4Q20 Investor Calls: Key Points & Analysis

• The industry’s 4Q:20 comp average (weighted by the system sales of the $1B+ Chains) declined -1.1% which is roughly in-line with 3Q:20 results (-0.6%) and reflects that October’s strength was mostly off-set by FSR weakness in November & December.
• The industry continued an uneven recovery as healthy consumer demand for dine-in occasions was interrupted by vacillating government dine-in restrictions which tightened at year-end.
• Fortunately, restrictions began to ease again at the start of 2021 and, despite some uncooperative weather, 1Q dine-in comps seem to be back on track for recovery.
• While it seems almost ridiculous to say given the crazy 2020 operating environment, QSR had a great year as any chain with a drive-thru made-out ok.
• This lesson was learned by all industry players (including the sit-down chains) and added off-premise capacity in the form of curbside, dedicated pick-up shelves and even new drive-thru windows at sit-down restaurants has appealed by providing consumers with a quicker, more convenient way to eat-out.
• Digital advances should also strengthen the entire industry as most all players have learned the benefit of leveraging this “essential” platform which not only improves consumer access, but also serves as an effective marketing & labor savings tool. The more guests on your app, the less you need to spend on costly TV ads!
• In any case, we expect the 2020 trauma will sharpen the divide between those who desire a dine-in experience (casual & family) and those who simply want a fast in-and-out (QSR).
• Resultantly, it remains to be seen how a diminished appeal for QSR dine-in will impact the values for larger footprint fast-food stores. Certainly, we can expect smaller QSR footprints going forward.

4Q20 $1B+ Restaurant Chain Summary

Digital/Off-Premise Overview

• The question remains: how much of the post-lockdown spike in digital and off-premise will stick once we fully return to normal?
• Preliminary results from many of the sit-down chains suggests that a healthy amount of off-premise sales are sticking even as their dining rooms reopen.
• On the other hand, some leading sit-down chains have expressed confidence that consumers are ultimately inclined to return to their love for dine-in experiences with family & friends, a trend which will ultimately reduce off-premise occasions.
• The chains continue to wrestle with delivery because of the impact to margins associated with DSP costs. Some industry players are passing along these costs directly to the consumers and it remains to be seen what impact this added consumer cost will ultimately have on the growth of the delivery channel.
• Digital, on the other hand, is likely to continue growing as an increasingly “essential” platform which not only improves access, but also serves as an effective marketing & labor savings tool.

Casual Segment Overview

• 4Q20 casual results started out strong at the beginning of the quarter before falling-off as government dine-in restrictions ramped-up. However, initial 1Q21 results improved significantly as the government began loosening restrictions yet once again.
• Segment players are finding that they are mostly able to restore dine-in sales when restrictions are eased and most all hope to keep some level of incremental off-premise sales even as dine-in ramps-up.
• Most of the chains remain steadfast in their belief that consumer demand for the dine-in experience is solid as people still seek to gather with friends & family over a meal. In fact, Applebee’s management believes that “we’re on the cusp of a restaurant renaissance”.
• The creation of new “virtual” brands also offers hope for the future of established casual chains as these incremental, delivery-only concepts are advertised by the DSPs, target new demos and help absorb unused back-of-the-house capacity of the existing restaurants.
• Unfortunate market share gains from the independents are helping segment sales and Outback’s management expects restaurant industry store closures of between 5% to 15% (the national chains continue to hold their own in terms of closure rates).

Family Segment Overview

• Family segment players remain the hardest hit segment as these dine-in, sit down chains primarily address breakfast (which represents one of the hardest hit dayparts) while also generally addressing an older demo that may have been more cautious about dining-out during the virus scare.
• In any case, there are many promising signs for the future with Denny’s reporting that: its off-premise sales doubled post-lockdown; and restaurants with open dining rooms were only down -15% during January and February.
• Similarly, IHOP’s off-premise comps increased +130.4% during 4Q to 33.3% mix (15.6% delivery/17.7% take-out/22.7% digital) with management expecting to retain much of its new off-premise sales (supported by the high portability of menu items & proprietary packaging) which keeps food warm for 40 minutes even after dine-in restrictions are lifted.

