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2013 Canadian Chain Restaurant Industry Review (partial version)

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GE CAPITAL PUBLISHES ANNUAL REVIEW OF CANADIAN CHAIN RESTAURANT INDUSTRY …

GE CAPITAL PUBLISHES ANNUAL REVIEW OF CANADIAN CHAIN RESTAURANT INDUSTRY

The Canadian Chain Restaurant Industry Review is an extensive research report commissioned by GE Capital and compiled by fsSTRATEGY and The NPD Group Canada . Originally released MAY 2012, the annual publication can only be received in hard copy at the Canadian Restaurant Investment Summit.

The report is a comprehensive analysis and factual overview of the state of chain foodservice in Canada. Findings have implications for job growth, construction activity and other factors that impact the economic health of Canada for several years to come. The report also sheds light on consumer spending habits and trends from province to province.

Complete copies are only available to registered delegates of the Canadian Restaurant Investment Summit .


2013 Provincial Dining Trends
• Ontario has the highest commercial foodservice sales at $20.062 billion, followed by Quebec at $10.485 billion.
• Alberta has the highest per capita commercial foodservice sales ($1,991), as well as the country's fastest-growing commercial foodservice sales, up 8.9 percent in 2012.
• Ontario has the largest population but its per capita commercial foodservice sales total $1,485.
• Manitoba has the lowest per capita commercial foodservice sales at $1,214, followed by Quebec at $1,289.
• On average, diners in Alberta spend $777 or 64.0% more in commercial foodservice establishments than diners in Manitoba.
• Nationwide, 62.2% of restaurant expenditures are in chain restaurants; Quebec has the greatest percentage of foodservice expenditures at independent restaurants at 48.4 percent.

2012 Research Findings:
• Canadian foodservice industry sales are expected to increase by 3.1% to CAD$65.4 billion in 2012.
• Visits to Canada’s commercial foodservice industry remained relatively flat last year, growing just 1% over the prior year.
• Alberta was the fastest-growing market at 7.8%.
• British Columbia was the only province that experienced foodservice revenue declines.

The report includes insights from the C-suite executives of leading Canadian chains on important issues such as:
• The greatest opportunities and threats in the foodservice industry,
• Restaurant industry merger and acquisition opportunities,
• Expected changes in sales as well as labour and food costs, among other operating and occupancy costs, and
• The outlook on restaurant industry capital expenditures.



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  • 1. GE Capital Franchise Finance 2013 Canadian Chain Restaurant Industry Review 1 Preface 2 Introduction 3 Foodservice Industry Profile 4 Top-of-Mind – What CEOs Think 5 Trends Impacting Restaurants 6 Finance 7 Cost of Doing Business 8 Notes Research Partners
  • 2. Insightful and Trustworthy Data to Help Grow our Businesses Welcome to GE Capital’s annual review of the Canadian chain restaurant industry. The Canadian Chain Restaurant Industry Review was launched last year and generated quite a bit of buzz in the industry. Building on this success, GE Capital has commissioned it again this year. I am pleased to bring you this comprehensive analysis and overview on the state of chain foodservice in this country, with the goal of providing insight into key factors affecting our Canadian industry. Our focus continues to be on external influencers that have an impact on your business, whether financial, consumer, or economic. GE Capital wishes to thank fsSTRATEGY and The NPD Group Canada for their great work compiling and analyzing these results. As our economy keeps on improving, our review shows Canadians continue to spend more and more at commercial restaurants, with a 2013 year-over- year increase of +4%. In fact, total Canadian foodservice industry sales are expected to increase by 3.6%, or almost $2.4 billion, rising to $67.9 billion in 2013. I find this data very encouraging for the future of our industry. Reading through the Canadian Chain Restaurant Industry Review will undoubtedly give you food for thought. Our market insights also will assist you in building forward-looking plans to help grow your business. The Canadian chain foodservice industry has gotten stronger in the past years, and it’s thanks to your passion and dedication. I wish you all continued success in your endeavors. Ed Khediguian GE Capital, Canada Franchise Finance GE Capital, Franchise Finance Canada We’re More Than Just Bankers, We’re Builders GE Capital, Franchise Finance is a leading lender to the restaurant and hospitality industries in Canada. We specialize in financing regional and national restaurant businesses of all sizes across the country. In the past 11 years, we’ve financed more than 725 restaurant customers with upwards of 1,525 property locations. That’s in excess of $1.25 billion that we’ve invested in the Canadian restaurant space. In addition to financing at the franchisee and franchisor levels, we lend money for new developments, recapitalizations of existing businesses, mergers and acquisitions, and management-led buyouts. But we offer our clients more than money. At GE Capital, we’re not just bankers, we’re builders. On top of smart financing, we provide the know- how of GE to help your capital go further and do more. We’re excited that you’re building something great. It takes money, along with knowledge and expertise. That’s where we come in. Here are some reasons to consider financing with us: žž A vast portfolio of national and regional restaurant relationships – in a variety of quick service and casual formats – that we’ve maintained through economic ups and downs; žž Deep expertise in the franchise business and a special understanding of the brands that operate in this market; žž A cash flow-based lending model that allows us to value a business based on performance, while taking into account seasonality and other operational issues that specifically affect restaurants; and žž The Access GE program, through which we bring the tools, resources, insights, and expertise of GE to help business leaders with their most pressing challenges. We look forward to working with you as you continue to grow and succeed. GE Capital Franchise Finance GE Capital Franchise Finance 1 | Preface Preface1 2 3
  • 3. fsSTRATEGY Inc. (“fsSTRATEGY”) and The NPD Group, Inc. (“NPD”) are pleased to release this 2013 Canadian Chain Restaurant Industry Review as part of the 2013 Canadian Restaurant Investment Summit. This report is the culmination of extensive primary and secondary research conducted by fsSTRATEGY and NPD. Sources include: žž Research and data provided by the Canadian Restaurant and Foodservices Association (“CRFA”). žž C-Suite Survey conducted in January and February 2013 by fsSTRATEGY and sent to over 80 CEOs and CFOs in the Canadian chain foodservice market with a response rate of 36%. žž Detailed data from NPD’s panel of 100,000 Canadians including its Future of Foodservice study as well as Consumer Report On Eating Share Trend (CREST). žž Interviews with selected food grower associations, foodservice distributors, and landlords. žž Information prepared by GE Canada on the state of money markets and chain restaurant financing. žž Secondary research data gleaned from other sources, such as Statistics Canada, PKF Consulting, TD Economics, the Conference Board of Canada, University of Guelph, Human Resources and Skills Development Canada, Canada Ministry of Labour, Ontario Energy Board, International Monetary Fund, and RSMeans. For further information, please contact: Geoff Wilson or Jeff Dover Robert Carter, Executive Director fsSTRATEGY Inc. The NPD Group (Canada), Inc. gwilson@fsSTRATEGY.com robert.carter@npd.com jdover@fsSTRATEGY.com (647) 723-7767 (416) 229-2290 Now in it’s fourth year, the Canadian RestauRant investment summit has solidly established itself as the annual business conference that brings the industry into focus. Operators, chain executives, franchise operators, investors, lenders and key suppliers from across the country agree that this is the event that delivers what they need - insight, information and opportunity—all with meaningful content and a tight focus that is uniquely Canadian. Each year, the Summit presents topical issues and noted thought leaders who share opinions, stimulate discussion and create new directions. The entire conference program is designed to yield authoritative information and the latest data from across the country. When combined with the powerful networking opportunities it presents, the Summit is an experience that is unequalled anywhere in Canada. CaNadiaN RESTauRaNT iNvESTmENT SummiT maY29-30,2013 HilTON TORONTO HOTEl RESTauRaNTiNvEST.Ca RESTauRaNTiNvEST.Ca RESTauRaNTiNvEST.Ca RESTauRaNTiNvEST.Ca TOP NamE iNduSTRY SPEaKERS. SERiOuS NETWORKiNG. THaNK YOu fOR jOiNiNG THE diSCuSSiON. RESEaRCH PaRTNERS SilvER BRONZE am BREaK mEdia PaRTNERS *Confirmed Sponsors as of march 27, 2013 COffEE PlaTiNum SPONSOREd BY* BEvERaGE Introduction2 5 2 | Introduction 4
