The American restaurant consumer: resilient yet selective

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Q3 earnings were mixed as the consumer became more bifurcated, and guidance remains a challenge.

Now that most public companies have reported Q3 results, we have a stronger pulse on the state of the restaurant consumer amid a continuously uncertain backdrop.

Or do we?

As we’ve been reporting for about a year now, the state of the consumer has been puzzling, even for the savviest economists. We started to see some trade down activity happening in the fourth quarter of last year, but it didn’t grow much beyond a ripple as industry sales and traffic remained steady and, in some instances, strong. That began to change in Q3, when pricing fatigue finally set in, leading to sharp traffic erosion. The restaurant industry hasn’t been the only sector impacted by relentlessly high inflation; retail has also taken a pretty big hit. That said, consumers have continued to show their willingness to spend at restaurants and elsewhere, and the U.S. gross domestic product grew at a staggering rate of nearly 5% last quarter.

This inconsistency was front and center during Q3 calls, in which BJ’s Restaurants CEO Greg Levin, noted, “We’re all trying to decipher different things.” Or, as Darden Restaurants’ CFO Raj Vennam summed up, “There’s been mixed data on the consumer.”

In other words, things remain puzzling, and guidance is, therefore, hard to come by. What we know now is consumers are more discretionary. Except for high income consumers in some – but not all – instances.

“Consumers continue to be resilient but more selective,” according to Darden CEO Rick Cardenas. Cardenas’ casual dining peer John Peyton, CEO of Dine Brands, also said guests have become more selective about where they choose to spend their money, adding that it’s a “price sensitive environment.” However, sales remain steady. In any normal environment, this wouldn’t add up so tidily, but this is no normal environment. Peyton believes that works in his company’s – and the industry’s – favor.

“We believe eating out continues to be an occasion guests value,” he said.

Notably, “eating out” doesn’t necessarily mean sit down service. Just take a look at the strong results from Chipotle or Starbucks, for instance.

“It’s clear we’re navigating the uncertain economies and markets around the world. Customer demand for us remains strong. We’re not really seeing any change in the sentiment in our customer base at this time,” Starbucks CEO Laxman Narasimhan said during his company’s call.

Not every report was so rosy, and we witnessed plenty of sales and transaction declines. Of course, this industry isn’t homogenous, and one explanation is an increasingly bifurcated consumer and how that impacts certain brands differently. As the Washington Post reported recently, wealthier consumers are still spending a lot, while lower-income consumers are pulling back. Starbucks and Chipotle tend to attract higher income consumers. Potbelly is another example, as CEO Bob Wright noted during his company’s positive report.

“Our consumer seems to be hanging in there really well. They’ve got the income to support it. The most revised numbers suggest the consumer in this $75,000-plus range has not been impacted by pricing we’ve taken to offset inflation,” Wright said.

Brinker CEO Kevin Hochman added that his company continues to see spending across all households, but higher income households have grown wallet share faster, which provides more insulation.

“Look at the brands that have reversed some of that discounting trend and went to more of an everyday low-price strategy or everyday value strategy. You typically see the guests move to more middle income and higher income and, over time, you become a little less reliant on deep discounting because those guests, that doesn’t matter as much to them,” he said. “To have a more affluent customer base is always going to give you a little bit more insurance than one that’s not and I think we’re seeing that a little bit now.”

Wendy’s corroborated the $75,000 income as being sort of that threshold of impact.

“If you look at the consumer, it’s really a tale of two sides. The over $75,000 consumer tends to be healthy. We continue to see traffic growth in that segment,” CEO Todd Penegor said. “Under $75,000 consumers are a little more stressed. As you go down the income core, it gets even more stressed. We are seeing some trade down from mid-scale casual and sit down into QSR, but also some trade out of the category from lower-income consumers out of QSR and into food at home.”

Food at home may also be where McDonald’s lower-income consumers have shifted. CEO Chris Kempczinski acknowledged some “traffic slippage” with this cohort. As this trade-in-and-out environment becomes more defined, food at home could very well become a bigger competitive target, especially if brands maintain elevated pricing levels. This could be a sweet spot for the fast casual segment, as Wingstop CEO Michael Skipworth noted.

“In Q3, we saw a slight uptick in frequency with that low-income consumer and at the same time, we’re seeing that higher-income consumer potentially pull back on dining out occasions and dining at home more,” he said. “And we’re winning on those occasions as well … We’re acquiring more new guests than ever.”

There are anomalies all over the place and an example here is with Dine Brands, whose core consumer at a $50,000 to $75,000 income level hasn’t made “any significant changes,” according to Peyton. That said, check management is happening, with appetizer and alcohol mix a bit lower than in previous quarters, as reported by several casual dining chains.

What does any of this mean? That we’ll continue to scratch our heads at the unusual trends manifesting from a consumer set changed by a once-in-a-lifetime global health crisis, and that guidance will continue to be very hard to come by.

It’s worth noting that with all of these attempts to decipher the undecipherable, the past two quarters of earnings have spotlighted another theme – “normalization.” Things are normalizing after an unprecedented three years of shutdowns, labor shortages, supply chain pressures, inflation, etc. As such normalization applies to Q3, that means slower-than-usual seasonality because of back to school and other factors. This means, despite all of the uncertainty, Q4 could provide more reasons for optimism, and we may already be seeing that. Consider Bloomin’ Brands, which experienced same-store sales and transaction declines in Q3. CEO David Deno attributed his company’s softness in September to seasonality and remains optimistic about normalized seasonality coming into play in Q4.

“We feel good about November and December,” he said. “We think the consumer is in a decent spot.”

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