including nonretail operators like medical and dental offices.
Real estate advisors also can help restaurant companies market any locations they happen to have for sale. Principals in these firms know how to properly advertise these deals; they meet with restaurants’ competitors to assess the level of interest in leasing or buying; and speak with community stakeholders, including economic development officials, city council members and/or the mayor, to turn up promising leads.
Flexibility Is the Key
Doom-and-gloom headlines tend to suggest that today’s restaurant operators are out of options. In fact, creative approaches to real estate can yield a surprising amount of flexibility. Shuttering underperforming locations can give you dramatically more money to reinvest in your best units. When those best locations then become even more productive, the newly available cash creates further options still.
Likewise, renegotiating leases can result in shorter-term commitments that give you more and better options down the line—to relocate the unit or shrink or even expand footprints as needed. Regardless of how you approach your real estate, it is important to avoid inaction in the face of looming challenges. Hesitation can be fatal in today’s environment. Settle on the strategy that makes the most sense for your company—and take decisive action.