As 2017 draws to a close, Tom Barnard, director of M&A at BDO talks to those operating and investing in the restaurant and bars sector to understand how they will reflect on the year, what opportunities and challenges they foresee ahead, and unavoidably, their views on Brexit. He speaks to Dan Stern, investment director at Piper Private Equity; Darrel Connell, partner at Imbiba; Duncan Stirling, co-founder of Inception Group; and Paul Hopper, founder of HOP Vietnamese.
2017 has been a fairly turbulent year in the restaurant & bar sector. what are your views on the key challenges facing the sector?
Paul Hopper: Overall, the market is quite saturated which is a real challenge in itself, the big question is how do you stay relevant amongst so much new competition?
Dan Stern: The challenges around cost inflation are well documented but we see the main challenge as the increase in supply that we have seen in casual dining.
Darrel Connell: Availability and retention of high performing labour, in particular chefs. I think we can all agree that the market is over saturated with “me –too” mid-market casual dining brands.
Duncan Stirling: We think recruitment in the sector is a big challenge for us. We would put this largely down to Brexit uncertainty. The new GDPR regulations are another challenge as it will impact how companies can use data.
Where do opportunities lie looking ahead to 2018?
Paul Hopper: We are seeing fresh, fun experiential based concepts really working. I also think there are great opportunities for well-funded and managed brands to take advantage of the real estate opportunities that are likely to become available over the next 12-18 months.
Darrel Connell: Operators who can provide value for money and can provide great experiences have the opportunity to thrive in the sector.
Duncan Stirling: The weakened pound has increased tourism and visitors into the UK spending money on F&B. The other big opportunity for us is site acquisition. Some operators have had tough trading periods and are closing sites, which is a shame; however, this presents opportunities for others.
Dan Stern: We think the big opportunities are in the more wet-led concepts, where there has been a decrease in supply. This is evidenced by Be at One’s strong LFLs throughout our investment. We are still very positive about making new investments and growing our existing ones. A tougher consumer and cost backdrop is discriminating more between good and bad operators and the property landscape will mean that some interesting sites will become available. If the banks stop lending that should also increase the demand for equity funding.
Darrel Connell: Innovative wet-led opportunities, pubs and bars appear more attractive from an M&A perspective than casual dining. The independent coffee market is also attractive, particularly concepts that can trade all day.
What is the secret to success in the current climate?
Paul Hopper: We are extremely analytical and focus on the small details. Understanding every line of your P&L is as fundamental as understanding your strategy. Volume and speed of service is key for us. Our focus is lunch times, which means that we need to sell in high volume and quickly. If you have a great product but you can’t get the throughput it’s not going to work.
Duncan Stirling: The key to our business is that the venues feel individual, personalised and have the feeling of being independent despite being part of a group. We have replicated a few of our brands but they are not at all ‘cookie cutter’ in terms of their look and feel.
How are you approaching and mitigating the much talked about “cost headwinds” facing the sector?
Paul Hopper: Managing supplier contracts and reducing supply chain costs where possible can make a big difference to the health of your business.
Darrel Connell: The key is to ensure that there is no dilution to the consumer experience when looking at cutting costs. We have re-engineered menus to ensure we’re hitting gross profit targets whilst not impacting the offering to the consumer
Dan Stern: It is a constant battle. You have to be smart, you can’t just put prices up in this market, you need to look at the design of your whole menu. We haven’t seen rents go down yet but there are positive signs, indicating new sites becoming available. Businesses need to get smarter with their rotas; and technology can help here.
Duncan Stirling: We’ve looked at our fixed costs and asked ‘what are we getting for our money?’, whether it’s negotiating with landlords or our suppliers. We have benefited from having a strong pipeline of openings which ensures that we’re still an appealing proposition, even if we have squeezed on costs.
Are you seeing technology disrupt the industry?
Paul Hopper: We’ve had a mixed experience with technology. Whilst we’ve found some technologies can’t be ignored, we’re not as convinced as some of our competitors. We dipped our toe into automated ordering with ‘cashless payments only’; however, customers didn’t embrace it and we experienced a fall in customer numbers overnight and quickly reversed this initiative!
We are however fully embracing back office solutions, which is where we think tech is really adding value to the business. We’ve trialled a system that remotely allows us to run operations in store and it’s saving us time and costs.
Duncan Stirling: Technology has been a big factor for us, for instance ‘contactless’ payment terminals really increased transaction speed within our bars resulting in more revenue and crucially less waiting time for customers. Delivery apps have had a huge impact. Consumers really want a ‘one touch’ interface, where they make an order and 15 minutes later the food arrives at their door piping hot. However, restaurants are losing margins to the likes of Deliveroo for each order. This might be okay if the restaurants find more customers but it becomes a problem if their existing customers stop coming to the restaurant.
Is the trend towards experiences over products set to stay?