  • 4. 3.1 Canadian Foodservice Industry Sales Canadian foodservice industry sales represented approximately 3.6% of national gross domestic product in 2012, and industry sales are expected to increase by 3.6% to $67.9 billion in 2013. The Canadian foodservice industry is divided into commercial and non-commercial sectors. Commercial foodservice includes full-service restaurants (“FSR”), quick-service restaurants (“QSR”), and drinking places. Chain foodservice sales reside in these three categories. Historic Nominal Foodservice Sales by Sector 2009 2010 2011 2012 2013 Final Change Final Change Final Change Preliminary Change Forecast Change Quick-service restaurants $ 20,133.8 3.2% $ 21,219.7 5.4% $ 21,962.0 3.5% $ 23,144.6 5.4% $ 24,024.1 3.8% Full-service restaurants 20,675.0 -0.9% 20,931.4 1.2% 21,486.0 2.6% 22,693.2 5.6% 23,487.4 3.5% Contract and social caterers 3,732.8 -3.1% 3,997.6 7.1% 4,213.5 5.4% 4,395.8 4.3% 4,602.4 4.7% Drinking places 2,554.8 -0.2% 2,467.7 -3.4% 2,362.4 -4.3% 2,351.3 -0.5% 2,332.5 -0.8% Total Commercial $ 47,096.4 0.6% $ 48,616.3 3.2% $ 50,024.0 2.9% $ 52,584.8 5.1% $ 54,446.3 3.5% Accommodation foodservice $ 4,861.0 -14.1% $ 5,206.0 7.1% $ 5,235.0 0.6% $ 5,544.0 5.9% $ 5,794.0 4.5% Institutional foodservice1 3,251.9 -3.7% 3,392.3 4.3% 3,562.1 5.0% 3,697.9 3.8% 3,862.2 4.4% Retail foodservice2 1,282.3 4.4% 1,285.4 0.2% 1,267.6 -1.4% 1,314.5 3.7% 1,367.1 4.0% Other foodservice3 2,195.5 -1.0% 2,254.8 2.7% 2,304.4 2.2% 2,362.0 2.5% 2,416.3 2.3% Total Non-Commercial $ 11,590.7 -7.1% $ 12,138.4 4.7% $ 12,369.0 1.9% $ 12,918.4 4.4% $ 13,439.6 4.0% Total Foodservice $ 58,687.1 -1.0% $ 60,754.7 3.5% $ 62,393.0 2.7% $ 65,503.2 5.0% $ 67,886.0 3.6% Menu inflation 3.5% 2.4% 2.9% 2.5% 2.5% Real Growth -4.5% 1.1% -0.2% 2.5% 1.1% Source: Canadian Restaurant and Foodservices Association’s InfoStats, Statistics Canada, fsSTRATEGY Inc., and PKF Consulting 1 Includes self-operated education, transportation, health care, correctional, remote, private & public sector dining, and military foodservice. 2 Includes foodservice operated by department stores, convenience stores, and other retail establishments. 3 Includes vending, sports and private clubs, movie theatres, stadiums, and other seasonal or entertainment operations. Foodservice Industry Profile 3.1 Canadian Foodservice Industry Sales 3.2 Chain versus Independent Operator Sales 3.3 Provincial Sales Trends 3.4 Same Store Sales Growth 3.5 C-Suite Expectations for Sales and Traffic 3 6 7 2013 Canadian Chain Restaurant Industry Review 3 | Foodservice Industry Profile
  • 5. As shown, commercial foodservice sales increased by 5.1% in 2012, while non-commercial sales increased by 4.4%. Commercial foodservice sales are projected by the CRFA to increase by 3.5% to $54.4 billion in 2013. Historical Foodservice Sales Total versus Commercial – 1990 through 2013 (Forecast) Source: Canadian Restaurant and Foodservices Association’s InfoStats, Statistics Canada, fsSTRATEGY Inc., and PKF Consulting Total nominal foodservice sales are expected to increase from $30.8 billion in 1990 to an estimated $67.9 billion in 2013. This represents a compound average growth rate of 2.89%. Commercial sales (which include chain restaurant sales) represent over 80% of total foodservice sales, compared to 75% in 1990. 2013 Forecasted Share of Foodservice Sales by Sector Total Foodservice Commercial Foodservice Source: Canadian Restaurant and Foodservices Association’s InfoStats, Statistics Canada, fsSTRATEGY Inc. and PKF Consulting 3 Adjusted for menu inflation. QSRs and FSRs generate relatively similar sales and represent 87.3% of commercial foodservice sales and 70.0% of total foodservice sales. $- $10 $20 $30 $40 $50 $60 $70 $80 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012-p 2013-f BillionsofDollars Commercial Foodservice Total Foodservice p = preliminary f = forecast 1990: Commercial Foodservice 75.0% of Total Foodservice 2013: Commercial Foodservice 80.2% of Total Foodservice 23 22 23 24 26 27 28 29 31 33 35 36 37 38 40 41 43 45 47 47 49 50 53 54 31 29 30 31 33 33 35 37 39 41 44 45 47 47 50 52 55 57 59 59 61 62 66 68 $54,446.3 $5,794.0 $3,862.2 $1,367.1 $2,416.3 Total Commercial Accommodation foodservice Institutional foodservice Retail foodservice Other foodservice $24,024.1 $23,487.4 $4,602.4 $2,332.5 Quick-service restaurants Full-service restaurants Contract and social caterers Drinking places 8 9 2013 Canadian Chain Restaurant Industry Review
  • 6. 80 85 90 95 100 105 110 115 2007 2008 2009 2010 2011 2012 Total Commercial Full-Service Restaurants Quick-Service Restaurants Caterers Drinking Places Sales Index 2007 = 100 100 102.3 99.4 100.3 100.3 102.9 101.5 97.3 96.1 95.9 98.7 104.0 103.5 106.9 107.4 111.0 100.9 94.4 98.8 101.2 101.3 99.0 95.5 90.1 83.9 81.5 Growth trends vary by sector. The following table compares the real sales (adjusted for inflation) growth indices (2007 real sales = 100) of various commercial foodservice sectors. Sales Index by Industry Segment Source: Canadian Restaurant and Foodservices Association’s InfoStats, Statistics Canada, fsSTRATEGY Inc., and PKF Consulting As shown, caterers saw the greatest decline in sales during the 2009 recession, but have since returned to pre-recession sales levels. FSR sales dropped by six index points in 2009 and continued to decline until 2011. Real FSR sales increased in 2012, but they have yet to return to pre-recession levels. QSR sales continue to grow. Sales for drinking places continue to decline due largely to a reduction in the number of establishments classifying themselves as drinking places. Many such operations have been reclassified as FSRs. 3.2 Chain versus Independent Operator Sales The chart below graphically depicts the share of chain and independent restaurant expenditures in various regions of Canada for 2012. Chain versus Independent Restaurant Expenditures – 2012 Source: The NPD Group/CREST® As shown, 62.2% of the expenditures in restaurants in Canada are in branded local, regional, national, and international chains. Quebec has the greatest percentage of independent restaurant expenditures, with almost half of all restaurants’ sales not affiliated with chains. 0 20% 40% 60% 80% 100% Chain Restaurants Independent Restaurants CanadaWestOntarioQuebecAtlantic 30.6% 69.4% 48.4% 51.6% 34.6% 65.4% 38.8% 63.2% 37.8% 62.2% 10 11 2013 Canadian Chain Restaurant Industry Review 3 | Foodservice Industry Profile
  • 7. The following graph demonstrates consumer spending in restaurants for quick-service restaurants, family/midscale restaurants, casual restaurants, and fine dining. Expenditures are compared for chain and independent operators by restaurant type. Dollars Spent by Restaurant Type—Chain versus Independent Restaurants 2007 to 2012 (12-Month Periods Ending November) Source: fsSTRATEGY Inc. using data from The NPD Group/CREST® As the chart demonstrates, quick-service restaurant chains realized the greatest expenditure with segment’s share of sales increasing from 41.6% in the 12 months ending November 2007 to 44.7% in the 12 months ending November 2012. Expenditures in independent quick-service restaurants are significantly lower, and growth was flat throughout the period. In the family/midscale restaurant segment, independent restaurants have a greater share and demonstrated better growth than that of chains. In casual restaurants, chains realized slightly lower expenditures than independents, but they demonstrated superior growth throughout the six-year period. Casual independent restaurants experienced declining expenditures through the recession but appear to be enjoying a slight recovery. Finally, expenditures in fine dining restaurants are the lowest. Fine dining restaurant expenditures declined through the recession and only just showed a slight improvement in 2012. Clearly, opportunity exists for midscale and casual chains to gain market share from independents. 3.3 Provincial Sales Trends Canadian Commercial Foodservice Sales by Province – 2008 through 2012 Canada Newfoundland andLabrador PrinceEdward Island NovaScotia New Brunswick Quebec Ontario Manitoba Saskatchewan Alberta British Columbia Revenues (thousands) 2008 $46,795,255 $565,006 $176,233 $1,210,275 $891,334 $9,304,854 $17,593,324 $1,290,495 $1,287,297 $6,618,399 $7,709,844 2009 $47,096,429 $588,886 $175,136 $1,209,506 $938,700 $9,385,175 $17,631,848 $1,338,637 $1,356,991 $6,526,605 $7,795,980 2010 $48,616,283 $644,086 $184,145 $1,252,019 $968,838 $9,715,759 $18,381,418 $1,369,856 $1,428,570 $6,665,414 $7,846,102 2011 $50,023,975 $679,708 $187,481 $1,275,087 $962,206 $9,906,542 $19,159,000 $1,440,093 $1,506,167 $7,082,169 $7,662,998 2012-p $52,584,794 $739,300 $194,345 $1,333,440 $980,134 $10,385,145 $20,062,403 $1,538,140 $1,628,761 $7,713,405 $7,845,187 Percent Change vs Previous Year 2008 4.8% 6.1% 3.2% 8.6% 5.3% 6.1% 5.7% 5.4% 10.2% 3.3% 1.3% 2009 0.6% 4.2% -0.6% -0.1% 5.3% 0.9% 0.2% 3.7% 5.4% -1.4% 1.1% 2010 3.2% 9.4% 5.1% 3.5% 3.2% 3.5% 4.3% 2.3% 5.3% 2.1% 0.6% 2011 2.9% 5.5% 1.8% 1.8% -0.7% 2.0% 4.2% 5.1% 5.4% 6.3% -2.3% 2012-p 5.1% 8.8% 3.7% 4.6% 1.9% 4.8% 4.7% 6.8% 8.1% 8.9% 2.4% Source: Canadian Restaurant and Foodservices Association’s InfoStats, Statistics Canada, fsSTRATEGY Inc., and PKF Consulting As shown, at 8.9% growth in 2012, Alberta continues to be the fastest-growing provincial market, followed by Newfoundland and Labrador, which grew by 8.8% in 2012. Ontario accounts for 38.2% of total commercial foodservice sales. QuickService Chains QuickService Independents Family/Midscale Chains Family/Midscale Independents CasualChains CasualIndependents 2007 2008 2009 2010 2011 2012 20,000 15,000 10,000 5,000 0 12 13 2013 Canadian Chain Restaurant Industry Review
