Restaurant and hospitality (R&H) sectors are faced with three main challenges as a result of COVID-19 disruption:
- Closure of part or all of existing location operations, leading to tremendous reduction of revenue and traffic
- Resulting unemployment spike and its subsequent impact on the overall US economy
- Concept and location fiscal survival
We’ll delve into the specific challenges, risks, and opportunities for each of these below.
1. Closure of part or all of existing location operations, leading to tremendous reduction of revenue and traffic
Revenue Traffic Issues
By late March, reports indicated that restaurants in 43 of 50 states in the U.S. had been forced by mandate to close their dining rooms. Projections of current overall revenue trends vary from down 50% to 75% or more nationally, with those figures evolving daily. While many restaurants have closed completely during the crisis, in some locations, restaurants are allowed to serve customers through carryout, curbside, drive-through, and delivery.
On the hotel side, traveling guest counts, such as groups, individual business, and vacationing families, have greatly declined, resulting in a significant reduction in hotel room occupancy; in response, hotels have greatly reduced operations and staffing. Hotel foodservice and dining room operations have closed across the country.
The resulting impact on employees has been dire, especially because many of the employees live paycheck-to-paycheck, and, due to shared costs, many don’t participate in benefit plans. Employers are desperately looking for any means possible to help their people survive.
Risks Have Become Reality
The closure of dining rooms, restaurants, and hotels is leading to many permanent concept failures for those businesses that had marginal financial performance pre-virus, and even some that were fiscally viable.
The loss of business from a drop in vacation travel and eating out is further exacerbating this issue and negatively impacting local economies.
The risk of unprecedented layoffs has become reality. This, along with shuttered operations, has further cascaded their impact on local economies. Operators and owners have scrambled to do what they can for their employees and their businesses.
As mentioned above, operators are already leveraging outside-of-restaurant service to customer. Beyond this, there appear to be no real short term solutions to the reduction in restaurant and hotel volumes, beyond surviving the crisis and reopening if and when possible.
Some owners can benefit from newly generated loan, grant and tax deferment programs, discussed below. These programs will play a huge role in survival for many of these businesses.
Reducing expenses will be possible and necessary, though these efforts will only help so far. This will also be discussed later in this document.
2. Resulting unemployment spike and its impact on the overall US economy
Unemployment and Economic Issues
Restaurants and hospitality, more than other sectors, are people businesses. The restaurant and foodservice industry alone has recently employed more than 15 million people in the United States. On the whole, R&H employers are concerned for their employees and are looking for creative ways to keep them, however long, on their payrolls. The number of lost jobs will continue to grow in the near-term until the pandemic subsides, or the federal, state, and local governments allow for re-opening.
Temporary job losses in R&H have quickly reached into the millions. The largescale reduction or temporary elimination of R&H jobs have overwhelmed unemployment systems, slowing payment of benefits and significantly impacting workers. The speed at which actual dollars can flow from government to individuals is uncertain. In the meantime, because many R&H workers tend to live from paycheck to paycheck, they’re immediately confronted with dire circumstances as they lose their jobs.
Most R&H operations don’t have the financial wherewithal to maintain full staffs while reductions and shutdowns of on-premise operations, such as dining room and counter seating, are mandated.
To survive financially, many restaurant operators have been forced to significantly reduce staffing, through permanent layoffs or furloughs. This can have several negative implications.
Losing Well-Trained Workers
For over the past decade, operators have struggled to find and retain good employees. The effort and cost to find, train, and maintain good employees is significant, and there’s still no guarantee of a successful outcome. Thus, in addition to simply caring about their employees, owners have further incentive to work to maintain and help their staff.
The significant unemployment spike, tied with the broader market and business decline, could offset the consumer-driven economy and result in a lasting recession. Many economists forecast a global recession that could last well into 2021 or longer, depending on the ultimate depth, breadth, and duration of virus penetration.
Even while owners contend with employing staff they might not need, there’s also potential for the opposite problem. Based upon news reports, we face an impending spike in COVID-19 cases, which means there’s potential for a significant health-related employee absence rate. Therefore, operators are wisely building backup staffing plans made up of furloughed employees.
In some cases, employers are continuing to support health plans of furloughed employees if cash is available. This most likely requires advisory support from insurance brokers, consultants, and companies to ensure it’s done to meet the needs of employees and owners.
After exhausting internal ways to maintain employees, operators are looking externally to sources of jobs in the community where their terminated employees can move to.
