Outlook 2008: Navigating in Turbulent Times

John Lawn

Huge financial sector write-offs and gloomy consumer sentiments. A slumping stock market and stalling growth of the GDP.

It’s in times like these that onsite foodservice, long one of the most stable parts of the consumer economy, is a welcome safe haven in an otherwise turbulent and uncertain economic storm.

Even as industry prognosticator Technomic, Inc. hurried to issue a revised-downward market forecast in mid-January, its onsite segment growth estimates—with the notable exception of those for dining in business and industry—remained upbeat (Figs. 1 & 2).

While the commercial restaurant sector is hunkering down for a tough 2008, Schools, Colleges, Senior Living and other onsite segments should see sales growth ranging from 4-8 percent.

Figure 1<br />Click on image to enlarge

This article offers a sampling of the trends affecting business opportunities in these segments. Still, it’s a community that comprises a broad market with many subtleties; for more information, readers are referred to the source reports listed at the end of this article. First, a few “big picture” observations.

Cost pressures are top of mind for most operators. While economists may quibble over technical aspects of the consumer price index, the inflation rate and “core inflation” (which excludes food and energy costs), onsite directors don’t have that luxury. Most saw unexpectedly large food cost increases in 2007 and struggled to more accurately budget food costs for this year.

Wholesale food prices, forecast to increase less than one percent in 2007, rose over seven (Fig. 3) and many internationally-traded commodities, like corn and other grains, have soared in price. The full impact of this has yet to make its way through supply channels, but it has many food manufacturers worried.

Figure 2<br />Click on image to enlarge

Rice futures are at a 20-year high. U.S. wheat stocks are at their lowest level in 60 years and corn prices have set new records. The effects of minimum wage initiatives have been aggravated by rising energy costs, putting additional pressure on wage demands. At the consumer level, the CPI is up significantly, and as the Fed tries to fend off a recession by lowering interest rates, a clear danger is that further inflation in the short term may be unavoidable.

On the frontlines, foodservice is facing price increase resistance as operators try to compensate with menu adjustments. The battle to make foodservice menu price increases stick will continue through 2008..

Figure 3<br />Click on image to enlarge.

A consumer-led, vs. a business-led slowdown. One difference between the current climate and the recession in 2000-01 is that “this looks like it may be more of a consumer-led, vs. a business-led downturn,” says Joe Pawlak, vice president of Technomic. “Given that foodservice is driven by consumer spending, there may be more of an impact.” If the past is a guide, “some customers will tend to trade-down to quickservice,” he believes.

Pawlak cautions onsite operators “to not stop innovating. In down markets, there is a tendency to focus on cutting costs and being more efficient. People sometimes forget to keep an eye on the top line. Consumers still want fresh and new menu options.”

Figure 4<br />Click on image to enlarge

Plan on marketing value. Onsite customers have always been price-sensitive, but look for additional scrutiny this year. Reduced discretionary income makes for more critical price comparisons—leading consumer brands are already gearing up for it.

Some examples: Quizno’s new $2 “Sammies” offerings and Starbucks’ experiments with small, $1 cups of coffee with free refills at its Seattle cafés. There will likely be an onslaught of value meal advertising in coming months and onsite operators should keep an eye out for such promotions and be prepared to offer in-house alternatives.

“Food price inflation is hurting operator margins and encouraging them to increase prices. Consumers resist this and it doesn’t always pay out.,” says Michele Schmal, vice president of NPD Group, a leading research organization specializing in consumer foodservice trends.

Figure 5<br />Click on image to enlarge

“The one advantage is that grocery store prices are rising faster than restaurant prices right now,” she adds. “The winners this year will be those who succeed in marketing the value of their offerings.”

Schmal says one competitive area onsite operators should pay attention to has been the growth of so-called “fast casual” chains. “Overall, quickservice is not growing in the lunch daypart. Fast casual is still small by comparison, but it has posted double digit traffic increases since 2001 and has been very successful at appealing to consumers in the 18-34-year-old group.

Figure 6<br />Click on image to enlarge

“Our research shows a third of fast casual lunches are taken off site and eaten at work, a larger percentage than in any other category,” she adds. Onsite operators may be able to appeal to those customers by positioning their own offerings as a better comparative value.

More nutrition-related regulation is in the wings, even if it is taking a back seat to economic issues for now. The FDA is considering how it might begin regulating sodium content in foods, with huge potential impacts, and legislation to require foodservice nutrition labeling is still on the table for regional nutrition activists.