  • 8. As shown, Ontario and Quebec have the greatest commercial foodservice sales. Despite having the largest population, Ontario, with per capita commercial foodservice sales of $1,485, trails Alberta ($1,991), British Columbia ($1,697), and Saskatchewan ($1,508). Manitoba, at $1,214, has the lowest per capita commercial foodservice sales, followed by Quebec ($1,289) and New Brunswick ($1,296). On average, diners in Alberta spend $777 or 64.0% more in commercial foodservice establishments than diners in Manitoba. Source: Canadian Restaurant and Foodservices Association and Statistics Canada The following table compares total commercial foodservice sales and commercial foodservice sales per capita by province. 2012 Commercial Foodservice Sales and Commercial Foodservice per Capita by Province $0 $200 $400 $600 $800 $1,000 $1,200 $1,400 $1,600 $1,800 $2,000 $0 $5,000 $10,000 $15,000 $20,000 $25,000 NL PE NS NB QC ON MB SK AB BC $1,330.17 $1,296.56 $1,289.32 10,385.1 20,062.4 $1,485.45 $1,214.00 $1,508.17 $1,991.20 $1,697.15 7,845.27,713.4 1,628.81,538.1 980.1 1,333.4 194.3 739.3 PerCapitaSalesinDollars 2011 Commercial Foodservice Sales 2011 Commercial Foodservice Sales Per Capita NationalAverage Per Capita Spend National Commercial Foodservice Sales Per Capita SalesinMillionsofDollars $1,442.09 $1,405.55 Same Store Sales Growth 2007 through 2012, Selected Publicly-Traded Restaurant Chains 2.9% 2007 1.8% -1.5% 2008 1.4% 2009 2.5% 20112010 1.1% 2011 0.5% -0.5% 0.0% 1.0% -1.0% 1.5% -1.5% 2.0% -2.0% 2.5% 3.0% 3.5% Source: fsSTRATEGY Inc. using data from publicly-traded company annual and quarterly reports. As the exhibits demonstrate, SSSG declined significantly through the economic recession. A gradual recovery ensued in 2010 and 2011. However, SSSG declined again in 2012, demonstrating the fragility of the recovery. Same Store Sales Growth Percentage 2007 2008 2009 2010 2011 2012 Minimum -3.9% -1.2% -6.5% -1.7% -0.1% -1.2% Average 2.9% 1.8% -1.5% 1.4% 2.5% 1.1% Maximum 5.9% 7.3% 2.9% 4.9% 4.9% 3.7% Source: fsSTRATEGY Inc. using data from publicly-traded company annual and quarterly reports. Average Same Store Sales Growth 2007 through 2012, Selected Publicly-Traded Restaurant Chains 3.4 Same Store Sales Growth Same Store Sales Growth (“SSSG”) is a measure of the performance of restaurant chains year-over- year, comparing for the same base of stores from one year to the next on a rolling basis. The table below provides an average of SSSG from 2007 to 2012 for the seven largest Canadian publicly-traded restaurant chains. Data from 2012 has been taken from either annual reports or Q3 reports as available by chain. 14 15 2013 Canadian Chain Restaurant Industry Review 3 | Foodservice Industry Profile 14
  • 9. The following chart, prepared from data from the CRFA’s 2012 Q4 Restaurant Outlook Survey, compares restaurant operators’ reports on the trend of their Same Store Sales (“SSS”) for Q4 2011, Q4 2012, and their prediction for the next six months. Quarter Four Same Store Sales Change over Previous Year – 2011, 2012, and Next Six Months Prediction 3.5 C-Suite Expectations for Sales and Traffic Once again, fsSTRATEGY has completed a survey of Canadian foodservice executives to gain their insights on the state of the industry for the Canadian Restaurant Investment Summit and to capture opinions and industry forecasts from Canada’s industry leaders. Executives from 80 restaurant chains were invited to participate in the 2013 C-Suite Survey. Twenty-nine brands responded, representing a 36% response rate and approximately 5,870 or 7% of Canadian restaurants. Responses from the C-Suite survey have been included throughout this book. Respondents to the C-Suite Survey were asked how they expected industry sales and traffic to change in 2013. In 2013, Compared to 2012, Industry Sales are Expected to: Decline 5.1% to 7.5% 0% Decline 2.6% to 5% 0% Decline 0.1% to 2.5% 5% Remain Flat 5% Increase 0.1% to 2.5% 60% Increase 2.6% to 5% 30% Increase 5.1% to 7.5% 0% Not sure 0% In 2013, Compared to 2012, Industry Traffic is Expected to: Decline 5.1% to 7.5% 0% Decline 2.6% to 5% 0% Decline 0.1% to 2.5% 10% Remain Flat 50% Increase 0.1% to 2.5% 25% Increase 2.6% to 5% 15% Increase 5.1% to 7.5% 0% Not sure 0% Source: fsSTRATEGY Inc. C-Suite Survey Most respondents (60%) expect industry sales to increase by up to 2.5% in 2013, while 50% of respondents expect traffic to remain flat. This suggests that revenue increases will depend on operators’ ability to increase average checks. Source: fsSTRATEGY Inc. using data from CRFA’s Q4 Restaurant Outlook Survey As shown, more operators reported SSS to be relatively consistent in 2012 than operators reporting SSS to be growing or declining. Looking forward into the next six months, an even greater number of operators felt SSS would remain consistent. Clearly, confidence in the recovery of industry sales remains cautious, underlining the need for operators to focus on retaining existing business and generating higher margins to achieve better profitability. 24.0% 33.0% 37.5% 51.0% 36.0% 28.2% 21.0% 31.0% 34.2% 0.0% 10.0% 20.0% 30.0% 40.0% 50.0% 60.0% Next six months 2012 Q4 2011 Q4 Lower About the same Higher 16 17 2013 Canadian Chain Restaurant Industry Review 3 | Foodservice Industry Profile
  • 10. 4.1 Opportunities C-Suite Survey participants were asked to list the three greatest opportunities in the foodservice industry for 2013. Greatest Opportunities for Foodservice Industry, 2013 Opportunity Percentage of Respondents Acquisition and consolidation 23% Cost control/containment 18% Guest experience/customer service 14% Healthy options 14% Premiumization 14% Growth 9% Menu innovation 9% Smaller unit footprints 9% Social media 9% Source: fsSTRATEGY Inc. C-Suite Survey The results suggest sustaining existing business (through improving customer experience, offering healthy options, and using “premiumization”), consolidating existing units, and cost control are top-of- mind for Canadian chain foodservice executives. 4.2 Threats C-Suite participants were asked to list the three greatest threats in the foodservice industry for 2013. Greatest Threats for Foodservice Industry, 2013 Threats Percentage of Respondents Operating Costs Labour Cost 54.5% Food Cost 36.4% Rent 13.6% Other/General 40.9% Market Saturation/Competition 36.4% Competition from American Brands 9.1% Economy 31.8% Government Policy 13.6% Availability/Quality of Skilled Labour 13.6% Source: fsSTRATEGY Inc. C-Suite Survey Given the nature of the opportunities identified in the previous section, the importance of operating costs as the most significant threat is not surprising. Interestingly, market saturation and competition, including competition from the United States, are also top-of-mind, as are economic conditions. Top-of-Mind What CEOs Think 4.1 Opportunities 4.2 Threats 4.3 Biggest Changes 4 18 19 2013 Canadian Chain Restaurant Industry Review
