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    MARKET EDGES

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A sustained recovery in QSR stocks will be dependent upon macro headwinds abating and same-store sales picking up.


Almost without exception, QSR companies presenting at the Cowen and Company conference outlined their strategies along the lines of “strengthening the brand, using product innovation to drive traffic, and increasing financial flexibility”.  While we anticipated that the timing of the conference would lead to more qualitative than quantitative commentary, there were some interesting discussions about the current macro backdrop, with regard to regional performance (Texas, in particular) and the impact of rising unemployment.

During the JACK presentation, Chairman and CEO Linda Lang stated that unemployment was the primary macroeconomic issue impacting their business.  She pointed out that Texas, California, and Nevada have seen adverse economic trends of late, with unemployment among the young (especially Hispanics and males) being a particularly acute problem.  While 16-19 year olds are a key customer base for all QSR concepts, Lang admitted that JACK’s customer base skews at least one-third more Hispanic than major competing QSR chains.  The chart below illustrates the unemployment picture for young Hispanics. 

QSR - DON'T MESS WITH MACRO - hispanics 16.19

This group is also a vital source of business for TAST; the company hinges much of its future growth strategy on its Hispanic brand restaurants, “Pollo Tropical” and “Taco Cabana”.  During the Carrols presentation at the Cowen and Company conference, Chairman of the Board and CEO Alan Vituli’s presentation discusses how the company is “well positioned to capitalize on growing Hispanic trends” such as Hispanic population growth and Hispanic disposable income being “projected to rise to $1.4 trillion by 2013 (+8% CAGR from 1990)”.  The source for the disposable income statistic is cited as “Article appearing in the third quarter 2008 edition of ‘Georgia Business and Economic Conditions’, a publication of the Terry College of Business, The University of Georgia.”  We are going to make a wild assumption that this study was put together before the third quarter, when the economic landscape of America changed drastically.  While Hispanic disposable income will undoubtedly grow over the long term, the unemployment picture among young Hispanics is far more relevant than the stale statistic cited by TAST’s presentation.

Some 27% of JACK’s system units, and 30% of company units, are in Texas.   Other QSR companies with significant exposure to Texas include TAST and SONC.  Consumer spending has fallen in step with unemployment rising and this is reflected in the second chart below showing sales tax data for the Dallas metropolitan area.  Trends in the Houston, San Antonio, and Austin metropolitan areas are almost identical.

QSR - DON'T MESS WITH MACRO - dallas

For QSR in general, however, unemployment is a national issue and it is adversely affecting traffic in all areas of the country.  A sustained recover in QSR stocks will be dependent upon macro headwinds abating and same-store sales picking up.  As we wrote about in “I’LL HAVE ONE JOB, HOLD THE BURGER”, on 01/08/10, the 16-19 year old demographic is extremely important for QSR chains.  The chart below shows the high rate at which this age group is losing jobs. 

QSR - DON'T MESS WITH MACRO - 16.19 total

We also noted that several of the management teams that presented at the conference are projecting flat operating margins going forward despite their expectations for continued softness in top-line trends, which led me to consider another important employment-related issue for restaurant operators.   In the event of the Employee Free Choice Act passing this year, labor costs would increase materially.  We did not hear any QSR management teams discuss this topic during presentations this week.  Unions are disappointed over the public option and with politicians needing campaign help, we could hear more about unionization in the coming months ahead of 2010 mid-terms. 

Hedgeye Risk Management’s Macro and Healthcare sectors have been monitoring the theme of unionization closely.  This is a highly relevant topic for QSR companies.  For instance, McDonalds employs more than 600,000 U.S. restaurant workers, many earning less than $10 per hour.  This makes the chain an attractive target for union organizers, a point McDonald’s recently elected President and COO Don Thompson was apparently aware of when he urged 2,400 franchisees to write to their US senators and representatives to oppose the Employee Free Choice Act, which would effectively end secret ballots and lead to binding arbitration for labor contracts.   Rick Berman, a lobbyist for the food industry in Washington, D.C., says that the bill is “a huge threat to fast food and … the long-term health of the industry”.