The impact of energy. Increased ethanol production will double again to over ten billion gallons a year by 2010. This is dramatically affecting corn prices, exports and how crop acreage is allocated, especially for commodities like soybeans (Fig. 6). In one year, USDA says soybean acreage dropped 15 percent, 11 million acres. Meanwhile, world demand for palm, soy and other vegetable oils is up dramatically.

Here’s another sign that energy issues are spilling over into foodservice: for the first time since 1980, consumers last year drove fewer miles than the year before (Fig. 5).

Figure 7<br />Click on image to enlarge.

“For years, people said high gasoline prices would cause them to cut down on total driving, but it never really happened until this year,” says Schmal. “In doing so, they ate away from home less. But that might be an advantage for onsite,” she adds.

Finally, consumer interest in “sustainability” is increasing as energy issues attract more attention to the subject. These are also “feel good” issues for administrations and businesses—as they look to tout their support of such goals, operators will find it easier to justify investments in more efficient kitchen equipment, promote recycling efforts and market foods and services that can lay claim to this label.

COLLEGES AND UNIVERSITIES

Technomic forecasts that College and University dining sales will increase 6.3 percent in 2008, one of the highest growth rates in foodservice. Last year’s sales came in over forecast, at 6.1 percent, making this segment a prime market for suppliers.

Figure 8<br />Click on image to enlarge.

Reducing a college’s “carbon footprint” is a theme that is sweeping campuses across the country. The impact has been wide-ranging: everything from wind and solar power to campus “teach ins” on sustainability. In the same vein, Bon Appetit Management Co. last year introduced a “Low Carbon Diet,” pledging, among other efforts, to reduce food and packaging waste and purchases of beef; source all vegetables from North American sources and conduct unit by unit energy audits.

Such efforts were underscored in a new report from the Sustainable Endowments Institute, the College Sustainability Report Card, which rated 200 highly-endowed colleges in terms of eight key aspects of sustainability, (Figs. 7 & 8). More than a quarter of the institutions have signed the American College and University Presidents Climate Commitment and 69 percent have instituted “Green Bulding” policies.

FSDs are clearly on the front lines, with schools showing their best performance in the Food and Recycling category. (Perhaps unsurprisingly, the schools did worst in the “Endowment Transparency” category, where 58 percent received an “F” grade).

Figure 9<br />Click on image to enlarge.

Branded concepts, a long-standing campus trend, are still showing growth potential despite their maturity (Fig12 & 13). A new study by FoodStrategy and AIRPROJECTS shows that a majority of schools are still looking to increase their use of branded concepts attributing both increased revenue and increased student satisfaction to them.

Forty-six percent of respondents said such concepts (defined as national, contractor or manufacturer brands) were responsible for more than 20 percent of their foodservice revenues.

Concept types and locations vary significantly. Coffee and sandwich/ salad concepts are the most common, with the survey suggesting that branded sushi concepts have become more common than those based on Mexican or comfort food (Fig. 13).

Student unions remain by far the most popular location for such concepts. According to Tim O’Mara, project manager for FoodStrategy, open-ended survey questions show that the most popular coffee concept brand is Starbuck’s, followed by Seattle’s Best; in the sandwich category, Subway leads, followed by Einstein Bros., Au Bon Pain, Jazz Salads (Sodexo), and Montague’s Deli (Aramark.)

The flavor preferences of college students have become increasingly eclectic, favoring spicy, sweet savory and fragrant/aromatic profiles (Fig.14), according to another survey fielded to 24 college campus FSDs in 16 states by the Y-Pulse organization. This data is particularly interesting when compared to similar research Y-Pulse did in the secondary school market (Fig. 16).

Figure 10<br />Click on image to enlarge.

On the financial side, the latest benchmarking data from the National Association of College and University Foodservices (NACUFS) shows college operators working hard to contain food costs (Fig. 9), with board plan operations managing to reduce these as a percent of revenues even as costs per meal increased 3.7 percent.

Revenues per meal at cash operations were basically flat, but reductions in food and labor as a percent of revenue suggest that cost and portion controls are providing margin maintenance.

Figure 11<br />Click on image to enlarge.

Food costs are also taking a bigger chunk of catering revenue, with operators relying on better labor management to compensate.

C-store transaction size remains down from earlier in the decade and flat year over year. In that environment, it’s no surprise labor costs are up as a percent of store sales. Cost of goods sold is down, likely reflecting increased sales of prepared foods in c-store venues.