  • 11. 4.3 Biggest Changes 4.3.1 Short-Term Changes C-Suite Survey participants were asked what they thought would be the biggest short-term changes in the foodservice industry. While responses were quite broad in nature, several key themes emerged: žž Competition. Competition is expected to intensify, which is not a surprise given limited sales and traffic growth in the past few years and the constant need for chains to demonstrate performance improvement to shareholders. Competition is expected to intensify in several ways: žž new players, especially from the United States; žž the rise of fast casual concepts; žž competition on price; and žž challenges in some local markets from savvy independents. žž Consolidation. Survey participants from full-service dining concepts predict the fall-out of some chains, more closures of non-performing units, and declining market share for high-check average restaurants. žž Menu changes. Participants expect increasing specialization of menus and concepts, as well as increased pressure to offer healthy alternatives. žž Social media. Social media will continue to play a role in influencing consumer behaviour and therefore the success of chains and outlets. 4.3.2 Long-Term Changes C-Suite Survey participants were asked what they thought would be the biggest long-term changes in the foodservice industry. Once again, several key themes emerged: žž Contraction and redefinition. In general, respondents predict contraction in terms of number of restaurants and perhaps even the number of chains. Full-service operators expect casual dining to be redefined – elimination of poorer-performing outlets will continue, better operators will rise to the top, and casual dining will take on a new face to be more relevant to consumers. One operator predicts “full-service restaurants will go the way of full-service gas stations.” While the latter prediction may seem pessimistic, clearly respondents expect full-service dining to change dramatically. žž Concept changes. Restaurant concepts will morph to focus increasingly on healthy, convenient, and improved experience options. Participants expect increases in unique/specialized concepts, take-out and over- the-counter concepts, and penetration by United States-based concepts. žž Technology. Technology and social media will play an even more important role in success. žž Demographic shift. As Baby Boomers retire, participants expect a change in that market segment’s purchase behaviours and, as a result, a need for operators to adapt. 4.3.3 Opinion Leaders fsSTRATEGY interviewed a number of key Canadian foodservice industry opinion leaders to get reactions to the C-Suite survey participants’ responses. On consolidation, the key opinion leaders indicated that while it is possible that some chains could fail, consolidation most likely will present itself as chains closing unsuccessful outlets and re- developing them as more successful, market-relevant concepts. The NPD Group’s CREST® reports there have been over 500,000 fewer full-service dining occasions over the past two years – something has to change in the full-service sector. One opinion leader suggested that “perhaps (participants expect consolidation) because they see how hard it is to sustain flat sales and make a profit, and think other, weaker chains can’t be long for this life.” On the positive side, one key opinion leader believes chains will continue to expand market share over independents. On competition from the United States, several chains have made concerted forays into the Canadian market. These include Five Guys Burger and Fries, Buffalo Wild Wings, and P. F. Chang’s. The opinion leaders observe a significant level of “tire-kicking” by other United States-based chains, triggered by the softness of the economy in the United States and the attractiveness of nearby Canada as a first foray into international development. One opinion leader commented, “Canadian CEOs need to prepare for this – it’s coming, and it’s real.” All in all, as Canadian operators develop new concepts and well-financed United States chains test the waters in Canada, existing chains with older facilities will see significant pressure and may have to rationalize. Competition for sites is fierce, which will keep the pressure up on rental rates. 20 21 2013 Canadian Chain Restaurant Industry Review 4 | Top-of-Mind What CEOs Think
  • 12. 5.1 Key Consumer Profiles Commercial Restaurant Traffic by Age Group Canadians love using restaurants. During 2012, the percentage of the Canadian population over the age of 16 visiting a restaurant daily increased to 47%. Representing over six billion guest visits to the 72,641 commercial restaurants across Canada, the Canadian restaurant industry remained a stable marketplace in 2012. Helping support this stability, older Canadians increased their use of restaurants faster than any other age group. Specifically known as “Boomers,” consumers age 55 and older increased their visits to restaurants by 6% in 2012 versus the previous year, making them the fastest- growing group of restaurant consumers in Canada. Families continued to represent the largest decline in guest visits to restaurants in 2012, a trend that carried over from 2011. Uncertain economic conditions appear to have been a factor influencing out-of-home family dining. Many restaurant concepts that rely heavily on family occasions have had to increase efforts to attract visitors for the adult-only occasion. This has led to increased menu innovations targeting adults, specifically for the breakfast and snacking dayparts. The average Boomer (55+) now eats out of home 174 times a year. Trends Impacting Restaurants 5.1 Key Consumer Profiles 5.2 Key Foodservice Industry Trends 5.3 Looking Ahead 5 5 | Trends Impacting Restaurants Commercial Restaurant Traffic by Household Income As a possible result of increased guest counts from Boomers, households with less than $45,000 in annual income are the only income group that increased their use of restaurants in 2012. Households with incomes of $45,000 to $55,000 visited restaurants less in 2012 than 2011, by two visits annually. The sharpest decline in restaurant use was by households with incomes greater than $100,000, representing a decline of 10 visits per year in 2012 compared to 2011. Historical Total Commercial Restaurant Traffic During the past three years, the global restaurant market struggled to increase sales, while the Canadian restaurant industry did not experience a prolonged period of sales declines. On average, the quarter-over-quarter dollar growth has been positive for the past three years for the Canadian restaurant market. Sustained dollar growth can be attributed to increases in average eater check, as well as stable customer traffic and an increasing share of the Canadian population using restaurants daily. 22 23 2013 Canadian Chain Restaurant Industry Review
  • 13. Percentage Restaurant Sales Growth Year-Over-Year Total Restaurants – Percentage Growth in Sales Year-Over-Year Source: The NPD Group /CREST® Visits to Canada’s commercial foodservice industry remained relatively flat in 2011, growing just 1% over the prior year, with annual volume that is 70 million visits above 2008 pre-recession levels. GDP and job growth indicate the Canadian economy is moving from recovery to expansion mode, but Canadians remain cautious about spending freely at restaurants. 5.2 Key Foodservice Industry Trends FSR and QSR Growth by Region The QSR segment in Canada has undergone a transformation during the past five years. Long gone are the uncomfortable seating and standard décor. Today’s QSRs reflect the interior design elements of FSRs. With a focus on promoting an upscale image, today’s QSR menus also reflect this change. The QSR concepts that are winning in today’s market are those that have promoted a platform of innovation – from décor to menu selection. Today, 65% of Canadians’ out-of-home occasions occur at quick-service restaurants. FSRs capture 24% of restaurant traffic; retail establishments (home meal replacement at grocery and c-stores) represent 11%. Across all provinces, customer traffic to the QSR segment was positive in 2012. Only three provinces, (Quebec, Ontario, and Alberta) experienced an increase in customer traffic to the FSR segment. 0% 1% 3% 2% 3% 1% 3% 3% 4% 5% 5% 3% 4% SON’09 DJF’10 MAM’10 JJA’10 SON’10 DJF’11 MAM’11 JJA’11 SON’11 DJF’12 MAM’12 JJA’12 SON’12 5 | Trends Impacting Restaurants 24 25 2013 Canadian Chain Restaurant Industry Review Source: The NPD Group /CRESTz 5.3 Looking Ahead Understanding today’s consumer allows Restaurant Operators to create detailed strategy plans to increase guest counts. Equally important is looking ahead at how our population is changing and how your business can capitalize on these changes. Population Trends: Age, Income, Ethnicity – Nationally and Regionally 0 5,000 10,000 15,000 20,000 25,000 30,000 35,000 40,000 45,000 50,000 Q1'11 Q2'11 Q3'11 Q4'11 Q1'12 Q2'12 Q3'12 Q4'12 Europe Asia Australasia United States, West Indies Africa Central America & Other N.A. South America Trends Analysis The most influential trend to shape the Canadian restaurant landscape over the past five years has been convenience. Today, 58% of all restaurant meals are purchased by take-out, drive-thru, or delivery. Restaurant segments that cater to convenience, such as home meal replacement (“HMR”) at grocery stores and QSR operators with drive-thrus, are better positioned to address consumers’ needs that are motivated by convenience. FSR operators also have recognized the opportunity to increase sales by increasing delivery options and prompting menu innovation on delivery menus.
