Tim Byers (3:45)

Well, but we've got some breakers in the making, don't we? Like, one of the things that does seem to be happening is there's more restaurant innovations, and we've got three of them here to talk about briefly. But I'm curious if there's any that stand out to you. So the three that you hit me with were the Chipotle. Chipotle seems to really be profiting from that. Wingstop has certainly done a ton of work to increase the. The amount of digital ordering. You don't even need to go in the restaurant. Just open the app, get your wings, which is. Which is fascinating. And then Sweet Green, with its infinite kitchens. Are you expecting more restaurant innovation here, Rick? Like, who is the breaker in the making that really stands out to you?

Rick Benares (4:29)

I think all three are doing great things. Even though all three had sort of like a soft, a slow first quarter of this year, the first three months of this year, they all have the ingredients, the right ingredients to make that recipe. I'm going to stop with the restaurant metaphors and just go. Sweet Green is one I'm really excited about, because this whole infinite kitchen thing, when I first saw about it, basically like, like a robot making your salads, I'm like, well, no, this isn't the Jetsons. This isn't going to work. But it is more Efficient than humans. It obviously can crank out more salads. And with your Sweet green, and it's lunch hour and you have a lot of corporate orders that come in. That's a big part of their business, that they delivered a business, office buildings with a lot of different complex orders and accuracy, which for a company like sweetgreen that charges a premium, if you have to throw that stuff away, it's a big deal. That's an important step up. And obviously your local salad bar can't make that kind of investment. Sweet Green can because it's scalable.

Tim Byers (5:19)

Yeah, let's talk about learning the lingo here, Rick. So if you've never restaurant invested in a restaurant company before, and there are lots of public restaurant companies, what are some things that these investors really need to know? Like what, what are the metrics that matter most here? And I'm going to hit you with with a few of them. But talk to me first about comps. Comps is the one that confused me most when I first started looking at restaurants. But talk to me, Rick. What are the metrics we got to pay attention to?

Rick Benares (5:49)

Yeah, so comps in theory, by definition, it's one of the easiest metrics. But I get you where you can get thrown off. It's comparable restaurant sales. It's how the restaurants are around for at least a year and some chains have it 18 months just because sometimes a restaurant will open and it'll have this initial spike, but they want it normalized so at least 18 months, 12 to 18 months after it's been opened. If it's been open in both periods, they can count it in their comps and they add up all the sales divided by the sales the year before and the growth or the decline is comps. It's basically the average unit, average restaurant, is it selling more or less than before? But yeah, as you mentioned, comps is itself the number of sales. But a lot of things factor into that. There's foot traffic, like is traffic up or is it that menu pricing is up or is it that a menu shift where people are actually ordering stuff that are higher priced in the menu. So there's three factors that go into determining the comps and that's traffic, the actual menu increases, which happen over time. That's inflation. And also the menu shift, which is also, can you get people to stick around for dessert? Can you get them to pay for the more premium priced offerings and stuff like that. That all goes into the comps. And it's a very important metric for the industry. It's a good sign of health. It's easy to confuse with some other industries because it's. But yeah, but for restaurants, it's a very strong indicator of health.

Tim Byers (7:05)

I mean, I have to say, you know, Chipotle definitely increased my spending when they said, hey, we're going to start having chorizo. And I said, I'm going to start having more burritos then.

Rick Benares (7:21)

So, yeah, I know you mentioned Chipotle with them, too, because even year over year, like last year, they had a chicken al pastor they added. So they realized, hey, we don't have to have one chicken option. You know, let's give people different poultry options. Chicken al pastor did okay. But now that this, this season, they came out with. With hot honey chicken. Chipotle chicken. Hot chicken. Sorry, Chipotle chicken. And that's taken off that. So, so it's, it should be in this current quarter. Should be better a nice recovery for Chipotle than the first quarter of this year.

