How Much Is Too Much?

A slow economy, consumer jitters and rising gas prices push casual dining to test the limits on pricing.

By Derek Gale, Associate Editor -- Restaurants & Institutions, 7/1/2007

Gasoline prices hit a record national average high in mid-May and then continued to climb. This was not good news for the already beleaguered casual-dining segment.

"As gas prices go up on people with adjustable-rate mortgages, they are in some cases trading down to quick-service restaurants, in some cases going out less," said Peter Dunn, president and CEO of Indianapolis-based Steak ’n Shake, in a late-May investor conference call.

In a May survey of 1,000 households commissioned by the International Council of Shopping Centers and UBS Securities, about 60% of respondents said they were reducing discretionary spending, including restaurant expenditures, because of higher gas prices.

Yet despite consumer price sensitivity, Steak ’n Shake implemented a menu price increase of about 1.8% last month "primarily to offset minimum-wage increases," said Jeffrey Blade, Steak ‘n Shake’s chief financial officer, on the same conference call. Last year, in contrast, Steak ’n Shake raised menu prices 3.1%.

Many other casual-dining concepts reluctantly have followed suit. Among the 21 Top 400 casual-dining chains reporting menu price hikes in 2006, the average increase was 2.5%, and raising prices doesn’t help make casual chains more competitive with lower-ticket fast-casual or quick-service options.

"People have become more price-conscious," says Lynne Jacoby, food and beverage practice leader at PricewaterhouseCoopers LLP in New York City. "You’re not going to raise menu prices 6% to 7%. Fast-casual places have really limited casual players on that."

Combine that with higher coupon redemptions and value-seeking from consumers when times are tight, and many casual-dining restaurants may have to hope that volume increases will save the day.

QSR Creep

While the casual segment continues its struggle, quick-service and fast-casual restaurants are developing menu choices that rival those of casual dining while keeping prices low. For example, Broomfield, Colo.-based Noodles & Company offers soup or a small noodle dish with chicken, beef, shrimp or tofu plus a tossed green or Caesar salad for $6.95.

Average checks for fast food now are between $5 and $5.50, a full dollar more than five years ago, according to Andrew Barish, San Francisco-based restaurant analyst with Banc of America Securities. Casual-dining customers who trade down to fast-casual or quick-service concepts may be willing to spend more than typical QSR loyalists.

Patrick Walls, senior vice president and chief franchise officer for Ridgeland, Miss.-based fast-casual chain McAlister’s Deli, says the segment definitely benefits by drawing the traditional casual-dining audience. "In fast-casual, we’ve got a couple of advantages," he says. "Average tickets are a good $2 to $4 less than for casual, and there’s the advantage of [not having] to tip."

But casual-dining concepts aren’t letting go of their guests without a fight. Overland Park, Kan.-based Applebee’s International this spring launched a Pick ‘N Pair lunch combo menu from which customers select two items. Prices start at $5.99. And Plano, Texas-based Bennigan’s Grill & Tavern is promoting items such as a Country Chicken Salad and a Monte Cristo sandwich for a limited-time-offering price of $4.99.

"We’ve been pleased with our traffic improvement since the launch of the [Pick ‘N Pair] program," said Applebee’s CEO Dave Goebel in an earnings call earlier this year. "The combination of attractive price point, value, quality, speed and customer choice has been a home run with our lunch guests."

No Sale

At least one casual-dining brand is trying an entirely different tactic. Nashville, Tenn.-based O’Charley’s has halted several price promotions and has phased out its Kids Eat Free program.

CEO Gregory Burns cites research showing that discounting in casual dining is not as effective in driving business as it once was. He also notes that customers seeking discounts aren’t necessarily loyal.

"As we expected, the phase-out of Kids Eat Free and our reduction in the use of coupons has resulted in guest-count declines, as price-sensitive customers visit O’Charley’s less frequently," Burns says. But he notes that the resulting increase in average check totals has contributed to improved margins.

Burns’ strategy is to attract guests with stronger financial profiles. This group includes baby boomers, who, he says, may be turned off by discounters. "There’s this whole kind of belief that ‘I want things that are nice in value,’" he says.

With that in play, Burns is not especially concerned about raising menu prices 2% to 3%. But he says that if Congress raises the national minimum wage and corn prices continue to spike, everyone in casual dining will have to ponder considerable menu price adjustments in 2008—increases that could push casual-dining costs beyond consumers’ comfort level.

Add Value

Beaverton, Ore.-based Shari’s Restaurants is "bucking the trend" of cautious price hikes, according to Kevin Bechtel, the chain’s senior vice president of menu development. Shari’s, which raised menu prices 3.6% last year, plans about a 3% increase through 2007, Bechtel says.

Factors ranging from minimum-wage issues to premium-product introductions are driving the increase, he says.

"We feel there’s room for us to move our pricing a bit while staying competitive," Bechtel says, adding that Shari’s aims to raise prices strategically.

"We try to attach it to items that have that value associated with them," he says. "We moved our fish from cod to halibut. With our new burger program, we moved to Angus beef. We like to think we split the difference with the guest."

The strategy seems to be working: The new burger, which also features a larger patty and all-natural bun, has helped lift the brand’s burger sales by 30%.

The Bottom Line

"You walk a fine line when you raise prices," Walls says. "You don’t want to decrease customer counts and traffic, and almost any price increase will do that." So what’s the limit? Is a 5% price hike the maximum for 2008?

"I have a hard time believing that they’re all going to go running back [to] their kitchens," Burns notes. The challenge, he says, is for operations to find ways to provide "more value, a better taste profile or better service."