The overall economic picture for the industry is slightly better than six months ago despite the UK’s return to recession, but the recovery isn’t guaranteed and investment is needed to stimulate growth, according to BDO LLP.
In its bi-annual review of the sector, BDO highlights both positive and negative occurrences in the wider economy, such as falling unemployment being tempered by rising rates among young people, and inflation slowing but not as much as was expected.
BDO says the gap between inflation and wage growth is having an adverse affect on consumer confidence, and although this improved slightly at the end of 2011, it’s still “extremely low by historical standards”.
“Consumers remain wary and are still having to commit a large proportion of spending to essentials such as food and fuel, with a smaller share available for discretionary items.”
While businesses are more confident, business investment “remains weak” – 17% below pre-downturn figures - and bank lending it not increasing.
“Although signs of a sustained recovery will encourage greater investment, so far the hoped for expansion in business spending has not occurred. “
BDO added: “The current economic picture is slightly brighter than the darkly pessimistic situation six months ago despite the fact we have entered another recession.
“However, the recovery is not guaranteed given the fragile state of consumer confidence and any upturn is likely to take place over a considerable period of time.
“For recovery to take hold what is required above all at the moment is stronger business investment underpinned by bank lending.”
The report comes as new figures from the Office for National Statistics show that Britain's double-dip recession has been deeper than previously through, with the economy contracting by 0.7% in the six months to March.
Below, M&C Report takes a closer look at the BDO LLP report.
Summer events provide £1.25bn uplift
The combined impact of the Diamond Jubilee, Euro 2012 and the Olympics is set to increase trading in bars and restaurants by about £1.25bn, according to estimates from BDO.
The Jubilee would have brought an extra £150m, BDO retail analyst Jamie Talmage said. Despite the poor weather, spending was lifted “on a par” with last year’s Royal Wedding.
He said the sector could expect a spending boost of c.£800m (about 3%) due to Euro 2012, although this analysis depended on England’s performance. Pubs are likely to benefit most, while for restaurants the picture will be “mixed”.
Talmage said evidence for the impact of events like Olympics is mixed, with the increase in tourism often mitigated by a displacement in usual trade due to concerns of overcrowding and high prices.
However, most evidence suggests the impact will be positive, and he predicts a £300m increase in trade for pubs and restaurants. Ninety percent of the trading uplift will take place in London, he said, although events such as the torch relay and other Olympic evens taking place elsewhere will provide an advantage outside the capital.
Talmage said that over time, the Olympics could be worth £2bn to the sector because the exposure will encourage visitors in future years.
Branded operators will continue to outperform
Major branded operators in the eating and drinking out sector are likely to continue to outperform the rest of the industry, BDO argues.
The group highlights how many public companies have posted positive numbers despite, for example, on-trade beer volumes falling 3.4% in Q4 2011.
“A large element of this difference is arguably due to the fact that the major restaurant and bar operators are for the most part outperforming the wider market,” BDO said.
“Branded chains are continuing to gain market share on the back of targeted promotion strategies, as well as heavy investment in creative marketing and branding.”
Branded operators are “aggressively” rolling out new openings and taking sites from failed operators, BDO said. As a result, while like-for-like sales among major chains averaged just +1.5% between October 2011 and March 2012, overall sales averaged almost +6%
BDO said: “Whilst the total amount spent across the sector has fallen in real terms, the performance gap between the major branded operators has widened. Consumers are favouring the certainty and consistency of a branded offer, a situation which is unlikely to change in the short-term.”
Return on capital ‘key for private equity’
Restaurant operators looking to rollout concepts must focus on return on capital if they want to attract private equity, and not treat developments as “vanity projects”.
That’s according to James Tillman of leisure sector investors Kings Park Capital, whose investment portfolio includes quick service restaurant business Abokado.
Tillman said too many operators “don’t focus hard enough on return on capital”.
“They may think a 5% return on capital is justified because they are building a brand, but they have missed the fact that it’s probably not a very valuable one (and I’ll hazard a guess that it isn’t going to be the next Pizza Express).
“The very best operators in the space continue to open units with over a 50% return on capital, or in other words a one to two year payback on investment in a site (admittedly pre-tax).
“There aren’t many of them out there, but to justify equity funding of a rollout concept, you need to be generating in excess of a 40% EBITDA return on capital for leasehold units to deliver an equity return that justifies the risk.”
He said that a great consumer concept is key, “but if that doesn’t deliver a sensible risk adjusted return it isn’t a business, it’s a hobby (and potentially an expensive one)”.
“We’d much rather find the restaurant concept that generates £100,000 EBITDA from a capital investment of £200,000 per unit, than one which makes £200,000 from £800,000 of CAPEX.
“It sounds obvious, but it’s so easy to get carried away when developing sites – can you justify every pound spent on an outlet, or is it turning into a vanity project?”
Tillman said one “possibly surprising development” in the past few years is that good sites haven’t become easier to secure. “There may only be two or three people fighting over the best sites rather than ten or fifteen, but that’s still enough to drive premiums up substantially,” he said.
But he added: “Nonetheless, the face of the high street is changing more rapidly than ever before, with administrations leaving empty outlets on the high street. The eating out sector can only benefit from this.”
