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  • Weak Consumer Sales: Are Restaurants an Indicator?

Business Strategy

30 Aug 2006

Weak Consumer Sales: Are Restaurants an Indicator?

  • By Bill Conerly
  • In Business Strategy, Economy

The Wall Street Journal reports today that restaurant chains are hurting due to low sales.  Stock in the corporation that owns Outback Steakhouses is down 40 percent from its peak.  Down at least 20 percent are Applebees, Starbucks and several others.  The common wisdom is that consumers paying $3 per gallon for gas have to cut back somewhere, and dining out is taking a hit.

In this post I will comment on why restaurants are in trouble, and what other sectors are also likely to show weakness.  In a following post, we’ll comment on pricing strategies for soft markets.

Stagnant real wages are one explanation for soft consumer spending growth.  Our smart colleagues have pointed out that, from a public policy perspective, we should focus on total compensation, which adds fringe benefits in to wages. (See  post by Russell Roberts here.) They are right, but the shift from wage compensation to benefit compensation doesn’t help companies that depend on customers having cash wages to spend.  (It does help health care providers, of course.)

Although the Journal emphasized consumers squeezed by high gasoline prices, I’m not convinced.  Over the last 12 months, disposable income after gasoline purchases has increased by 4.7 percent. The consumer price index rose 4.2 percent, and that overstates inflation.  (The personal consumption deflator rose 3.5 percent.)  Some people no doubt feel squeezed, but on average, a cutback is not needed.

If not gasoline, maybe the decline in housing is a part of the picture.  Although we don’t often think of consumers as allocating part of cash-out refinancings to dining out, it’s quite likely that people who have used cash-out refi’s are more willing to spend money.  Also, some folks knew that their home appreciation was adding more to their net worth than they could add through saving.  Now, with prices leveling off, some families may be trying to save more.

Are other types of businesses vulnerable to this downturn?  Think about habits.  Some are easy to break, some are hard.  The family that has made Saturday night dinner out a ritual is unlikely to stop, though they may start eating less expensive meals.  However, that same family perhaps would also go out on a weeknight; now they may be more likely to eat at home.

Browsing through the categories of consumer spending, it seems that some are easy to change, others hard to change.

Easy to change:  Food away from home, home furnishings, apparel, purchase of cars, entertainment, vacations.

Hard to change: food at home, utilities, household operations and supplies, personal care products (toothpaste), gasoline.

One final thought:  don’t forget the ratchet effect.  James Duesenberry explained that it’s easy to increase spending in response to higher income, but it’s hard to cut back.  (As a student, I thought this was a quirky theory.  Once I got out in the world had to budget a paycheck, it made more sense.)

Business Strategy Implications:  If your company sells to consumers, think about how easy it is for them to cut back on purchases of your product.  Are they locked in (cable, cell phone), or do they make a new decision every day or every week (eating out, buying new shoes).  If the latter, be more careful about your contingency planning for a downturn.

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