Food prices are dropping. Restaurant prices aren’t.

Source: By Thomas Heath, Washington Post • Posted: Friday, October 14, 2016

The United States is awash in pork, beef, eggs, milk and bountiful harvests. U.S. meat companies are producing nearly 5 percent more beef than in 2015, thanks in part to plentiful feed supplies. In turn, the big food producers like Cargill, are seeing profits rise. The Minnesota conglomerate recently reported a 66 percent jump in profits because of demand for its steaks and hamburgers.

And yet the boom in supply is driving down prices at the grocery store, pinching retailer profits. The pressure may build with this week’s news that online retailer is opening a string of brick-and-mortar stores for its Fresh line of groceries.

But while food price deflation may be good news for grocery shoppers, it’s having a boomerang effect on the restaurant industry, which is seeing other costs rise at the very time demand is flattening because folks are opting to cook at home instead of hitting the local steakhouse or fast-casual restaurant. Even demand for McDonald’s venerable gut-buster Big Mac is wheezing.

Part of the problem is that grocery stores and restaurants are very different business models, despite being reliant on the same products. Real estate, labor and taxes are a big part of restaurant costs. When those prices rise, they pinch the industry’s razor-thin margins.

“Restaurant prices are primarily comprised of labor and rental costs with only a small portion going toward food,” according to a recent report by the U.S. Department of Agriculture. “For this reason, decreasing farm-level and wholesale food prices have had less of an impact on restaurant menu prices.”

Indeed. Menu prices have been rising at a 2.7 percent rate, according to Hudson Riehle, senior vice president for research at  the National Restaurant Association. “Grocery store prices have dropped by 0.9 percent over the same period…For a typical restaurant patron, the gap between menu price inflation and grocery store price deflation is now in excess of three percentage points.”

Translation: it’s getting cheaper by the day to shop at the grocery stores, rather than head for a restaurant.

Don’t feel too sorry for America’s 1 million restaurants, which is the second highest private employer in the nation, with 14 million individuals, after health care. Despite a host of challenges, the industry should post $783 billion in sales this year, up five percent over last year, according to Riehle. And some restaurants, such as Olive Garden, have shown growth amidst a slumping industry.

Part of the problem is cheap gasoline. Dropping gas prices in normal cycles boosts cash available for families to spend going out to dinner. But the gas savings is paying for things like higher rent and insurance. That is creating unfulfilled demand for eating out.

“The slow-growth economic environment has made them much more thoughtful on how they spend their food dollar,” Riehle said.

More people by far prefer eating out to shopping at grocery stores by a margin of 90 percent versus 66 percent, according the National Restaurant Association. Fifty-two percent of the dollars spent on food is spent at grocery stores versus 48 percent at restaurants. “Almost half [of consumers] report that they are not using restaurants as much as they would like in their daily lifestyle,” Riehle said.

One sliver that Amazon Fresh may have spied is the growing demand over the last decade for drive-through food purchases, which can attract a segment of consumers who want to eat in but lack the time to shop.