Meanwhile, meal plans and catering remain a significant source of revenue to universities overall. A 2007 study by FoodMark/Campus Dining, Inc., with over 100 major universities participating, illustrates some of the dynamics at work (Figs. 10 & 11).

Figure 12<br />Click on image to enlarge.

Looking at meal plans on a micro, rather than a macro basis, shows the significant variance that exists between the cost per meal to a university vs. the cost per meal to a student. Although not “profit” in a traditional sense, because the university still covers additional overhead, this variance or “over-ride” ranged from 34 to 43 percent of the meal plan cost to a student in the study.

Contract vs. self-op numbers can show a significant variance. In FoodMark®’s study, respondents were split 50:50. In general, contractors charged a higher price for meals to students, providing higher revenue to the university. “Fom a cost of the meal to the student and the university standpoint, self ops would appear to be doing a better job,” says Tom Newcomb, president of FoodMark^®. “On a percentage of meal cost to student basis, the contribution to the university is about the same whether foodservice is self-operated or contract.”

In the survey’s look at retail pricing, “check averages tend to be a bit higher under contractors, suggesting they may be more aggressive in generating retail revenue,” Newcomb adds.

Figure 13<br />Click on image to enlarge.

He also notes that individual schools often vary significantly from these averages, reflecting such factors as local “living wage” initiatives, the amount of cross subsidization and equivalency that may exist between meal plans and retail operations, etc.

“Individual schools need to look at how they compare in their pricing and over-rides relative to their peer groups,” he says.

“They need to be able to show administrations the effect changes have at the micro level as well as in terms of the big numbers. Comparative data of this sort can help illustrate the return on investment for renovations and other improvements to their programs.”

Looking ahead, many colleges and K-12 schools in the Northeast and Midwest are preparing for coming declines in enrollment even as a boom continues in the West and South. Just three states—Florida, Texas and California—will be responsible for almost half of the net population change in the U.S. over the next several years.

K-12 SCHOOLS

Technomic forecasts K-12 foodservice will see a 4.5 percent nominal growth rate in 2008. Much is coming from increases in Hispanic populations, a trend that’s more dramatic than aggregate figures alone suggest (Fig. 15).

Figure 14<br />Click on image to enlarge.

For example, College Board projections for the Western states indicate that, over the next decade, the number of white high school graduates will decline while the number of Hispanic graduates increases by almost 40 percent; by 2018, each group will represent about one-third of the high school graduate population in those states. In the Southwest the shift is even more pronounced, with Hispanics comprising about 40 percent of the high school graduate population in 2018.

These shifts have already begun to have their impact on the K-12 populatiion, which has grown more ethnically diverse across the country (Fig.15). Research from Y-Pulse shows that a majority of schools recognize 2-5 languages and that 17 percent of them print meal applications in three or more languages (Fig. 16). Increased ethnic diversity has contributed to a broadening of the K-12 palate. Again, compare differences directors report in the flavor profile preferences of K-12 students (Fig.16) vs. college students (Fig. 14).

New USDA procurement rules will affect contract management companies and distributors active in K-12. Effective last November 30, these now require state agency review and approval of foodseervice management company contracts before they can be executed and for annual state reviews. The new rule strictly defines net costs in cost-reimbursable contracts and requires management companies to document all rebates, discounts and other credits received. The rule is highly technical, and may have enforcement issues, but will be significant for those on the procurement side of school foodservice.

Figure 15<br />Click on image to enlarge.

USDA decided to punt when it came to the deadline for releasing updated NSLA menu planning guidelines consistent with the 2005 “Dietary Guidelines for Healthy Americans.” In December, its Food and Nutrition Services division (FNS) said it would instead contract with the National Institute of Medicine to make recommendations. For school FSDs, that means another delay in knowing when and how their menus will have to change to comply.

In some ways, that could be a good thing. Any new requirements will almost certainly mean increased costs, and operators are already struggling to accomodate those associated with the new wellness policies.

Wellness policies—and the changes they have generated—are having a big impact on the foods used in schools, with baked goods and a la carte entrees affected the most. They’ve also tended to increase consumption of reimbursable school meals, a trend born out by recent SNA studies (Figs 17 & 18) and by the latest data from USDA, which shows school meal consumption is up even as enrollments are declining.

Figure 16<br />Click on image to enlarge.

