Feasting on Fast-Casual

This expanding market niche attracts the appetites of consumers and investors.

By Carolyn Bilsky

Amid high fuel and energy costs, rising interest rates, and wages that aren't keeping pace, consumers' disposable incomes are waning and the restaurant industry is suffering because of it. "Dining out frequency has long been considered a leading economic indicator, even though restaurants represent only about 5 percent of consumer disposable income," says Michael Sanson, editor of Restaurant Hospitality. "The decline in the casual sector signals a weakening of the economy."

Casual dining restaurants saw earnings decline during summer 2006: Systemwide comparable sales fell 4.7 percent for Outback Steakhouse in the four weeks ending Aug. 26, 2006, and 2.7 percent for Applebee's International. It's the worst restaurant slump since the early 1990s, experts say in a Wall Street Journal report. But amid the doom and gloom, one sector is thriving as consumers looking for more-affordable meals trade down from casual dining to fast-casual.

Fast-casual restaurants including Panera Bread, Chipotle Mexican Grill, and Café Express have become a familiar sight on urban streets and in shopping centers across the U.S. There are approximately 100,000 fast-casual concept restaurants in the U.S. today, estimates Fast Casual magazine. Serving everything from hot submarine sandwiches and organic salads to sushi and pork-stuffed burritos, fast-casual restaurants are whetting the appetites of both consumers and investors.

Photo caption: One way that fast-casual concepts such as Raving Brands' Mama Fu's Asian House, differentiate from fast-food restaurants is by serving alcoholic beverages in addition to soft drinks.
Photo: Raving Brands

A Growing Sector
Fast-casual hasn't always been such a strong contender for American stomachs and wallets. Historically the restaurant industry has had three main sectors: fast-food, casual dining, and fine dining, each with corresponding price points - $5 to $6, $10 to $12, and $20 and higher, respectively.

"Fast-casual really hit the radar over the last three to four years," says Paul G. Fetscher, CCIM, president of Great American Brokerage in Long Beach, N.Y. "There was a gap in the [restaurant] market. People were spending $4 to $5 at [fast-food] restaurants or $10 at sit-down places."

This gap has allowed fast-casual to carve a substantial niche in the market. While the exact definition of fast-casual is hard to pin down, a commonly accepted one is based on a $7-to-$10 price, five-to-eight minute order time, made-to-order preparation, nice ambience and décor, and a food delivery system where customers make menu selections at a counter and the food is brought to customers' tables, according to Fast Casual.

Fast-casual customers are seeking a different experience from fast-food in terms of service and quality, but at a better price point than casual dining. "People are seeking the best in quality and more specialized offerings. They want their products quickly, with premium service, and often take it to go," says Janet Astor, vice president of real estate and store development for Minneapolis-based Caribou Coffee.

Fast-casual captured $11 billion in sales in 2006, accounting for a small but growing restaurant industry sector. The nation's approximately 925,000 restaurants were expected to reach $511 billion in sales in 2006, according to Fast Casual. Fast-casual outlets account for approximately 9 percent of the restaurant industry, but are expected to grow at double the rate of the restaurant industry overall. In fact, fast-casual is expected to increase between 10.8 percent and 12.5 percent each year through 2009, according to a report by Technomic, a Chicago-based food industry consulting and research company.

Hungry Investors
Fast-casual's quick acceptance indicates America's growing taste for high-quality food prepared quickly. And there are plenty of investors that want a piece of the pie. Big chains such as Chipotle and Panera are experiencing yearly same-store increases of 33 percent and 29.7 percent respectively, according to Technomic.

Some fast-casual concepts seek investment capital from or are sought out by larger fast-food companies. This relationship offers additional money, the ability to buy more property, and a wealth of real estate knowledge, say restaurant industry watchers in a BusinessWeek report. McDonald's bought into Chipotle in 1998 when Chipotle founder and CEO Steve Ells asked for financing. Since then, McDonald's has sold its shares, but the backing allowed Chipotle to expand. Other big-time backers of fast-casual chains include Wendy's International's investment in Baja Fresh Mexican Grill, Café Express, and Pasta Pomodoro; McDonald's ownership of Boston Market; and Jack in the Box's ownership of Qdoba Mexican Grill.

Still, most fast-casual concepts start out as privately owned companies, and many choose to stay that way, seeking local investors and experienced franchisees. One of the most attractive aspects of fast-casual is the propensity to make a lot of money in a small space, Astor says. "Typically the space requirements for this sector are small but the concepts bring high customer counts, making this sector favorable to nearby tenants in retail developments," she says. Fast-casual's ability to draw customers to a mall or area makes them a popular tenant with landlords as well.

