DC Advisory
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Consumer strength is a myth.

First quarter GDP was, surprisingly, down 1.4%, and that is assuming an 8% price “deflator”, not the rate more like 15% that we are all experiencing. Setting aside other “adjustments” to the CPI calculation over the years, the 8% CPI rate excludes food and energy, both of which are sharply higher. Retail, including internet sales, have been especially weak, and US consumers have reduced their savings rate in March to 6.2%, lowest level in nine years. Offsetting this, credit card spending increased from 23% to 33% in the first quarter. Housing expenses are something like 20% higher YTY, and new home buyers are paying 20% more on average, with mortgage rates above 5% versus 3% a year ago. Supply chain distortions are still working their way through the system, with many price adjustments yet to come. On May 4th the Fed acted in a relatively dovish fashion, raising rates by a less than feared 50 basis points, also stretching out the Fed balance sheet reduction. Fed Chair Powell indicated that the “neutral” interest rate which the Fed is targeting is 3-4% but that assumes that inflation is back at 2%. The current inflation rate, even down by a few points, would require short term rates of 7-8%, obviously way too high for the capital markets to contemplate. The stagflation that we have been discussing for months will continue, even if the reported CPI measurement downticks by a couple of points. Lastly, the current stock market swoon is not going to help consumer spending.

Hope is not a strategy

“Culture” seems difficult to define but is recognizable when you experience it. As a positive example: I visited a First Watch restaurant recently, around 9:00 am on a Monday morning. As I noticed that the entrance door and adjacent window glass were sparkling clean (the first tell), a young woman with a big smile opened the door and ushered us in. We sadly didn’t see any more of her but the entire service team was equally friendly, made easy eye contact, tried to be helpful (without being intrusive), obviously happy to be there. The menu was appealing and well priced, the coffee included flavored creamers and we both enjoyed the blueberry pancakes. More important than the food, because you can get coffee and pancakes in lots of places, was the dining experience. I came back to NYC and bought the stock (FWRG, trading at about 12x trailing EBITDA). On the other hand: That same night, we had dinner at a publicly held full-service restaurant chain. There were tables available but we waited for twelve minutes to be seated, so our assumption was that they were short of staff. We were handed menus, a bit worn, as we were seated but it was six or seven minutes before a server showed up to take our drink orders. The appetizer arrived in an acceptable amount of time but the entrees took way too long. As we waited, there seemed to be quite a few service people in the area but it felt like they were a bit confused. The activity, not frenzied, seemed less than purposeful. After waiting too long for our entrees, and finally making eye contact with our waitress, I said: “So I guess our entrees will be here soon?” Her response: “I hope so”, as she disappeared from view. My basic reaction was mostly one of sympathy, since this girl’s orientation had obviously been far from adequate. It must be a daunting challenge to hire, train and motivate the rapidly turning over service staff in a high volume full service restaurant. On top of that, the kitchen staff may not do their part, and the service person who just happens to be on the firing line will get discouraged pretty quickly. If the operating team can only “hope” for a good outcome, there’s some serious work to be done.

Public Ownership, or Not?

It costs hundreds of thousands of dollars annually to be publicly held, not to mention the time to satisfy regulatory requirements and interface with the financial community. Public ownership can provide the opportunity to monetize one’s stock ownership, incentivize employees and raise equity or debt capital at relatively attractive rates. Corporate management, when considering this financial path are bound to wonder how big their company needs to be to create the valuation that provides the above stated opportunities. Our conclusion: More than the current size of the company, it is (1) a question of management’s inclination and ability to deal with the publicly held marketplace and (2) the “story”, including the attractiveness of unit level economics which will drive steady predictable unit expansion over time. Examples of small to mid-sized companies, with big plans, would include some recent IPOs such as Sweetgreen (SG), Portillo’s (PTLO), Dutch Bros (BROS) and Black Rifle (BRC), the last two of which carry market values in the billions. At the other end of the spectrum, “small” can work, as long as “much bigger” credible possibility is on the drawing board. There should also be enough shares outstanding in the hands of the public for a reasonable volume of trading. On this last score, public companies like Ark Restaurants (ARKR) and Flanigan’s (BDL) have been habitually inexpensive statistically but don’t trade enough to attract an investment following. Sometimes, previously attractive companies stumble, and, while the stock may come down to an apparently attractive level, the concept needs “reinvention” and this can sometimes be more easily done under private ownership. Current examples of this situation could include Red Robin (RRGB). Good Times (GTIM), Noodles (NDLS), Rocky Mountain Chocolate Factory (RMCF) and Noble Roman’s (NROM). In this case, a financial “sponsor” is required that will buy out the public shareholders and help to arrange the necessary financing to move the new privately owned company forward.