  • 14. Population Projection, by Visible Minority Group Population (000s) by Broad Age Groups 2011 for the Six Largest CMAs Insights from “The Future of Foodservice” – The NPD Group’s Five-Year Forecast for the Canadian Market Published in 2012, The NPD Group’s Future of Foodservice report is the most comprehensive five- year forecast for the Canadian foodservice industry. The performance of the actual foodservice market compared to the beginning of the five-year forecast appears to be on track. The report shows restaurant traffic is anticipated to grow by +2% per year until 2016. Driven by the continued need for convenience, QSRs will lead the industry in customer traffic, while FSRs will be challenged to increase guest counts. Regional restaurant markets will experience dollar growth, driven by the increase of innovative, regional QSR and fast casual concepts. Average After-Tax Income (000s), by Economic Family Type 2006 2031 Chinese South Asian Black Filipino Latin American Southeast Asian Arab West Asian Korean Japanese Other visible minorities 72 54 76 70 82 105 43 30 75 57 79 73 86 106 44 31 76 57 80 74 87 111 45 32 76 56 80 74 86 113 47 32 77 56 81 73 89 111 47 32 Economic families, two persons or more Elderly families (2) Non-elderly families (3) Married couples Two-parent families with children Married couples with other relatives Lone-parent families Unattached individuals 2006 2007 2008 2009 2010 Source: The NPD Group /CREST® Source: The NPD Group /CREST® Source: The NPD Group /CREST® 975 632 354 223 205 211 3,901 2,632 1,646 874 823 868 514 407 226 87 96 115193 152 87 32 36 42 Toronto (Ont.) Montréal (Que.) Vancouver (B.C.) Calgary (Alta.) Edmonton (Alta.) Ottawa - Gatineau (Ont.) 0 to 14 years 15 to 64 years 65 years to 79 years 80 years and over 5 | Trends Impacting Restaurants 26 27 2013 Canadian Chain Restaurant Industry Review
  • 15. 6.1 The Economy The following chart compares total real foodservice sales growth against two economic indicators: real disposable income growth and real Gross Domestic Product (“GDP”) growth. Total Foodservice Real Growth vs. Real Disposable Income Growth and Real GDP Growth Source: Statistics Canada, Canadian Restaurant and Foodservices Association, and TD Economics Conference Board of Canada Finance 6.1 The Economy 6.2 Money Markets 6.3 Financial Markets in Canada 6.4 Total Financeable Debt Market Size and Loan Volumes 6 Year-Over-YearPercentageChange Real Foodservice Sales-Total Real Disposable Income Real GDP -16% -11% -6% -1% 4% 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012-p 2013-f 28 29 2013 Canadian Chain Restaurant Industry Review 6 | Finance
  • 16. The previous table illustrates a relationship between real foodservice sales, real GDP, and real disposable income. Comparing 1991 and 2009 suggests that real disposable income could have a shielding effect on foodservice sales during times of recession. In 1991, both GDP and disposable income declined simultaneously, and foodservice sales fell by 15%. Despite a greater decrease in GDP in 2009 (compared to 1991), real disposable income still grew slightly, and the decrease in foodservice sales was less than five percent. The following chart compares Canadian foodservice sales and consumer confidence indices. Canadian Foodservice Sales versus Consumer Confidence As shown, a positive correlation existed between consumer confidence and total foodservice sales between 1989 and 2002. However, since 2002, foodservice sales have continued to increase despite a sharp decline in consumer confidence. As shown, employment in the foodservice industry has grown at a faster rate than national employment. The average number of employees per location has increased significantly, from 10.6 in 2003 to 13.8 in 2012. This trend could be due in part to the increased number of chain restaurants as a percentage of total operations. Chain restaurants tend to be managed by employees, while independent restaurants are often managed by owners. The trend could also be a result of restaurants using a greater proportion of part-time staff. When asked to list the three greatest threats faced by the foodservice industry, 13.6% of C-Suite Survey respondents listed the availability and quality of skilled labour, while 15% of respondents to the Canadian Restaurant and Foodservice Association’s Q4 2012 Restaurant Outlook Survey reported that shortage of unskilled labour had a negative impact on their business. Source: Calculated using data from the Canadian Restaurant and Foodservices Association, Statistics Canada, fsSTRATEGY Inc., PKF Consulting, and the Conference Board of Canada Source: Statistics Canada Employment Indices—All Industries, Foodservice and Employees per Foodservice Location 0 20 40 60 80 100 120 140 160 Total Foodservice Sales Consumer Confidence Total Real Foodservice Sales 2002=100 1990 1989 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012-p 98.3 97.3 97.8 99.8 101.6 102.5 104.8 107.3 110.1 112.8 100.0 98.6 100.1 101.4 103.8 105.5 109.8 109.8 114.8 116.4 119.7 97.8 101.5 110.0 116.2 122.2 124.4 124.1 127.0 128.2 80 90 100 110 120 130 140 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Employment Index - All Industries Employment Index - Foodservice Employees per Foodservice Location 2002 = 100 30 31 2013 Canadian Chain Restaurant Industry Review 6 | Finance
  • 17. 0 50 100 150 200 250 300 Commodity Prices, IMF Indices January 2000 = 100 All Commodities Industrials Materials Food Crude Oil Jan-01 Jun-01 Nov-01 Apr-02 Sep-02 Feb-03 Jul-03 Dec-03 May-04 Oct-04 Mar-05 Aug-05 Jan-06 Jun-06 Nov-06 Apr-07 Sep-07 Feb-08 Jul-08 Dec-08 May-09 Oct-09 Mar-10 Aug-10 Jan-11 Jun-11 Nov-11 Apr-12 Sep-12 6.2 Money Markets Global Financial Markets A few key trends will define the global financial environment in 2013. Resilience in household consumption in North America, policy stimulus by emerging countries, stabilization of China’s outlook, and a rebound of the Brazilian economy will positively impact global economic growth. However, uncertainty in Europe and geopolitics are still holding back investment and employment growth. Although in the Eurozone things are moving in the right direction, the slow pace of progress increases uncertainty. In Europe, reforms are reducing fiscal deficit and narrowing external imbalances, but debt levels remain high. In the Middle East, tensions in the region have risen, and a sudden disruption to oil supplies is a tail risk that could prove extremely damaging to global growth. The growing importance of liquidity of financial markets drives large swings in assets and commodity prices. The gas price difference across regions will serve as an incentive to trade, and the competition between gas and coal will increase investments. However, the pressure on energy, food, and other commodity prices, as well as overall high inflation risks, will have a negative impact on funding costs over the next two to three years. Despite the stabilization of North American housing markets and household consumption’s proven resilience, the deleveraging of developed markets is increasing growth costs. Governments in developed markets are still in a multi-year debt reduction process with greater pressure for higher taxes and budget cuts. Powerful policy support, reasonable valuations, and strong capital flows to emerging markets are helping the global equities market to perform better in 2013. The best performers in the last three months have been Mexico, Australia, China, and the United States. Japan boosted stock prices in the fourth quarter of 2012, but a weaker Yen is still a concern to sustain high performance. The following chart shows the current trends of the main stock markets by region. Stock Market Performance by Region by Quarter—2011 Q12012 Q22012 Q32012 Q42012 MI Italy CAC 40 France Hang Seng China Bovespa Brazil NIKKEI Japan AX 20 Australia Dax Germany FTSE UK Dow Jones US S&P US Nasdaq US MexBol Mexico Q12012 Q22012 Q32012 Q42012 Q12012 Q22012 Q32012 Q42012 Q12012 Q22012 Q32012 Q42012 Q12012 Q22012 Q32012 Q42012 Q12012 Q22012 Q32012 Q42012 Q12012 Q22012 Q32012 Q42012 Q12012 Q22012 Q32012 Q42012 Q12012 Q22012 Q32012 Q42012 Q12012 Q22012 Q32012 Q42012 Q12012 Q22012 Q32012 Q42012 Q12012 Q22012 Q32012 Q42012 Q12012 Q22012 Q32012 Q42012 IBEX Spain Index(Jan2011=100) 60 70 80 90 100 110 120 130 Source: GE Market Intelligence Network In the commodities market, energy and food contributed to sharp commodity price increases during the third quarter of 2012. Food prices started to increase strongly in mid-June after remaining broadly flat for much of the year. Prices for most commodities appear likely to remain in a soft patch in the near term and longer term. A rebalancing of growth in China likely will favour commodity prices tied to consumption versus fixed asset investment, but short term volatility is expected. Commodity Prices (International Monetary Fund Index) Source: International Monetary Fund 32 33 2013 Canadian Chain Restaurant Industry Review 6 | Finance
  • 18. Crude Oil Prices (Price per Barrel) Since 2000 Commodities Percentage Change Year-Over-Year Source: GE Capital The United States Energy Information Association (“EIA”) expects Brent crude oil price to average $109 per barrel this year and $101 per barrel in 2014. Source: GE Capital and the United States Energy Information Administration 0 20 40 60 80 100 120 140 160 $US Dollars Brent Crude Oil Price Per Barrel Jul-00 Jul-01 Jul-02 Jul-03 Jul-04 Jul-05 Jul-06 Jul-07 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 -60% -40% -20% 0% 20% 40% 60% 80% Commodities percentage change year over year Jan-01 Jun-01 Nov-01 Apr-02 Sep-02 Feb-03 Jul-03 Dec-03 May-04 Oct-04 Mar-05 Aug-05 Jan-06 Jun-06 Nov-06 Apr-07 Sep-07 Feb-08 Jul-08 Dec-08 May-09 Oct-09 Mar-10 Aug-10 Jan-11 Jun-11 Nov-11 Apr-12 Sep-12 34 35 2013 Canadian Chain Restaurant Industry Review 6 | Finance