Tim Byers (7:50)

Yeah. I mean, so you can do it in a lot of different ways. But let's talk about how. Locations. How do we think about locations and, and growth when we're talking about restaurants? And the, the reason I bring this up is when you wrote out the original Chipotle recommendation, the argument was, hey, this, this is still a fairly small footprint for a really popular restaurant, and we could see dramatic expansion in, in locations. How do we think about this? Like, when we're talking about valuing a restaurant or a restaurant group and locations factor into it, how should we think about it?

Rick Benares (8:25)

Yeah, so the more successful chains, they start with the target. And I don't, I mean, that was almost 15, 20 years ago.

Tim Byers (8:31)

It was a long time ago.

Rick Benares (8:32)

Yeah, it was a long time ago. And at time, I mean, I think There were maybe 500 Chipotle locations out there at the time. And maybe I think the target at the time was maybe 3,000, 4,000. Now we're past that and we're talking about 10,000 plus. That's the whole beauty. When you have a successful restaurant, the ceiling is a movable ceiling. It, you know, you literally.

Tim Byers (8:50)

A movable feast.

Rick Benares (8:52)

Yes, a movable feast. Thank you. Thank you for filling in with my pun drought right there. But yeah, so you do have that happening there. And you also have, obviously expanding helps companies on many scale and everything. One of the more interesting things this past, in the first quarter this year, the first three months, we're going to find out how the second quarter turned out soon enough was, I'm sorry, Chili's, which is the Brinker International Chili's, a company no one expected to quadruple since the start of last year. And not really in our rule breaker universe. But they've done it. They've had back to back quarters of 31% growth in comps. And the key to it is not expansion because their sales are actually revenues up 27% in its latest quarter. It's actually been the strong comps at the Chili's, not the Maggiano's, which has been smaller and struggling. That's going well for them. You compare that to Cava, which had 28% revenue growth, so a stronger top line growth than Brinker, but they had just 10.8% comps growth. And I say just facetiously because 10.8% was pretty good and for them it was seven and a half percent traffic and the rest was just people paying more once they got into the cava. So definitely. And restaurant, sorry, restaurant growth was 18% of that 28%. The 18% growth of the lion's share of that model.

Tim Byers (10:02)

When we're looking at restaurants, there's like these two tiers, right? One of the growth levers is can you affordably open a lot more locations and grow your footprint. The other is can you do things and innovate with the menu and get your patrons to pay a little more, Maybe raise prices here and there, introduce new things into the menu that allows people to kind of open up their wallet a little bit. You have these two vectors of growth. Well, it's such a fascinating sector and we are going to talk about one of the companies that serves this sector quite well. Up next, Rick and I are going to do a dueling fools on my favorite stock toast.

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Tim Byers (12:02)

All right, Rick, we're back and we're going to talk about Toast. This is our Dueling fool segment. You're going to make the bull argument, I'm going to make the bear argument.

Rick Benares (12:11)

And.

Tim Byers (12:11)

And then we want to hear from you. So in the comments to this show, please tell us, are you more bullish? Are you more bearish? Who was more convincing? We want to hear from you, so get your comments in. But Rick, you're up. Let's hear the bull argument on Toast.

Rick Benares (12:28)