The SNA study also shows a corresponding decrease in la carte and vending sales. This can negatively affect school finances in districts that rely on this revenue to help subsidize their overall programs. (In many cases, school boards set school meal prices below the cost of production, but still expect balanced budgets.)

It’s a double whammy for directors: improving the nutritive quality of meals raises costs even as supplementary income from a la carte programs is declining and reimbusement rates are down in real terms. Such impacts vary by region, even if reimbursement rates don’t. Many are calling for a complete review of Federal funding and reimbursement formulas to reflect such differences.

“Funding continues to erode because reimbursable rates are not going up at the same rate expenses are,” says Mary Kate Harrison, executive director of foodservices at Hillsborough County (FL) Schools. “This issue is intimately tied to the image of school meals: if you make ends meet by cheapening food, you fall victim to the stereotypes and criticism school food has always had. And it can drive participation down.”

Figure 17<br />Click on image to enlarge.

Many had hoped the Harkin amendment to the Farm Bill would have helped address such issues. It would have given USDA authority to regulate the sale of all foods and beverages sold on school grounds and provided directors with the opportunity to capture “competitive food” revenue generated outside of school cafeterias. But as the legislation moved through Congress, it grew weaker and vaguer until support from the school nutrition community was eventually withdrawn (see editorial on page 8.) That has put attention back on reimbursement rates.

New data that may have a significant impact on reimbursement policy will be released this spring when USDA completes a major study on the effect of rising food and labor costs on school meal programs. A repeat of research last done in 1992-93, it is a wide-ranging analysis that examines all revenues and expenditures associated with school foodservice activities with a focus on the cost of producing reimbursable meals.

“The whole issue of the ratio between meal prices and reimbursements is going to get a lot more scrutiny,” says Barry Sackin, a principal with Sackin Associates, a consulting group active in the segment. “It is going to be very high on many advocacy groups’ agendas.”

BUSINESS & INDUSTRY

Last September, Technomic forecasted that B&I would have a nominal 2008 growth rate of only 1.3 percent in 2008. By mid-January, it had revised that forecast downward by six points.

If a formal recession is in the cards, the impact on corporate dining is predictable. When employment declines, so do available dining populations. A B&I slowdown could also put more urgency into contractors’ efforts to diversify into other segments and facility management services.

Figure 18<br />Click on image to enlarge.

Look for warning signs in catering numbers. Catering moratoriums were a common cost-cutting measure for corporate America earlier in the decade; they will tend to reduce margins as well as revenue because catering often helps subsidize other B&I dining programs.

Meanwhile, client liaisons are striving for balance. “Those of us in the corporate environment increasingly find ourselves trying to achieve competing goals,” says Kathy Sanders, vice president of corporate services for Wachovia and this year’s president of the Society for Foodservice Management (SFM).

“There is a huge demand for takeout, but also an emphasis on reducing takeout packaging’s cost to the environment and consumer. You want to discourage the use of containers that are not biodegradeable, but those that are cost even more. And permanentware doesn’t satisfy customers’ need for portability.

Figure 19<br />Click on image to enlarge.

“Onsite operators have similar challenges with healthful dining. We want to encourage employees to make better choices and to provide options to fit that model. But the cost to our vendors to prepare and merchandise those kinds of foods tends to be higher—and consumers are often not willing to pay the higher price.”

Out to Lunch. Most B&I operators have their hands full just maintaining current participation. “The most pronounced trend in B&I is that lunch participation isn’t going anywhere,” says Tom Newcomb, president of FoodMark®/Corporate Dining, a consulting firm active in the segment. “It has remained flat, a victim of flextime, ‘hoteling’ time and declines in available lunchtime populations.”

Figure 20<br />Click on image to enlarge.

Newcomb also believes that “the newer generation—the Millennials, the ‘Demanders’—is a different eating crowd. We will really need to change our dining concepts and facilities to meet their needs.”

Corporate dining operations that operate at a deficit have aggressively sought to reduce that subsidy, according to FoodMark^®,’s benchmarking data. “The average deficit of those who have one has continued to decline,” says Newcomb. “A few years ago, the average cafeteria running a deficit received a daily subsidy of about $700—today that amount is about $350.”

Menu price increases have been widespread among B&I operations, he says, though they are not always as effective as hoped. “Last year, the lunch check average overall went up four percent, but the market basket was up 8.8 percent. So we are charging more, but not necessarily converting it into revenue.” He thinks operators will continue to raise prices to help cover the rising cost of energy, packaging and “going green.”