Delivery pizza has weathered the storm better than most with Papa John’s and Pizza Hut hiring in some areas. Delivery organizations, such as Amazon and UPS are hiring significant numbers to support delivery to people working from home per Shelter in Place initiatives.
All levels of government are working to earmark significant funding to support hiring companies and unemployed workers. For employers, tax incentives, and massive loan programs are available with favorable terms to promote hiring and retaining employees. Included for workers are tax-free cash payments and penalty-free distributions from their retirement accounts.
One major initiative designed to provide relief is the over two-trillion dollar CARES package passed and signed on March 27, 2020, which focuses on incentives for employers to rehire and maintain their staffing. Further initiatives are being discussed, though it appears drafting of legislation could be delayed until late April or May. Further information on these initiatives is provided below. While typically very inflationary, this flood of cash will serve as a major tool in helping people and businesses survive, at least for a while until the virus can runs its course.
3. Concept and location fiscal survival
In this environment, cash means survival. Owners are managing cash very carefully because they know fiscal discipline is critical. Nobody benefits from the permanent demise of a business. Cash survival is leading operators and owners to rethink all parts of their business and their lives. Not only are they reevaluating cash, which is their business life, but they’re also weighing what it means to their employees, relationships, communities, and lifestyles. Owners are weighing new questions, such as should they continue, what would happen to their people, and if they should consider handing over their business to the bank.
As mentioned earlier, for many these risks are now realities. Many operators must take aggressive action or close up. In some cases, operators are throwing in the towel.
These issues are growing and defining risks on a national and global scale.
Lasting Impact of a Shrinking of a Restaurant Industry
Some industry executives and owners anticipate a significant and permanent reduction of the number of restaurants and seats in the United States. The figure that’s consistently used is 20% to 25% seats eliminated within a year. This indicates a long, slow return over time, as new capital and entrepreneurs rebuild and revitalize the decimated industry.
If this becomes reality, there could be a significant shift in employment nationally, in which restaurant employees move to other jobs and industries.
It’s best to prepare for food and commodity supply shortages, which can lead to large supply outages, price swings, and uncertainty. While anecdotal feedback from distributors indicates that supply interruption is not a broad issue today, there are certain items that are in short supply. An important step to take now could be to reach out for a discussion and planning session with your distributor.
Opportunities Are Now Realities
Lender and Landlords
Now is the time to reevaluate restaurant and hospitality real estate properties against outstanding debt and covenants behind those properties. There may be some opportunity for concessions through negotiations with the lender or landlord; however, the time to pursue leniency would be now, as a proactive measure, rather than reactively down the road.
Lenders have various motivations to help their borrowers. They also are aware of their reputations in the marketplace and want to be seen as part of a solution. Some lenders have proactively worked with borrowers to temporarily defer payments and extend terms.
SBA lenders are assessing and offering Payroll Protection Program (PPP) loans, funded through the CARES Act legislation passed on March 27, 2020, which supports the rehiring and retention of employees, as well as funding rent and services critical to ongoing operations. These PPP loans have very favorable terms and can be fully or partially relieved by the Federal Government if borrowers re-establish employment levels and follow spending rules.
Other loan programs, including the Economic Injury Disaster (EIDL) loan program, as well as grants through various government bodies and agencies, are available.
There are rules and conditions to these loan programs, which will be considered and enforced by SBA lenders during the loan application process. As mentioned, these loans offer terms that are highly favorable and are, in many ways, unprecedented; however, not every borrower will qualify. Operators and owners should consider these aggressively and must understand carefully what they are signing up for.
Landlords also have motivation to support their tenants, maintain occupancy rates that lenders require to support building owners’ loans, and support overall community well-being. Some landlords will be congenial in working with tenants through this crisis. Some landlords will use this crisis to their own benefit and tenants who can’t stay current on rent will lose their space.
Managing costs will be critical to survival until this crisis abates.
The natural inclination is to first look at big-ticket costs. Prime costs, labor and cost of goods sold (COGS), together represent a large share of the operating expenses faced by restaurants.
As mentioned earlier, labor has already been decimated through elimination of positions and hours. Many operators and owners have eliminated their own pay to keep more employees on the payroll. Further actions on wage rates are no longer an opportunity. Short of closing down locations entirely, which some have done, there isn’t much more to do here; in fact, this could create a barrier to accessing the new SBA loan programs meant to support employment.
