Recent news that Pizza Express, is engaging in ‘debt talks’ has sparked fears that it could be the next company to disappear from the high street. Will it be possible to turn the company’s fortunes around?
In a sector as fast-moving as the UK restaurant industry, even small changes can have significant repercussions for businesses. In recent years, there have been many new entrants to the market, due to growing interest in casual dining.
As well as new restaurants, a number of food delivery services have launched successfully, and apps such as Just Eat and Uber Eats are changing consumer habits when it comes to ordering food to eat at home. As a result of these changes, a number of high-profile businesses have hit upon hard times, for example Prezzo closed 94 restaurants last year, and Jamie’s Italian entered administration earlier this year.
Whilst each business operates differently, patterns are starting to emerge between struggling businesses within the sector. So, what can Pizza Express learn from the problems experienced by other restaurant chains and will spotting the warning signs be enough to prevent another retail casualty?
A lot can be learned from a close examination of the last set of statutory accounts for Jamie’s Italian, which highlight a number of issues. For example, increases in national living wage; food cost inflation; menu complexities; increases in rent and rates; and the appointment of a new executive management team, all contributed to the demise of the business. And Jamie’s is not alone – many other businesses in the sector are experiencing similar issues.
In a bid to improve its cash position, Jamie’s Italian tried a number of different strategies, starting with a change of management team in 2017. Their plans also included the introduction of new menus, which were designed to reduce complexities in the kitchen and lower food and wage costs. In addition, the management team carried out a comprehensive review of supply contracts and procedures and took the decision to close unprofitable sites.
The 2017 accounts also shed light on a number of planned developments, which were intended to bring about improvements, but ultimately were not followed through. For example, these developments included plans to recruit sector and change management specialists; capital investment in the chain’s remaining restaurants; devising a new menu and enhancing the restaurant experience.
There was also a focus on reviewing the supply chain, implementing a cost reduction programme and forging new commercial alliances with operators in order to drive top-line growth. These developments were scheduled to begin after September 2018, however, due to the financial results and position of the company, they never went ahead.
For business owners in the sector, it is vitally important to keep a firm grasp of financial performance. This will ensure that improvements in revenue translate into improvements in profits and increased business value. For restaurant owners, reviewing financial results regularly and benchmarking key performance indicators (KPIs) against industry standards is crucial to developing a sustainable and profitable business.
As well as focusing on KPIs, businesses in the sector should strive to maintain control of their gross profit margin and ensure that existing management accounting systems are capable of providing accurate and timely results. Typically, in the restaurant industry, the gross profit margin of a business would range from 60-70 percent, with the casual dining market sitting at the lower end of this range. If gross profit margins dip below these levels, managers need to know immediately so they can take remedial action.
If gross profit margins start to fall, this could be due to a number of factors. The cost base could be too high, sale prices may not be set at the right amount, and there could be overuse of sale discounts – the latter is a sales tactic that Pizza Express has used a lot over a number of years. At Jamie’s Italian, the business’ proposition centred on ‘ethically and well-sourced produce, healthy eating and imaginative Italian food’. However, critically, the restaurant failed to ensure this focus on healthy eating delivered healthy profits.
In recent years, the industry has seen significant pressure on wage costs, which have affected the profitability of businesses. For example, increases in national living wage, national minimum wage, pension costs, and a general shortage of staff have all impacted the sector. In this challenging climate, business owners need to keep control of wages costs and prevent them from spiralling out of control.
Whilst Menzies’ industry experts recommend that wage costs should not exceed 27-30 percent of turnover, the accounts for Jamie’s Italian, for example, highlight that they had reached 38 percent of turnover by December 2017. If wage costs were kept within the recommended range through 2016-17, the business could have added about £10m to its profit and loss account.
Aside from wage costs, the other key cost in restaurant businesses relates to property. Menzies’ industry experts recommend that these should represent about 10 percent of turnover. Whilst the level of property costs in the accounts for Jamie’s Italian is not clear, lease documents suggest that total property rents amounted to £12.8m per annum, or 11.6 percent of the company’s annual turnover, excluding any charge for rates.
Whilst hindsight is a wonderful thing, a detailed analysis of what went wrong at Jamie’s Italian could help other businesses to avoid making the same mistakes. There may still be time for Pizza Express to learn from past mistakes and make the changes needed to secure its profitability and trim costs. Anything that can be done to keep pizza on the menu and on the High Street has to be worth the investment.
Dave Gosling is a partner and hospitality & leisure sector specialist at top 20 accountancy firm, Menzies LLP