Newcomb also says that, for the first time, surveys show that operations running at a deficit report a higher market basket price than those operating with an excess. “At that point, the skeptic in me says—focus on getting better at operations rather than in trying to make up the deficit with above-market pricing.”

Figure 21<br />Click on image to enlarge.

Procurement as part of the profitability equation. With fee contracts on accounts over $10 million averaging “three to five percent,” Newcomb says clients should recognize that contractor procurement programs operate as profit centers and take that into account in negotiations. “No one works for three to five percent. If a contractor doesn’t supplement that margin with purchasing, it has to come back in fees or some other way. It is not good or bad, just something clients need to recognize is part of the negotiation.”

HEALTHCARE

Technomic originally forecast that hospitals and long term care facilities would see 4.7 percent growth in 2008, with senior dining seeing a spectacular 8.2 percent increase. In its revised forecast, the consulting firm shaved two points for hospitals and LTC, but for the long term, both are on a growth curve. One main reason?

Figure 22<br />Click on image to enlarge.

Retail foodservice in healthcare looks more like that of B&I all the time (the difference being virtually guaranteed employee population growth in coming years), and its menus are changing to match.

A member survey by the National Society for Healthcare Foodservice Management (HFM) showed that about half now employ an executive chef and 12 percent say they use some organic ingredients. 25 percent say they use sustainable food procurement practices and another 24 percent say they are under consideration. 57 percent say retail’s share of the total meals served has increased in the past year.

In many regions, widening ethnic diversity in the workforce has meant that hospitals have been at the front lines in terms of experimenting with ethnic food variety. So much so that “a lot of it is mainstream for us now,” says Mary Angela Miller, administrative director of The Ohio State University Medical Center (OSUMC) and this year’s president of HFM. (Among other ethnic influences, her facility recognizes a large Somali population.)

“Also consider that we are not just responding to demand for ethnic foods,” she says. “In many cases our programs are probably introducing employees to new flavor profiles before they would experience them in any other way.”

Figure 23<br />Click on image to enlarge.

Hospitals are adopting many B&I retail sales-building strategies, marketing their cafés as destinations for mid-morning and mid-afternon snacks, extending breakfast periods, merchandising more effectively and emphasizing convenience and takeout options.

Foods associated with health and wellness seem to be an easier sell in healthcare. There are likely multiple reasons: more support from hospital administrations for such offerings, more health awareness in the employee population and a larger percentage of women in the workforce. More than half of HFM’s member respondents say they provide customers with nutrition information about menued items.

Hospital operators are also catering to retail customers by offering products like soy milk and pro-biotics and incorporating ingredients like flax seed and pomegranate into prepared foods (Fig.21). A significant minority (18 percent) report customers are also demanding products that don’t contain common allergens or are gluten free.

“Going green” is finding a lot of support in healthcare. “Contrast it to another big trend—adding room service,” says Miller. “Room service is capital- and labor-intensive and requires a lot of time and planning to implement. But implementing “green” activities is something everyone can do, in ways customized to our invidiual situations. It’s a trend employees understand easily and want to embrace. And it resonates with everyone, not just with patients.” Look for a lot more of it in healthcare settings.

Takeout is booming. A quarter of HFM survey respondents say 30 percent or more of their retail sales are consumed in another part of the hospital and eight percent report that more than half of retail sales are consumed elsewhere (Fig.22).

Miller says OSUMC has seen an increase in multiple takeout orders being picked up by one individual who will take them back to a department. “Large hospitals often have long transit times between floors and in elevator banks,” she adds. “That’s one reason our department has implemented online takeout ordering and begun stocking larger carryout trays that can carry multiple cups.”

SELECTED RESOURCES

For info on NACUFS benchmarking, contact NACUFS at (517) 332-2494.
For info on HFM, its benchmarking and surveys, HFM at (202) 546-7236.
For information on FoodMark^®, call (440) 247-3663
For information on Y-Pulse, call (312) 280-9061
For The College Board’s Higher Education Landscape, go to http://professionals.collegeboard.com/data-reports-research/trends
For the 2008 College Sustainability Report Card, go to www.ofbalance.com.
For From Cupcakes to Carrots: Local Wellness Policies One Year Later; go to the School Nutrition Association, www.schoolnutrition.org
For Procurement Requirements for the National School Lunch, School Breakfast and Special Milk Programs; USDA, www.fns.usda.gov/cnd/Governance/regulations/ProcRule10_07.pdf