  • 19. 6.3 Financial Markets in Canada Analysis The European sovereign debt crisis is still a concern for Canada’s near-term economic outlook and the stability of the country’s financial markets. The risks related to the sovereign debt crisis and the United States economy continue to be key external threats to the domestic financial system. Although the United States’ “fiscal cliff” turned into a gentle slide with a compromise in some tax increases, a weak United States recovery remains on track. The level of Canadian household debt has reached 160% of disposable income, greater than most other OECD countries. Therefore, corporate spending is becoming a key player in driving growth as households de-lever. Canada’s monetary policy remains stimulative at one percent as an incentive to increase investment and exports as foreign demand strengthens and uncertainty diminishes. With an inflation rate closer to two percent and the economy expanding, GE Capital expects that the Bank of Canada will hold interest rates steady until the end of 2013. The Canadian dollar traded well against the United States dollar in 2012 and will continue to be strong in 2013. GE Capital sees the Canadian dollar gaining another three to five percent against the United States dollar. A strong exchange rate is often the sign of a well-performing economy. Although depreciation can provide a helpful temporary boost, it is not a long-term substitute for faster productivity growth, stronger competitiveness, and sound macro policies. Forecast Although Canada’s overall exports and employment growth rates remained flat in 2012, Canadian GDP grew 1.3% year-over-year in November. The automotive manufacturing, oil extraction, and mining sectors showed the strongest growth, supporting the GDP increase. In 2013, strong increases in investment will be expected in utilities, transportation, and warehousing. The Canadian unemployment rate will continue to be below seven percent with a moderated wage growth in the next three years that will help to keep prices in line as the Canadian government holds the interest rate steady into 2014. GE Capital sees Canadian GDP growth increasing to 2.5% in 2013 based on a stronger United States economy and Chinese recovery that will boost Canadian exports of automotive and construction products. The United States economy is forecasted to grow by 2.3% in 2013 with supportive monetary policy and a credible medium-term plan to reduce the fiscal overruns likely to generate a stronger gain of 3.1% in 2014. Canada—GDP Growth Source: GE Capital Interest Rate Policy Factors influencing policy interest rates in 2013 for G5 countries include: žž the United States Federal Reserve’s open-ended quantitative easing to persist until unemployment is below 7% and falling; žž fiscal austerity to continue across Eurozone - the European Central Bank is likely to undertake outright quantitative easing; žž potential increase in inflation in the United States; and žž policy clarity. Forecast -6.0% -4.0% -2.0% 0.0% 2.0% 4.0% 6.0% 2002Q1 2002Q3 2003Q1 2003Q3 2004Q1 2004Q3 2005Q1 2005Q3 2006Q1 2006Q3 2007Q1 2007Q3 2008Q1 2008Q3 2009Q1 2009Q3 2011Q1 2011Q3 2010Q1 2010Q3 2012Q1 2012Q3 2013Q1 2013Q3 2014Q1 2014Q3 2015Q1 2015Q3 2016Q1 2016Q3 2017Q1 2017Q3 Canada: GDP Growth (%YOY) 36 37 2013 Canadian Chain Restaurant Industry Review 6 | Finance
  • 20. 6.4 Total Financeable Debt Market Size and Loan Volumes The following charts summarize total financial debt in the Canadian restaurant industry by transaction type and segment type as prepared by GE Capital. GE Capital estimates assume a total financeable debt of $4.4 billion. Financeable debt is used for refinancing/renovations, acquisitions, and new builds. Total Financeable Debt by Transaction Type ($millions) Total Financeable Debt by Transaction Type ($MM) Six C-Suite Survey respondents reported making an acquisition transaction in 2012. The following table summarizes the minimum, maximum, and average multiples for EBITDA quoted by respondents as a means to establish values in those transactions. C-Suite – 2012 Transaction Multiples on EBITDA Minimum Maximum Average <2.0 5.0 3.6 Source: fsSTRATEGY Inc., C-Suite Survey As shown, transaction multiples for respondents ranged from less than two times EBITDA to five times EBITDA, for an average of 3.6. Source: GE Capital Source: GE Capital Total Market QSR Coffee Casual Sandwich Pizza Asian Express ChickenFamily Casual Premium Casual $4,375.0 $1,029.9 $1,230.2 $485.3 $472.2 $414.8 $412.7 $201.0 $67.6 $46.7 $14.6 $4,375.0 $2,333.0 $1,614.1 $427.9 Refinance/Renovation New Build G5 Average Policy Interest Rates Source: GE Capital Note: The G5 economies include the United States, the Euro Area, Japan, the United Kingdom, and Canada. 0% 1% 2% 3% 4% 5% 6% G5 Average Policy Interest Rate Mar-00 Oct-00 May-01 Dec-01 Jul-02 Feb-03 Sep-03 Apr-04 Nov-04 Jun-05 Jan-06 Aug-06 Mar-07 Oct-07 May-08 Dec-08 Jul-09 Feb-10 Sep-10 Apr-11 Nov-11 Jun-12 Jan-13 38 39 2013 Canadian Chain Restaurant Industry Review 6 | Finance
  • 21. Cost of Doing Business 7.1 Cost of Goods Sold 7.2 Labour Costs 7.3 Rental and Occupancy Costs 7.4 Other Operating Costs 7.5 Capital Expenditures 7 7.1 Cost of Sales The CRFA’s 2012 Operations Report indicates that cost of goods sold represented 36.0% of foodservice revenues in 2010 (the most recent year for which data is available). Historical Average Cost of Goods Sold as a Percentage of Revenues Cost of goods sold as a percentage of revenues continues to increase, indicating foodservice operators are unable to increase menu prices to match increased input costs. 35.6% 35.4% 35.7% 35.5% 35.8% 36.0% 34.0% 34.5% 35.0% 35.5% 36.0% 36.5% 37.0% 2005 2006 2007 2008 2009 2010 PercentageofSales Cost of Sales Source: Canadian Restaurant and Foodservices Association “2012 Operations Report” 40 41 2013 Canadian Chain Restaurant Industry Review 7 | Cost of Doing Business
  • 22. The following chart tracks consumer price indices for various core ingredients classifications. Consumer Price Indices Menu Inflation versus Producer Price Indices Bakery and cereal product, dairy product, and meat prices have increased in price at a greater rate than general inflation. Meat prices experienced the greatest increase in 2012, growing by 6.6 index points, followed by bakery and cereal products, which increased by 3.3 index points. Prices for alcoholic beverages purchased from stores, vegetables and vegetable preparations, and fish, seafood, and other marine products historically have increased at a rate below general inflation. The following chart compares menu price inflation (represented by the consumer price index for food purchased in restaurants) to producer price indices for: meat, fish and dairy, beverage, fruit, vegetables, and feed. As shown, producer prices for beverages, fruit, vegetables, and feed have increased faster than prices for meat, fish, and dairy. Producer prices for beverages and meat, fish, and dairy have increased at rates lower than that of menu inflation. The following chart compares menu inflation (represented by the consumer price indices for food from FSR, food from QSR, and served alcohol) to general inflation (represented by the consumer price index for all items). 80 90 100 110 120 130 140 150 160 20062005 2007 2008 2009 2010 2011 2012 Meat Fish, seafood and other marine products Dairy products Bakery and cereal products Vegetables and vegetable preparations Alcoholic beverages purchased from stores CPI - All Items CPI = Consumer Price Index 2002 = 100 Source: Statistics Canada Source: Statistics Canada 80 90 100 110 120 130 140 PPI= Producer Price Index 2002 = 100 99.1 100.8 102.4 105.2 104.1 105.2 108.9 110.2 102 103.1 108.1 118.7 118.6 117.9 126.8 130.9 106.4 107.7 110.9 113.6 116.7 118.7 121.7 123.8 2006 2006 2007 2008 2009 2010 2011 2012 PPI - Meat, Fish and Dairy PPI - Fruit, Vegetables and Feed PPI - Beverages CPI - Food from Restaurants 42 43 2013 Canadian Chain Restaurant Industry Review 7 | Cost of Doing Business