But smaller sites mean smaller rents. While large companies such as Atlanta-based Raving Brands and Panera have the capital to build locations, most fast-casual concepts lease existing space. Guy M. Parker, CCIM, president of Parker Real Estate Properties in Jackson, Miss., works with McAlister's Corp., a fast-casual company based in Ridgeland, Miss., that runs McAlister's Deli and launched a new concept in 2006 - Newk's Express Café. "As with any client, they are rent sensitive. But they are willing to pay in the high teens to low $20s per square foot in the Jackson marketplace. Rent will vary based on the city and location and will have to be evaluated on a case-by-case basis," Parker says.

McAlister's Deli has grown to more than 200 stores since the first location opened in an old gas station 15 years ago. The company is expected to earn $260 million in 2006 and continues to seek multi-unit franchisees. "Due to the success of the McAlister's Deli operations, [the new concept] is very appealing on a local scale to investors. So far they have franchisees in several other cities ... [they have] a very proven, very solid operator, so investors in our market [Jackson, Miss.] are very, very interested in working with them and bringing them to their centers," Parker says.

Raving Brands, a restaurant conglomerate that owns several concepts including Moe's Southwest Grill, Planet Smoothie, Mama Fu's Asian House, and Doc Green's Gourmet Salads, also has no trouble finding investors. "Finding franchisees is not our problem at all. We have to get better and better real estate," says Martin Sprock, owner of Raving Brands, in an interview with QSR Online.

Photo caption: Moe's Southwest Grill is Raving Brands' flagship concept and features one of the most popular fast-casual concepts -- Mexican specialties such as burritos.
Photo credit: Raving Brands

The Right Site
Location can mean the difference between lunchtime crowds or empty tables for a fast-casual concept. Restaurants that value freshness must locate in areas that get enough traffic to sell items quickly to ensure they remain fresh, Fetscher says.

This means locating on busy street corners and in high-traffic shopping centers. "Fast-casual looks for a lot of the same things in site selection as fast-food," says Terry L. Conley, CCIM, MCR, president of the Location Connection in Cassville, Ga. "But there are some differences. Fast-food needs to be right in [consumers'] faces, but people will make an extra turn or two for fast-casual."

Still, most fast-casual concepts look for end-cap locations in shopping centers or free-standing properties. Nothing But Noodles, a Scottsdale, Ariz.-based fast-casual concept specializing in made-to-order Asian, European, Mediterranean, and American pasta dishes, looks for 2,800 sf to 3,600 sf with good street visibility and plenty of parking, as well as easy entry and exit for customers.

Easy coming and going, in addition to ample parking are key elements throughout the sector. "Location has been very key," says Parker. "Newk's needs either a free-standing building in a high-traffic location or a very prominent end-cap location with the ability to have outdoor seating. Also, 85 to 100 parking spaces is a necessity based on their volume; in addition they need two to three designated 'grab-n-go' spaces - that constitutes 35 percent of their business," he says.

Raving Brands employs an eight-person in-house management team that works with a network of 400 real estate brokers nationwide to scout and lease locations, according to a Restaurant Hospitality report. With 500 locations, Raving Brands plans to add 25 percent more restaurants by the end of 2008, which would bring their total to between 1,200 and 1,500 locations. The company often buys more than one location in a shopping center because they have several brand concepts to choose from. "This satisfies landlords' desire for large deals instead of multiple small ones," according to the Raving Brands corporate Web site.

Photo caption: Panera Bread's more than 930 bakery-cafes located in 37 states offer comfortable chairs and a welcoming atmosphere to encourage customers to linger.
Photo credit: Panera LLC

Attracting a Crowd
Like any commercial real estate investment, fast-casual concepts must consider local demographics as well as physical location when selecting sites. "The White Castle customer isn't going to go for fast-casual," Fetscher says. While fast-food customers are interested in price over value, fast-casual's customers have different priorities.

Eighteen- to 34-year-olds tend to buy the most fast-food, but they are choosing fast-casual in increasing numbers and now represent 37 percent of that market's consumers, according to an NPD Group study. Most fast-casual concepts also look for a consumer base that falls into the mid- to upper-income bracket.

"In Atlanta, fast-casual is moving into suburban areas around the I-285 freeway that circles the city. There are still a lot of deals happening downtown in urban infill areas where redevelopment is happening," Conley says.