COGS opportunities will exist to the extent that suppliers and distributors are able to work with customers. With the pandemic, these entities are fighting their own battles for survival as well. Some ideas here will include reduced deliveries per week, menu (and therefore ingredient) adjustment and reduction, and extended payment terms.
Beyond prime costs, operators can and are attacking the remainder of the entire cost chain, working with vendors, lenders, and landlords to gain flexibility, deferral, and even forgiveness. There can be opportunities with utilities and waste hauling. Some of these providers will be friendly to negotiation, while others won’t.
The significant decline of oil prices could have a positive effect on the cost of their supply chain, delivery, and travel costs, though this will take some time to filter through.
In the current climate, every dollar counts, and gains can’t be made without asking.
Other Sources/Uses of Cash
One of the first considerations in managing cash through this crisis is to assess existing business interruption coverage. Operators are working with their advisors to understand what is and isn’t covered. For some, their terms were reduced or eliminated due to previous disease outbreaks.
In the last week of March, many larger companies and concepts have aggressively and fully tapped their available credit lines to have enough liquidity to survive the coming weeks, when they’ll need to pay employees, critical vendors, and insurance benefits.
Deferment of Tax Payments
Given the uncertainty and fluctuations surrounding the pandemic, there’s no better time than now to press governments and taxing authorities for delaying payment on taxes of all types, including payroll, property and sales taxes, as well as other state and local tax payments.
Teaming up with other business owners to pursue this can be a useful strategy. The government has already acted on this and is coming to the table with various relief offerings. Two tax fixtures—paying payroll taxes and the April 15 tax filing date—have been delayed and deferred. The tax filing date has pushed back to July 15, 2020.
It’s important, however, to proactively be aware of newly-established payment deadlines, to avoid potential personal and criminal liabilities with missed payments.
For franchisees of large systems, franchisors are setting up relief funds and programs for struggling franchisees.
In addition, state and local governments, charitable organizations, and labor unions have earmarked programs for near-term relief. Local papers are reporting on these programs daily.
It’s important to note many of these programs are not free. Make sure you understand the terms and conditions and try—in this unpredictable environment—to gauge how and when the money will be repaid after the crisis subsides.
Lastly, operators should be wary of scams when evaluating programs available. We’re hearing of scammers taking advantage of desperate, especially small, business owners.
Ultimately the weight of these and other negotiations flows up to the money sources—from operators and owners to vendors to banks, lenders, and equity sources—so vendors are the best place to start. As you know, when negotiating with vendors—such as suppliers, distributors, utilities, and landlords—they also have vendors they pay too. Ultimately, if distributors fail, then product stops flowing.
Consider your negotiation approach before beginning conversations. Work for a middle ground on what can benefit both sides.
Discuss with your banker, lender, or leasing company any extension of terms, other forbearance, and government programs they have access to. Please note: extension of loan terms often requires accruing interest to be paid later. Don’t be afraid to ask for something, but it’s also important to make sure you understand the terms and conditions.
The changes in the R&H space will create room for new endeavors for entrepreneurs with access to capital. Where there are great challenges there come great opportunities.
Investments in property, plant, and equipment should be carefully considered before proceeding. In a CNBC interview on March 24, 2020, Marriott leader Arne Sorenson indicated they’ve implemented this company-wide, shelving “nice to have” projects, and re-evaluating whether “must-have” investments truly are a must.
Mergers & Acquisitions
Some R&H operators, while putting on a brave face publicly, are telling us it’s unlikely their company will survive this crisis due to financial reasons. For these, it could be better not to take out the forgivable government loans. Work with trusted advisors to determine what works best in each situation.
Some capital firms and operating companies with strong balance sheets are contemplating the acquisition of distressed R&H companies, possibly at depressed prices. Companies with stronger financial situations could also have the ability to poach high-quality employees from their lesser-capitalized competitors.
While in some ways it sounds heartless, these approaches can provide opportunities to maintain viability of some concepts and locations, supporting employment and local economies.
Those who plan for the time when the crisis subsides and operations reopen will benefit significantly. Leverage advisors for building plans that are feasible. This includes lining up people, supply chains, and especially cash or working capital needs. The best way to plan is location by location and trade area by trade area. If leases allow, consider shuttering locations where there is no recourse back to a parent owner. For stores that will open, consider opening stronger locations that generate better cash flow first.
We’re Here to Help
For more insight and strategies on how to prepare your business during this time, please contact your Moss Adams advisor.