  • 23. In 2013, Cost of Sales as a Percentage of Revenues is Expected to: Decline more than 2% points 0% Decline 1.6% to 2% points 0% Decline 1.1% to 1.5% points 0% Decline 0.6% to 1% points 0% Decline 0.1 to 0.5% points 5% Remain flat 15% Increase 0.1 to 0.5% points 15% Increase 0.6% to 1% points 25% Increase 1.1% to 1.5% points 30% Increase 1.6% to 2% points 5% Increase more than 2% points 5% Not sure 0% Source: fsSTRATEGY Inc. C-Suite Survey Most respondents (80%) expect cost of sales as a percentage of revenues to increase in 2013. Thirty percent of respondents expect cost of goods sold to increase by 1.1% to 1.5%, and 25% expect an increase of 0.6% to 1.0%. Increasing cost of food and ingredients was listed as a threat by 36% of C-Suite Survey respondents. fsSTRATEGY interviewed foodservice suppliers and distributors to understand the factors influencing foodservice cost of sales. Findings of this analysis included: žž Foodservice demand has increased moderately in most product categories (more so for local food). Demand for proteins, such as beef and veal, has been flat. Over the next 12 months, most suppliers and distributors expect demand to be flat or increase slightly. Many suppliers mentioned the demand from foodservice clients for local food is increasing. žž The supply of beef, bacon, and chicken wings tightened over the past 12 months. Beef processors have mixed opinions on whether this will improve over the next 12 months. žž Food pricing has increased slightly over the past 12 months. Key drivers in price increases are managed products (e.g., chicken and dairy) and input cost increases (e.g., fuel and feed). Food prices could increase by as much as 5% over the next 12 months. žž Key issues for food producers and food processors over the next 12 months will include input costs, supply of domestic and North American beef, and the impact of severe weather on crops. Imported produce from Mexico and China will put pressure on pricing for local (North American and Canadian) prices. žž Key issues for distributors include input costs (especially fuel), industry consolidation (primarily in Western Canada), and fierce distributor competition. Menu Inflation versus General Inflation As shown, prices for food and alcohol purchased in restaurants have increased at a greater rate and with less variability than general inflation. Furthermore, unlike general inflation, menu prices did not decline during the 2009 recession. FSR food prices increased more than QSR. University of Guelph’s Food Price Index 2013 forecasts that overall food expenditures could increase by 1.5% to 3.5% and that meat prices could increase by 4.5% to 6.5% in 2013. Respondents to the C-Suite Survey were asked how they expected cost of sales as a percentage of revenues to change in 2013. Source: Statistics Canada CPI = Consumer Price Index 2002 = 100 109.1 111.7 115.2 118.8 122.5 125.7 128.9 132.1 107.5 109.2 113.6 115.9 119.5 121.9 125.7 127.9 107.7 109.5 11.9 115.7 114.7 116.8 120.3 121.8 105 110 115 120 125 130 135 2005 2006 2007 2008 2009 2010 1011 2012 CPI - Food from Full-Service Restaurants CPI - Food from Quick-Serivce Restaurants CPI - Served Alcohol CPI - All Items 44 45 2013 Canadian Chain Restaurant Industry Review 7 | Cost of Doing Business
  • 24. 7.2 Labour Costs The Canadian Restaurant and Foodservices Association’s 2012 Operations Report indicates that salaries and wages represented 33.9% of foodservice revenues in 2010 (the most recent year for which data is available). Historical Average Labour Cost as a Percentage of Revenues 31.5% 31.5% 33.6% 34.8% 33.9% 33.9% 29% 30% 31% 32% 33% 34% 35% 36% 2005 2006 2007 2008 2009 2010 PercentageofSales Salaries and Wages Source: Canadian Restaurant and Foodservices Association, 2012 Operations Report Salaries and wages as a percentage of revenues in 2010 were consistent with 2009. On average, provincial and territorial minimum wages increased by 21% between 2005 and 2009. Between 2009 and 2012, minimum wage rates increased again by almost 17% on average nationally. Provincial and Territorial Minimum Wage Rates Saskatchewan Alberta1 Quebec PEI NewBrunswick NorthwestTerritories Newfoundland NovaScotia2 BritishColumbia Manitoba Ontario Yukon3 Nunavut Adult Workers $9.50 $9.75 $10.15 $10.00 $10.00 $10.00 $10.00 $10.30 $10.25 $10.25 $10.25 $10.30 $11.00 Liquor Servers/Workers Receiving Gratuities 9.05 8.75 9.00 8.90 First Job/Entry Level 9.80 Students (Under 18) 9.60 Homeworkers (overrides student wage) 11.28 Source: Human Resources and Skills Development Canada http://srv116.services.gc.ca/dimt-wid/sm-mw/rpt2.aspx?lang=eng&dec=5 http://srv116.services.gc.ca/dimt-wid/sm-mw/menu.aspx?lang=eng 1 Alberta’s minimum wage will be adjusted annually every April 2 Yukon Territory increases minimum wage every April 1 based on the Consumer Price Index 3 Nova Scotia’s entry level minimum wage is for inexperienced workers (less than three months employed in the type of worked they are hired to do) Nunavut has the greatest adult minimum wage at $11.00 per hour, and Saskatchewan has the lowest adult minimum wage at $9.50 an hour. 46 47 2013 Canadian Chain Restaurant Industry Review 7 | Cost of Doing Business
  • 25. Respondents to the C-Suite Survey were asked how they expected labour cost as a percentage of revenues to change in 2013. In 2013, Labour Cost as a Percentage of Revenues is Expected to: Decline more than 2% points 0% Decline 1.6% to 2% points 0% Decline 1.1% to 1.5% points 0% Decline 0.6% to 1% points 0% Decline 0.1 to 0.5% points 5% Remain flat 20% Increase 0.1 to 0.5% points 20% Increase 0.6% to 1% points 35% Increase 1.1% to 1.5% points 10% Increase 1.6% to 2% points 10% Increase more than 2% points 0% Not sure 0% Source: fsSTRATEGY Inc. C-Suite Survey Most respondents (75%) expect labour cost as a percentage of revenues to increase in 2013. Thirty- five percent of respondents expect labour cost as a percentage of revenues to increase by 0.6% to 1.0%. Labour cost was listed as a threat to the foodservice industry by 55% of C-Suite survey respondents. Some provinces have experienced considerable increases in minimum wage in recent years as shown in the table below. Current and Dates of Changes in Minimum Wage by Province Jurisdiction Current 2005 2006 2007 2008 2009 2010 2011 2012 2013 Saskatchewan $9.50 01-Sep-05 $7.05 01-Mar-06 $7.55 01-Mar-07 $7.95 01-Jan-08 $8.25 01-May-08 $8.60 01-May-09 $9.25 01-Sep-11 $9.50 Alberta $9.75 01-Sep-05 $7.00 01-Sep-07 $8.00 01-Apr-08 $8.40 01-Apr-09 $8.80 01-Sep-11 $9.40 01-Sep-12 $9.75 Quebec $10.15 01-May-05 $7.60 01-May-06 $7.75 01-May-07 $8.00 01-May-08 $8.50 01-May-10 $9.50 01-May-11 $9.65 01-May-12 $9.90 01-May-13 $10.15 New Brunswick $10.00 01-Jan-05 $6.30 01-Jan-06 01-Jul-06 $6.70 05-Jan-07 $7.00 01-Jul-07 $7.25 31-Mar-08 $7.75 15-Apr-09 $8.00 01-Sep-09 $8.25 01-Apr-10 $8.50 01-Sep-10 $9.00 01-Apr-11 $9.50 01-Apr-12 $10.00 Prince Edward Island $10.00 01-Jan-05 $6.80 01-Apr-06 $7.15 01-Apr-07 $7.50 01-May-08 $7.75 01-Oct-08 $8.00 01-Jun-09 $8.20 01-Oct-09 $8.40 01-Jun-10 $8.70 01-Oct-10 $9.00 01-Jun-11 $9.30 01-Oct-11 $9.60 01-Apr-12 $10.00 Newfoundland andLabrador $10.00 01-Jun-05 $6.25 01-Jan-06 $6.50 01-Jun-06 $6.75 01-Jan-07 $7.00 01-Oct-07 $7.50 01-Apr-08 $8.00 01-Jan-09 $8.50 01-Jul-09 $9.00 01-Jan-10 $9.50 01-Jul-10 $10.00 Northwest Territories $10.00 01-Apr-10 $9.00 01-Apr-11 $10.00 Nova Scotia $10.30 01-Oct-05 $6.80 01-Apr-06 $7.15 01-May-07 $7.60 01-May-08 $8.10 01-Apr-09 $8.60 01-Apr-10 $9.20 01-Oct-10 $9.65 01-Oct-11 $10.00 01-Apr-12 $10.15 01-Apr-13 $10.30 Manitoba $10.25 01-Apr-05 $7.25 01-Apr-06 $7.60 01-Apr-07 $8.00 01-Apr-08 $8.50 01-May-09 $8.75 01-Oct-09 $9.00 01-Oct-10 $9.50 01-Oct-11 $10.00 01-Oct-12 $10.25 British Columbia $10.25 01-May-11 $8.75 01-Nov-11 $9.50 01-May-12 $10.25 Ontario $10.25 01-Feb-05 $7.45 01-Feb-06 $7.75 01-Feb-07 $8.00 31-Mar-08 $8.75 31-Mar-09 $9.50 31-Mar-10 $10.25 Yukon $10.30 01-May-06 $8.25 01-Apr-07 $8.37 01-Apr-08 $8.58 01-Apr-09 $8.89 01-Apr-10 $8.93 01-Apr-11 $9.00 01-Apr-12 $9.27 01-May-12 $10.30 Nunavut $11.00 05-Sep-08 $10.00 01-Jan-11 $11.00 Source: Canada Ministry of Labour 48 49 2013 Canadian Chain Restaurant Industry Review
  • 26. Respondents to the C-Suite Survey were asked how they expected labour cost as a percentage of revenues to change in 2013. In 2013, Rent and Occupancy Costs as a Percentage of Revenues are Expected to: Decline more than 2% points 0% Decline 1.6% to 2% points 0% Decline 1.1% to 1.5% points 5% Decline 0.6% to 1% points 5% Decline 0.1 to 0.5% points 0% Remain flat 25% Increase 0.1 to 0.5% points 10% Increase 0.6% to 1% points 20% Increase 1.1% to 1.5% points 5% Increase 1.6% to 2% points 20% Increase more than 2% points 10% Not sure 0% Source: fsSTRATEGY Inc. C-Suite Survey Respondents’ opinions on how rent and occupancy costs were expected to change as a percentage of revenues varied. Twenty-five percent of respondents believe this ratio will remain flat, 10% of respondents expect the ratio to decline by as much as 1.5%, and 65% of respondents expect the ratio to increase. Rent and occupancy costs were listed as a threat by 14% of respondents to the C-Suite Survey. fsSTRATEGY interviewed several landlords to understand the factors affecting rental expenses for restaurants in Canada. Findings from these interviews included: žž Demand for premium casual restaurant space is strong, less so for lower-end casual restaurants. žž Demand for space in food courts is significant. Most landlords have waiting lists for food courts, indicating demand for this space will remain strong. žž In shopping centres, restaurant rents are often subsidized by major tenants (i.e., restaurants don’t pay the market rate). žž Landlords indicate economics and supply constraints favour landlords in terms of food courts. Landlords have mixed opinions on the balance of power for restaurants. Landlords in downtown cores appear to have the advantage due to an insatiable desire for foodservice space in such areas. In central Canada, this is being fueled by Western Canadian and United States-based chains. In terms of mall pads and other street locations, the current climate appears to favour tenants. Recently, in less desirable locations, landlords have been making concessions to get tenants with strong covenants. This has resulted in some appealing deals for a number of operators. These trends are expected to continue over the next 12 months. žž Landlords expect rents for foodservice operators to increase by 2.5% to 3.0% and significantly more than this in major mall food courts over the next 12 months. Rental and leasing PercentageofSales 7.0% 6.8% 7.0% 7.2% 7.2% 7.6% 6.2% 6.6% 6.8% 7.0% 7.2% 7.4% 7.6% 7.8% 2005 2006 2007 2008 2009 2010 7.3 Rental and Occupancy Costs The Canadian Restaurant and Foodservices Association’s 2012 Operations Report indicates that rental and leasing costs represented 7.6% of foodservice revenues in 2010 (the most recent year for which data is available). Historical Average Rental and Leasing Cost as a Percentage of Revenues Source: Canadian Restaurant and Foodservices Association, 2012 Operations Report 50 2013 Canadian Chain Restaurant Industry Review 51