Darrel Connell: Quality and differentiated experiences will continue to thrive. Anything restaurants can do around customer service or menu innovation will help them to attract and retain customers.
Duncan Stirling: We are definitely seeing more of a demand by consumers for experiences over material possessions. Consumers want to be able to touch, feel and even smell the product. We have even spent a great deal of time looking at how our venues smell. Dishoom do this very well; you walk into Dishoom and you feel like you could be in Dehli or Mumbai.
Dan Stern: In a world with the convenience of Deliveroo, the quality of the experience received is key, and this will largely be down to the quality of the team. Millennials want ‘Instagramable’ moments so operators need to make sure that their restaurants look good in photos and that they are ‘best in class’ at social media.
Is it a case of ‘two worlds; London and the rest of the UK?
Darrel Connell: The key difference with London is that people eat and drink out more often, and London benefits from significant tourist trade. That said, there are lots of other cities with booming F&B offerings.
Duncan Stirling: I remember being at a seminar recently and one of the speakers said “there are two worlds out there, London and the rest of the UK”. He was insinuating that London was trading strongly and was on a nice upward trajectory whereas the regional outlook was much bleaker. Our focus is certainly on London; however, my business partner, Charlie, recently sat next to the founder of the Giggling Squid who seemed to have no interest in London and has only opened outlets in the regions and his business is thriving!
Dan Stern: We have seen very robust demand in our London sites, which have the advantage of tourism and a large population that goes out 7 days a week. High rents and premiums will always be a factor in London. Outside London, big chunks of supply can have a proportionally big impact. Take Newcastle, where a huge section of retail at the Eldon Square shopping centre was converted to F&B. We like Hickory’s which takes over large old pubs in the North West and Midlands and converts them to popular restaurants inspired by food of the southern states of the US. This results in a very attractive rent to turnover percentage.
What do you think the biggest impact of Brexit has been for your business so far?
Paul Hopper: In the immediate aftermath we had to calm the fears of staff from the EU. Luckily, we only lost one member of the team. We’re still getting lots of applicants and perhaps our size means that we haven’t felt the impact that others have.
Darrel Connell: The biggest Brexit issue is a tightening of the labour market. Attracting and retaining great staff across our businesses remains a challenge.
Duncan Stirling: Revenue is up due to the weakened pound but recruitment is a real challenge. For entry level positions, we have two people for every vacant position compared to 10 applications pre Brexit. This is a very worrying sign for us. We put this down to European 18-23 year olds deciding to head to other cities to start careers.
Dan Stern: The first impact we saw was currency and imported food inflation. The second was the number of applicants for new jobs from EU nationals; particularly for our portfolio companies’ London sites. Businesses must strive to be employers of choice. It will certainly become harder to hire great people.
What does the next 12 months look like for your business?
Paul Hopper: ‘Fun, scary, exciting’. Looking into summer 2018, we’re hoping to double in size and then the take-stock phase of what’s next? It is a real test of the concept, systems in place and how to be in multiple places.
Duncan Stirling: We are excited about the ‘roll-out’ of our Mr Foggs brand. Each new venue will be very unique and have a different name and personality. We think of it as a ‘collection’ rather than a ‘chain’. It’s the opposite of ‘seen one, seen them all’.
What is your approach to investment in the sector, and what key attributes do you look for?
Darrel Connell: We’re able to be long-term focused and highly supportive in our approach. We understand sectoral issues, we’re not alarmist and we are on-hand to support management teams in areas including property acquisition, operational finance, strategic marketing and exit planning. First and foremost, the attributes we look for are the quality, drive and risk alignment of the management teams. We also look for a differentiated proposition and scalable leisure businesses with clear scope to exit.
Dan Stern: A clearly differentiated consumer proposition that customers want to return to again and again; Flat Iron, has a very clear proposition – amazingly highly quality steak at an incredible price point. A scalable concept. This extends beyond our investment horizon - we need the growth story for the next investor too. Loungers is a great example of a scalable concept, the business grew from 23 to 94 sites during our investment, but we believe you could get to at least 500. Attractive site economics, we are looking for high site EBITDA % and return on capital. A great management team that we can back. We don’t run businesses – we allow the teams to get on with the job with our guidance and support.
What will be the distinction between winners and losers in 2018?
Darrel Connell: Operators that offer a differentiated, quality customer experience and good value will continue to do well.
Duncan Stirling: Customer service and good product. Consumers have got more F&B choices than ever. The winners will be the ones who dedicate all their efforts to producing good quality product and making their customers feel like kings and queens.
Dan Stern: If the proposition is good enough a business will still succeed and grow. It will always come down to the quality of the customer proposition. An operator with busy restaurants will be able to mitigate the cost headwinds and take advantage of the growth opportunities.
The above article featured in the latest BDO Restaurants and Bars Report