Fast-food restaurants have a problem. Just as Benjamin Franklin disparaged New Jersey for being "a keg tapped at both ends" between New York and Philadelphia, fast food is being bled dry of sales by fast-casual dining chains on one hand and convenience stores on the other.
The foodservice industry is still reeling from the effects of the recession, with the market researchers at NPD Group finding the fast-casual segment the only dining category enjoying any growth, recording 8% growth in 2013 compared to 2% for the whole industry.
Fast-food chains in particular are suffering from losing diners who enjoy the balance of price, quality, and ambience they get at fast-casual restaurants like Chipotle Mexican Grill (NYSE:CMG) and Panera Bread (NASDAQ:PNRA), while also trading down to convenience stores like 7-Eleven and Wawa that are adding more fresh food options and, well, convenience. Analysts at Technomic say 34% of consumers say they would have visited a restaurant had they not purchased a prepared food from a C-store on their most recent visit.
The fallout has been predictable. McDonald's (NYSE:MCD) witnessed its fourth consecutive drop in comparable-store sales in February while they barely budged 0.2% higher for Burger King Worldwide (NYSE:BKW). Just last week hot sub shop Quiznos filed for bankruptcy, which followed on the heels of pizza joint Sbarro doing the same thing. In contrast, Chiptole's fourth-quarter earnings surged 30% over last year as the burrito chain said increased traffic juiced sales and Panera similarly said its fourth-quarter profits rose more than 5% on higher same-store sales, even though it rang up fewer transactions.
To stem the losses, fast-food chains are turning to technology, namely mobile ordering and payment apps, though it's doubtful it will help. Whereas Starbucks (NASDAQ:SBUX) is a recognized leader in this field with its popularly sleek mobile app that will now allow tipping too, others are quickly following suit. Burger King, for example, just said it would begin accepting payments and offering discounts through mobile devices at more than 7,000 U.S. restaurants, while Yum! Brands' Taco Bell unit will be adding mobile ordering capabilities later this year. Others including McDonald's, Chick-fil-A, and Wendy's have announced similar plans as well.
Because restaurants like Chipotle, Panera, and Starbucks have had mobile apps for years, I'm doubtful that fast-food joints suddenly adopting the technology will meaningfully improve their chances for success. They were late to embrace it, and while improving customers' ability to order and pay as well as being able to tie them into loyalty programs could help, fast food has more problems than that.
Fast-food chains need to improve their higher-end menu items to better compete with fast-casual chains, but that will likely mean higher prices. Price-sensitive customers are already leaking to the convenience stores, and it may become a torrent if the fast-food restaurants have to raise prices.
More than a double-tapped keg, fast-food chains are caught between a rock and a hard place, and blindly grasping at technology to extricate themselves from their predicament. It's not an enviable place to be in and not a sector investors should willingly place their money in.
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Rich Duprey has no position in any stocks mentioned. The Motley Fool recommends Burger King Worldwide, Chipotle Mexican Grill, McDonald's, Panera Bread, and Starbucks. The Motley Fool owns shares of Chipotle Mexican Grill, McDonald's, Panera Bread, and Starbucks. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.