QSR Burger Segment Overview

• The QSR burger segment posted strong 4Q20 results as increasing consumer mobility played well for the nearly perfected drive-thru models that these players have leveraged in this post-lockdown operating environment. In any case, added demand for the DT channel reveals the need to improve service speed and the hope is that digital upgrades will help play a role in this endeavor.
• Also, QSR’s challenge is to find the correct balance as it relates to value. On the one hand, consumers flush with government stimulus money can pay-up for premium products while it lasts. However, the reality is that the economy is very tenuous with an elevated unemployment rate evident by the QSR chains that are maintaining margins with slimmed-down staffing to go with their dining room closures.
• As an example, Burger King’s 4Q comp decline was attributed to an insufficient value equation.
• Breakfast remains turbulent with sales weakness during this daypart aggravated by Wendy’s successful entry, increasing competition for a smaller pie.
• Unlike the casual chains, the role of dine-in for QSR remains up-in-the-air as the national chains have learned that they can profit handsomely without their dining rooms in the current operating environment.
• At the very least, this will have implications for new store formats going forward.

Pizza Segment Overview

• Strong pizza segment results reflect not just the benefit of a great home meal replacement option which is perfectly suited to the post-lockdown operating environment, but also ongoing brand improvements for both Papa John’s and Pizza Hut.
• Notably, segment sales strength also reflected compelling value and innovation.
• Domino’s raised an important issue as it relates to a post-lockdown loss of its margin friendly carryout business which has been masked by the material growth of its delivery business. Notably, the demos for these 2 channels are different (price conscious pizza lovers who live close enough to the store to save a few bucks by picking-up their own order vs. delivery customers willing to pay-up for convenience).
• The restoration of its carryout business is key for Domino’s for 2 reasons: ramping labor costs and the scarcity of willing workers is problematic as it relates to staffing their delivery business (and probably for the DSP model as well); and a carryout restoration is necessary to support its “fortressing” development strategy in which existing markets are in-filled to shrink delivery/carryout radiuses.

Chicken Segment Overview

• The QSR chicken segment continues to be well positioned given consumer appreciation for: 1) all things wings; 2) chicken in buckets/boxes that not only work well for off-premise but also for larger groups at home; and 3) chicken sandwiches!
• Further, post-lockdown demand for comfort foods plays well for wings and fried, bone-in chicken.
• While the huge success of Popeyes’ chicken sandwiches has driven significantly higher AUVs, its success has launched a chicken sandwich war which is likely to cool its amazing past comp outperformance. It seems almost every QSR chain is launching their own version of a premium, fried chicken sandwich (some of which are quite good).
• Notably, Carrols recently characterized BK’s new crispy chicken sandwich (May launch) as “best-in-class” which is high praise given that it is also a Popeyes operator.

Mexican Segment Overview

• 4Q20 results for the Mexican segment was healthy even as it placed just 4th best out of the 6 segments we track (just in front of the sit-down chains).
  Chipotle’s sales benefit from Carne Asada, digital and delivery price increases.
• Del Taco attributed results to strong ops, digital & delivery, price increases and successful LTOs.
• Taco Bell’s LTO successes helped compensate for a difficult compare over 53 weeks during 2019.

Coffee Segment Overview

• The coffee segment has been reduced to a universe of just 1 pure-play public player now that Dunkin’ was recently taken private.
• In any case, segment challenges reflect that: coffee is tied to a very ritualistic morning routine that has been completely upended by the lockdown; and a typical store format emphasizes an in-person walk-in layout as opposed to drive-in.
• Further, industry challenges are reflected by significant external competition from QSR players that are offering higher-end products to help drive their breakfast business.
• That being said, it is notable that Starbucks expects a full recovery in 2 quarters.