Nothing But Noodles considers sites near "high-rise, downtown, or light industrial office parks, hospitals, high-tech employers, white-collar employers, and colleges and universities ... [A dinner crowd] mandates middle- to upper-middle-class families with children, with a high percentage of some college plus young professionals residing nearby in multiple housing apartments and condominiums," according to the company Web site.

The lunch crowd also necessitates adjacent offices or work places. "[Fast-casual] is eating into lunch sales at full-service restaurants, and it's going to pull some sales from [fast-food]. A lot of people just don't have enough lunchtime for table service, but don't want to do the drive-thru," says Bill Hulkower, a Mintel International market analyst.

Caribou Coffee looks for markets with similar characteristics, as well as a steady stream of traffic throughout the day. "The right demographic make-up - typically higher income - convenience, commuter routes, appropriate tenant mix, and generators for all day parts," are all things Caribou considers, Astor says.

With so many concepts to choose from, Raving Brands claims it can make almost any location work, from a downtown central business district to suburban strip malls to stand-alones. The company's aggressive real estate strategy often allows them to lease several locations in one area. For example, four of Raving's concepts opened in Atlanta's Atlantic Station mixed-use complex this year. Although locating several concepts close together may raise concerns about cannibalizing, it actually can be a good strategy in terms of negotiating leases and it gives consumers the impression that the company is growing quickly.

Future Growth
For Raving Brands - and the fast-casual industry overall - this assumption would be true. The business of serving high-quality food faster than casual-dining restaurants will continue to grow. With consumers spending 44 percent of their food budget on eating out, a proportion that is expected to rise to 53 percent in the next four years, according to a National Restaurant Association study, fast-casual will continue to crop up as a valuable investment opportunity in markets across the U.S.

Carolyn Bilsky is associate editor of Commercial Investment Real Estate.

Photo caption: Caribou Coffee strives to be a place where "customers can escape and recharge in a relaxing setting," says Janet Astor, vice president of real estate and store development.
Photo credit: Caribou Coffee

What Consumers Crave
Despite health concerns, in parts of the country, some consumers are looking for a traditional slice of Americana.
For example, in Atlanta, Terry L. Conley, CCIM, MCR, president of the Location Connection in nearby Cassville, Ga., finds that "people talk tofu, but they serve red meat." One of the hottest fast-casual brands in Atlanta is Washington, D.C.-based Five Guys Famous Burgers and Fries. This fast-casual concept serves a basic menu of hamburgers, French fries, hot dogs, and grilled cheese, with everything prepared made to order with all fresh ingredients; nothing is ever frozen. With a price point of $4.49 per burger, consumers get a higher-quality meal for only $1.50 more than a McDonald's Quarter Pounder meal.

The concept has been so successful that Five Guys works carefully to limit growth to ensure quality. The company began franchising four years ago, and has grown to 87 locations along the East Coast. With earnings approaching $1 billion, each additional store is worth $1 million according to a Washington Post report.

Healthy Appetites
One of the major drivers of consumers' craving for fast-casual is increasing health consciousness. "Even though America is gaining weight overall, the average American will try to lose weight at some point in his or her life," says Paul G. Fetscher, CCIM, president of Great American Brokerage in Long Beach, N.Y. Nearly one-third of Americans have made changes to their diet in the last five years to improve their health, according to a 2005 International Food Information Council survey. And when consumers are watching what they eat, they are likely to turn to fast-casual for meals.

The fast-casual sector has earned the reputation as a healthier and fresher alternative to fast-food. Most fast-casual restaurants emphasize the importance of fresh ingredients and avoid the deep-fryer. More than half of 2,000 adult respondents surveyed in a Mintel International Group survey felt that fast-casual was healthier than fast-food and therefore were willing to pay more for it.

This new food awareness also extends to concerns about preservatives and additives, and consumers are willing to spend more for food they believe is fresher than fast-food, Fetscher says. Chipotle Mexican Grill - in particular - has capitalized on this phenomenon by promoting their "Food With Integrity" platform. This agenda is a pledge to serve food products that are fresh and organic, as well as hormone- and antibiotic-free. In 2002, the brand began offering steroid-free, free-range pork in their carnitas (a Mexican pork dish) as part of the campaign. Although the pork was more expensive and the company raised the carnita price by $1, sales still increased. Chipotle led the nation's restaurant sales in system wide growth and total U.S. unit growth this year, according to Nation's Restaurant News rankings, an increase that one study attributes to the chain's social and nutritional consciousness.