Yeah, so it's perfect for a company called Toast to get this bull bear treatment. The word itself has extreme meanings. When you're good, they toast you. When you're bad, you're toast. This toast is good. You probably remember the first time you came across a Toast reader when it was time to settle your bill at a restaurant. You were probably intrigued by the novelty of the process. The second time you did it, you may have gotten a bit, maybe rebelliously sentimental. You missed the sound of leather bill folders flapping, sliding your credit card over discreetly like you're playing a clue board game, only to wait a bit more before you're working the gratuity math in your head as your waiter or waitress wants your autograph. Like the celebrity that you are. By the third time and every time after that, since you surely stopped counting, the revolution clicked. You hopefully appreciate Toast as a win, win, win proposition. You win as a patron because you can pay your bill quickly if you have somewhere else to be. The wait staff wins because they rely largely on tips and Toast helps turn tables faster. And restaurant operators are even bigger winners because Toast isn't just about the convenience of handheld devices to get the kitchen working on your order sooner or the portable contactless payment solutions to cash you out quicker. That's just the tip of the iceberg Lettuce. Behind the scenes, Toast is a one stop shop for a restaurant looking for standout in this cutthroat industry. Toast can help with inventory management, payroll processing, the managing of direct or third party delivery app, online orders, and even email marketing. Toast works and the proof is in the sticky toffee pudding. Toast was serving 85,000 restaurant locations two summers ago when it was initially recommended in our rule breakers. Today, Toast is helping 140,000 establishments. There are options out there. Toast wouldn't be growing if it wasn't giving his client a leg of lamb. Up on the competition and in the COVID smacked year of 2020 when everyone was learning about sourdough starters and home real replacement kits, your favorite local eatery took a hit to the gut. The nation's national restaurant association, the NRI for Industry Foodies, reported that total U.S. sales were $659 billion in 2020, down 24% from the previous year. How did Toast do that year? Revenues rose 24% and toast it's obviously going to be at its best when restaurant operators are overall are thriving. Toast revenue would go on to more than double in 2021, but however, its ability to gain market share while also making its clients more productive and successful is a recipe for success. Toast has topped 24% of revenue growth in every quarter since going public four years ago. Its gross operating net and free cash flow margin has improved every year. Once a haven for indie operators, Toast recently struck its biggest deal for the parent company of Applebee's and ihop. It had a top golf just before that. Running a restaurant isn't easy and it's getting even more complicated to succeed. The five year survival rate of a new e eatery is problematic. The industry is the tadpole or the sea turtle hatchling of the startup space. Toast is a cheat code. It's a one stop shop that lets any operator hit the ground running. As an investor, you want to invest in successful and legal, I should add, cheat code providers. This one has that Je pardon my French, Tim Toast.

Tim Byers (15:27)

Nice. I like it. All right, well let's talk about the bear argument. I mean that's a very good bull argument, Rick. But Toast is an outstanding business and I have been buying more of it. I'm not gonna lie here, but it's always important to know the bear argument and I'm not going to pretend that this stock is at without risk. And there's a few risks here, so let's hit them. Toast doesn't have pricing power.

Rick Benares (15:49)

Not really.

Tim Byers (15:49)

Anyway. Annual revenue per location has remained at or about 4, $40,000 annualized since I started following the stock almost three years ago. So if you're going to do any kind of valuation work, you better not be cooking in additional pricing power because that's just not how Toast works. Now that is a risk. It doesn't mean that Toast can't profit, but it does mean if you are relying on Toast making more money per location, history says you're wrong. The input costs can go much higher as well. Rick. I mean we know this. The restaurant business is fickle. It's subject to the Metro and what's good for Toast customers is good for Toast. And conversely, when there are things that are bad, you know, if, if things are bad for customers, it can be bad for Toast. They have a significant part of their business called the fintech business, which is taking a small portion of all of the business that is generated through each restaurant location. And if that business starts to wane, Toast is going to feel it. Tariffs and tariff induced uncertainty can drive up input costs and the ingredients chefs depend on. You know, inflation is a real thing here. So think imports of Brazilian soybeans and coffee for example. Nobody wants higher prices on those things. And yet higher prices may be coming. Third, locations can get even more expensive. Look, I mean, an inflationary environment isn't likely to be good for consumer spending or for the cost of construction loans to build, build out new locations. New locations is the key value driver in the TOAST model. We need to see Toast multiply the number of locations using its wares. In order to realize the generous returns we seek. It has to be about roughly 8 to 9% annualized. Now, I think that is more than doable. Toast has been doing that, but it could get bumpy here and let's not pretend that you know it won't get bumpy. And then finally the valuation is okay, but it's, it's hardly perfect here. At a free cash flow yield of 0.68% as of this writing, Toast is priced for years of higher than average growth and significant expansion in its operating and free cash flow margins. Again, I think you can achieve them, but it's a higher hurdle than I. I normally like. Thankfully I. I do believe these things are achievable. Just the hurdle rate is something to pay attention to. Let us know what you think we want to hear whether you are more bullish about Toast or bearish about Toast. Up next, little bit of trivia to teach you about the restaurant space.