  • 27. 7.4 Other Operating Costs Other operating costs include utilities (including telephone), repair and maintenance, advertising and promotion, depreciation, and other operating costs. The Canadian Restaurant and Foodservices Association’s 2012 Operations Report indicates that total other operating costs represented 18% of foodservice sales in 2010. The following table shows the average other operating costs as a percentage of revenues for the most recent five year period available (2006 to 2010). Historical Average Other Operating Costs as a Percentage of Revenues 2005 2006 2007 2008 2009 2010 Repair and Maintenance 2.4% 2.5% 2.6% 2.6% 2.6% 2.6% Utilities Including Telephone 2.8% 2.8% 2.9% 2.8% 2.8% 2.8% Advertising and Promotion 2.8% 2.8% 2.7% 2.8% 2.8% 2.8% Depreciation 2.8% 2.9% 2.9% 2.9% 3.0% 3.1% Other 11.3% 11.0% 8.6% 7.0% 7.4% 6.7% Total Other Operating Costs 22.1% 22.0% 19.7% 18.1% 18.6% 18.0% Source: Canadian Restaurant and Foodservices Association, Statistics Canada As shown, other expenses as a percentage of revenues decreased between 2006 and 2010 (the most recent year for which data is available). The following chart tracks growth trends of various other operating costs as indices between 2006 and 2010 (the most recent year for which data is available). Repair and maintenance Utilities including telephone Advertising and promotion Depreciation Other Total Other Operating Costs 50 60 70 80 90 100 110 120 2005 2006 2007 2008 2009 2010 2005=100 Historical Average Other Operating Costs as a Percentage of Revenues Source: fsSTRATEGY Inc. based on data from Canadian Restaurant and Foodservices Association and Statistics Canada As shown, depreciation costs increased by 0.1 percentage points in 2010, while “other1 ” declined by 0.7 percentage points. Cost ratios for repair and maintenance, advertising and promotion, and utilities including telephone continued to remain flat despite variability in energy commodity prices. The following chart compares commodity price changes for natural gas and electricity. 1 Other expenses include commissions paid to non-employees, professional and business service fees, subcontract expenses, charges for services provided by head office, office supplies, insurance, travel and entertainment, property and business taxes, licenses, permits, royalties and franchise fees, delivery, warehousing, postage and courier, financial service fees, interest expense, and bad debts. 52 53 2013 Canadian Chain Restaurant Industry Review 7 | Cost of Doing Business
  • 28. In 2013, Other Operating Costs as a Percentage of Revenues are Expected to: Decline more than 2% points 0% Decline 1.6% to 2% points 0% Decline 1.1% to 1.5% points 0% Decline 0.6% to 1% points 0% Decline 0.1 to 0.5% points 5% Remain flat 10% Increase 0.1 to 0.5% points 30% Increase 0.6% to 1% points 35% Increase 1.1% to 1.5% points 10% Increase 1.6% to 2% points 5% Increase more than 2% points 0% Not sure 5% Source: fsSTRATEGY Inc. C-Suite Survey As shown, most (80%) of respondents expect other operating costs as a percentage of revenues will increase in 2013, while 5% expect the cost ratio will decline, and 10% expect the ratio to remain flat. Forty-one percent of respondents to the C-Suite Survey listed other costs and costs in general as threats to the foodservice industry. 100.0 85.4 99.1 58.3 45.3 40.2 31.5 100.0 90.9 101.8 105.5 116.4 129.1 134.5 0 20 40 60 80 100 120 140 160 2006 2007 2008 2009 2010 2011 2012 2006=100 Natural Gas Electricity Energy Commodity Price Indices Source: fsSTRATEGY Inc. based on data from the Ontario Energy Board As shown, natural gas prices have declined significantly (67.6 index points) since 2008, while electricity costs have increased by 32.7 index points in the same period. Respondents to the C-Suite Survey were asked how they expected other operating costs as a percentage of revenues to change in 2013. 54 55 2013 Canadian Chain Restaurant Industry Review 7 | Cost of Doing Business
  • 29. 7.5 Capital Expenditure Capital expenditure (“CAPEX”) in the accommodation and foodservice sector was approximately $4.0 billion in 2012, $2.4 billion (60%) of which was spent on construction. The following chart compares capital expenditure and construction expenditure in the accommodation and foodservice sector for the last eight years. Capital Expenditure in the Accommodation and Foodservice Sector Non-Residential Construction Price Index Source: Statistics Canada As shown, construction costs declined significantly in 2009, most likely due to competitive pricing efforts to capture shrinking demand during the recession. Since 2009, prices have increased, albeit at a slower rate than pre-recession. The 2012 non-residential price index was 151.0 – 4.9 index points below the peak in 2008. The following chart compares average construction cost indices for major Canadian cities against a 30-city United States average. $2,640 $2,604 $2,911 $3,288 $4,033 $3,321 $3,689 $4,033 $1,509 $1,786 $1,853 $2,278 $2,733 $2,220 $2,257 $2,466 $1,132 $818 $1,058 $1,010 $1,300 $1,100 $1,432 $1,587 $0 $500 $1,000 $1,500 $2,000 $2,500 $3,000 $3,500 $4,000 $4,500 2005 2006 2007 2008 2009 2010 2011 2012 MillionsofDollars Total Capital Expenditure Capital Expenditures for Construction Capital Expenditure on Equipment and Machinery Source: Statistics Canada As shown, the 2009 recession had a significant impact on capital expenditure. Expenditures on equipment and machinery were affected less by the 2009 recession than construction and recovered to pre-recession levels within two years. Construction expenditures are increasing, but they have yet to return to pre-recession levels. The following chart illustrates the changes to non-residential construction price indices over the most recent eight years. Construction Price Index: Total Non-Residential 117.0 126.5 1387 155.9 140.5 141.9 147.4 151.0 100 110 120 130 140 150 160 2005 2006 2007 2008 2009 2010 2011 2012 2002 = 100 56 57 2013 Canadian Chain Restaurant Industry Review 7 | Cost of Doing Business
  • 30. C-Suite Survey – Building Cost per Square Foot Min Max Average Full Service Restaurants $ 145.00 $600.00 $287.14 Quick Service Restaurants $110.00 $400.00 $250.67 All Restaurants $110.00 $600.00 $266.63 Source: fsSTRATEGY Inc. C-Suite Survey As shown, reported building costs ranged from $110 to $600 per square foot. The average reported building cost per square foot was $287.14 for FSRs and $250.67 for QSRs. Respondents to the C-Suite Survey were also asked how they expected building costs for new units to change in 2013. In 2013, the Cost to Build New Units is Expected to: Decline more than 2% points 5% Decline 1.6% to 2% points 0% Decline 1.1% to 1.5% points 0% Decline 0.6% to 1% points 5% Decline 0.1 to 0.5% points 0% Remain flat 30% Increase 0.1 to 0.5% points 15% Increase 0.6% to 1% points 20% Increase 1.1% to 1.5% points 15% Increase 1.6% to 2% points 0% Increase more than 2% points 0% Not sure 0% Source: fsSTRATEGY Inc. C-Suite Survey As shown, 30% of respondents expect building costs to remain flat in 2013, while 10% expect a decline, and 50% expect an increase in cost. Respondents’ reasons for expecting building costs to decline were primarily based on internal decisions such as direct purchasing strategies and aggressive reconfigurations of design scope and materials. Respondents’ reasons for expecting building costs to increase included labour cost, material costs, increasing demand, government legislation, delivery, and gas prices. Respondents’ reasons for expecting costs to remain flat include anticipated flat demand (to balance inflation), industry efficiencies born out of recent market constrictions, and anticipated flat labour and material costs. RSMeans Construction Cost Indices by Major Canadian City Toronto Calgary Montreal Vancouver Winnipeg 30 City US Average 1993 30 City US Average = 100 140 150 160 170 180 190 200 210 220 230 2005 2006 2007 2008 2009 2010 2011 2012 2013e Source: RSMeans Square Foot Costs 2013. Copyright RSMeans, Norwell, MA 781-422-5000; All rights reserved As shown, construction costs in each of the major Canadian cities exceed the 30-city United States average. All regions experienced a decline in construction costs following the 2009 recession. Since 2009, Calgary has increased faster than Toronto, to become the most expensive city for construction. Vancouver’s construction cost also recovered quickly and is now more expensive than Montreal. Respondents to the C-Suite Survey were asked to provide the average cost per square foot to construct a new unit excluding base building cost and land purchases. 58 59 2013 Canadian Chain Restaurant Industry Review 7 | Cost of Doing Business
  • 31. Notes Regarding This Report This report is not a complete analysis of every material fact with respect to any company, segment, or industry. Data has been obtained from sources considered reliable, but is not guaranteed, and GE Capital, fsSTRATEGY, and The NPD Group make no representations or warranties as to the accuracy or completeness of this data. Discussion of tax, financial, and economic developments and the potential consequences of those developments is provided for informational purposes only. Nothing in this report should be construed as investment, tax, or financial advice. Readers of the report are encouraged to consult their own tax, financial, or legal advisors before acting upon the information provided herein. Notes8 60 2013 Canadian Chain Restaurant Industry Review