Your Next Favorite Restaurant Might Not Be a Restaurant
(Bloomberg) -- At Chili’s and Maggiano’s, the buzz is about their booming new side hustle—It’s Just Wings. Same at Applebee’s, where its startup, Neighborhood Wings, is doing a brisk business.
Both are online-only ventures that the chains quickly set up in hundreds of their kitchens—fresh takes on a business that the industry likes to call digital restaurants. The push into this model was tepid for years, but the pandemic created an urgent scramble to find new customers and put idle kitchen staffs back to work in a bid revive a sector among the hardest hit by months of social-distancing and rolling lockdowns.
Additional chains, like Chuck E. Cheese, have started similar online brands. And just last week, Chipotle debuted a “digital-only” restaurant that bears its name, but only takes web orders and has no dining room. They’ve been joined by smaller operators who have a growing, easy-to-use infrastructure. One company, The Local Culinary, has eliminated the need to come up with a concept by franchising out 50 established digital brands ranging from Mr. Cheeseburger to Very Vegan.
Early indications are that the businesses are doing well. While there's little publicly-available data on sales and profits, executives at some of these chains have already seen enough promise to pledge further investments in these new businesses. Chili’s and Maggiano’s, both owned by Brinker International Inc., launched It’s Just Wings out of 1,000 locations in June. It’s already on pace to hit $150 million in sales in its first year, which would account for about 5% of annual revenue.
“We see a lot of upside for virtual brands,” Brinker Chief Executive Officer Wyman Roberts said on a recent earnings call. The addition of It’s Just Wings boosted profit margins by generating more sales without adding much labor—another reason Brinker is already testing additional concepts. “This is just phase one.”
Conventional wisdom has been that once the pandemic fades, people will flow back into eateries. But Americans are cooking more, especially younger adults. Consumers have invested in their kitchens, splurging on breadmakers and deep freezers. And for nine months, they’ve turned eating out occasions into ordering in—what the industry calls “off-premise.” Across the U.S., which is seeing daily Covid cases hit new highs, sit-down dining is still down more than half from what it was a year ago, according to data from OpenTable.
Serving food without a dining area isn’t new—pushcarts and food stands have been around for centuries. But what’s different today is that a mix of technology, abundant commercial space and increasing delivery speed from third-parties like Grubhub, Uber Eats and DoorDash have made expansion easier and cheaper.
Technology, like order aggregation software, has simplified operations. Since luring diners doesn’t matter, kitchens can be set up in a basement, warehouse or second floor. If you already have kitchens, like Chuck E. Cheese, which launched digital brand Pasqually’s Pizza and Wings during the pandemic, the space is already paid for.
Given the economic incentives of lower operating costs, Americans’ love of immediate gratification and that Covid may have permanently changed eating habits, it’s not hard to see a future where the next McDonald’s or TGI Fridays invests little in tables and waitstaff and instead seeks an advantage by spending on online advertising, digital bells and whistles and making better food at lower prices.
“Literally 90% of the top restaurants in this country” have expressed interest in working with us, said Atul Sood, chief business officer at Kitchen United, which operates cooking centers in a handful of cities with plans to expand. The company describes its services for restaurants as a “turnkey, capital-light way to expand their reach to the off-premise diner.”
For Applebee’s, the move toward a digital-only brand came a few months into the pandemic, with its sales plummeting and cash dwindling. As Covid raged and indoor dining closed across the country, the company quickly created a pared down menu of chicken wings, mozzarella sticks and other comfort food and delivered via Grubhub’s food-ordering apps.
Within weeks, Neighborhood Wings had a national presence, and now its orders are produced in about 700 Applebee’s kitchens. Dine Brands Global Inc., which owns Applebee’s and IHOP, has been mum on financial results, but plans to pour money into the fledgling brand.
“We've kind of dipped our toe in the water,” Applebee’s President John Cywinski said on a recent call with analysts. Going forward, we see “significant” ways to boost the concept, he said.
What’s happening in restaurants mirrors the broader retail industry, where digital startups became national players quickly thanks to the reach of the internet and advancements in targeting consumers through digital marketing, like social media. Instead of taking a decade to gain customers across the country, they did it in a few years. Now virtual restaurants, started by established chains and entrepreneurs, are trying to replicate that.
There’s already a hodgepodge of business models and infrastructure that have sprung up to speed expansion. ClusterTruck, a delivery-only restaurant based in Indianapolis, recently opened two locations in Kroger stores, shipping out cooked meals from underused deli facilities. Reef Kitchens lets restaurants outsource their delivery operations at no cost, but it keeps proceeds and instead pays the eatery through a revenue-sharing agreement.
Investors have noticed, with the young industry attracting an estimated $5.5 billion in capital over the past year from the likes of Google Ventures, Softbank, and Y Combinator, according to PitchBook.
“It is going to continue to grow in a very exponential way,” said Sterling Douglass, chief executive of Chowly, a restaurant technology company that has worked with chains like Golden Corral. He estimates there are nearly 100,000 digital restaurants in the U.S. and expects that to quickly multiply because “it’s getting so easy to spin out additional concepts.”
Now it’s hard for the CEO of a public restaurant company to not get asked about virtual concepts. But some—for now—are holding off. Relying on delivery can eat into profits, especially if a chain uses third parties like Grubhub. Darden Restaurants, owner of several chains including Olive Garden, dismissed the idea in late September when CEO Gene Lee made the case that a huge part of building a successful restaurant brand is a dining space.
“I'm not saying it's a good idea or a bad idea—it's not for us,” Lee said of digital-only concepts. “We think it's a distraction.”
For other chains, birthing a virtual concept has proven to be a quick and cheap way to target a new demographic, an issue that every legacy chain faces. In the past, such an effort would have meant spending oodles on marketing or building out a fleet of locations.
But now Chili’s can capture college kids who might never have stepped inside one of its restaurants. Over 75% of diners who ordered from a digital spinoff on one of Grubhub’s platforms had never made a purchase from the core brand, according to Grubhub.
All this is only increasing competition for the off-premise diner, a fierce battle that has seen traditional restaurants plow resources into digital offerings. The shift toward ordering in has even pushed convenience stores, like 7-Eleven, to quickly expand online.
Richard Leteurtre, chef and owner of Bistro 1902, signed up with The Local Culinary after the pandemic temporarily shuttered his restaurant in Hollywood, Florida. His French cuisine doesn’t hold up well when delivered, leaving him in a bind. But after a month, the digital brands he made food for accounted for about a quarter of his sales.
"It’s a lot of work at the beginning, a lot of prep, a lot of mise en place. It’s not easy money," said Leteurtre, who has worked in restaurants for a quarter century. But "it’s a part of the future."
©2020 Bloomberg L.P.