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Tim Byers (19:16)

All right, Rick, we're back. I want everybody guessing on this one. And Rick doesn't know the answer. So you're gonna get. This is.

Rick Benares (19:23)

This is live.

Tim Byers (19:24)

We're doing it live. So, Rick, I want you to tell me, and I'm going to give you a hint as to what the answer is. What is the world's busiest restaurant? And you asked me to define what I meant by that. What I mean is average revenue per location. So roughly, roughly like it's, it's roughly unit volume or unit revenue on that basis. What is the world's busiest restaurant?

Rick Benares (19:57)

Wow. Okay, So I Knew, like in 1997, I knew the answer then. Back then it was like there was a Planet Hollywood, the one at Disney World, which is generating $50 million a year. Obviously the Hard Rock chain wasn't. And they fall in a place. So I know it's not going to be a McDonald's or a Subway because I know they do about 3, 4 million a year. And it's not, it's just low prices. They get a lot of cars to go through. But you're not generating revenue. I mean, and I haven't checked on Cheesecake Factory in a while, but I know it used to be about 8, 10 million per unit. But I get to feel this may be some international company I've never heard of, Tim, and you're just going to pull the rug under me. But I can't think of one right now that would be higher.

Tim Byers (20:36)

All right, let me give you one, one other, one other hint. Let's center on quick serve restaurants. So that would eliminate Cheesecake Factory, but it's factor inch quick serve.

Rick Benares (20:49)

I mean, I think Chick Fil a actually outpaces McDonald's. There you go. Oh, you're pointing at me. Yes. I got Chick Fil A. Yes. It's not even public. That's not fair. It's not fair you went for a non public company.

Tim Byers (21:00)

But. But it is, it is useful because I'll tell you a company that is climbing towards those Chick Fil A numbers. There are two of them and two right on the rule breaker scorecard. We know them well, Rick, Chipotle and Cava. They are climbing towards those Chick Fil a numbers. So Chick Fil A, when measured by average sales per restaurant is about 8 point. You were almost dead on here. 8.46 million in 2023. That's the latest numbers that we've got. And I want to give.

Rick Benares (21:29)

That's just six and that's just six days a week.

Tim Byers (21:31)

So that's Six days a week.

Rick Benares (21:32)

Yeah, yeah.

Tim Byers (21:33)

It's absolutely incredible. A great resource. If you are going to invest in this sector, I want to recommend QSR magazine and the QSR50. That's where I got this data from. So QSR magazine and the QSR 50 which is the annual ranking of unit level performance of the best quick serve restaurant operators and most of them are public. So Rick, last thoughts on restaurant investing. I'm going to say you're going to continue to be a rule breaking restaurant investor. If you had one bit of advice for somebody who wants to invest in the restaurant sector, what is it?

Rick Benares (22:12)

Stay hungry. And again, look for the innovators and look for the stuff that you like because there's a good chance that, you know, trust your gut I think is probably the best way to get through it. But yeah, yeah, it's look for companies with a lot of growth. The Chipotle when we first got on the world based scorecard, I had never been to a Chipotle. I was just going by their numbers and their comps and their expansion and it just made sense to me before they came down to Florida. But yeah, it's, it's look for a company with a, with a high ceiling as we already talked earlier. But yeah, get in, get in. When, when the company is still expanding quickly.

Tim Byers (22:45)

Yeah. Don't be afraid to, you know, address your hunger. The, the eating. The eating is good.

Rick Benares (22:53)

Fools.

Tim Byers (22:54)

As always, people on the program may have interest in the stocks they talk about and the Motley fool may have formal recommendations for or against. So don't buy or sell sell stocks based solely on what you hear. All personal finance content follows Motley fool editorial standards and is not approved by advertisers. Advertisements are sponsored content and provided for informational purposes only. To see our full advertising disclosure, please check out our show notes. Rick, thanks for being here. For our engineer, Dan Boyd, I'm Tim Byers. See you again tomorrow, fools. Full on, everyone.