The Breakfast Brand Is Leaning into Innovation and Holding Tight to Value, and Customers Are Responding
When First Watch went public last fall, CEO Chris Tomasso’s message to Wall Street was one the brand had circulated for years, only from a quieter forum. “Nobody is doing what we’re doing at scale.” It’s a point he reiterated Tuesday during First Watch’s Q2 call with investors. The chain closed the period, which ended June 26, with 449 locations (350 corporate run and 99 franchise owned). Yet it’s still running like a single-unit chef-driven restaurant, Tomasso said. Vegetables roasted in-house. Muffins baked. Fresh squeezed juice. “It's built deeply into our DNA,” he said.
These operating values anchored First Watch's green space as it raised $170 million and began trading in late September. More recently, though, Tomasso said they’ve enabled the brand to do something few competitors have across the industry’s current recovery stretch. Firstly, First Watch drove Q2 same-store traffic of 8.1 percent, year-over-year. The figure is actually 7.4 percent higher than three years ago. Tomasso said the result was “significant” given First Watch had returned to positive traffic (compared to pre-COVID levels) in Q2 of 2021. So it’s building off a rebound lap. Moreover, traffic improved sequentially quarter-over-quarter versus 2019. The chain’s average weekly traffic held consistent throughout Q2. In June, it was 4.2 percent higher than a year ago. For context, visits to full-service restaurants overall fell 4 percent in June, year-over-year, according to mobile location analytics platform Placer.ai.
And pulling back further, First Watch’s traffic averaged about 1.4 percent growth in the six years leading up to the pandemic. It plunged 29 percent as in-store business clamped, but, to Tomasso’s note, returned quickly and has stayed elevated since.
As a company, First Watch produced 28 consecutive quarters of same-restaurant sales growth from fiscal 2013 to 2019, and positive annual comparable traffic growth from fiscal 2014 to 2019.
It breaks down as follows:
Annual company-owned same-store sales growth and traffic
Same-store sales: 6.5 percent
Traffic: 1.2 percent
Same-store sales: 6.9 percent
Traffic: 0.5 percent
Same-store sales: 7.9 percent
Traffic: 1.6 percent
Same-store sales: 6.9 percent
Traffic: 2.7 percent
Same-store sales: 5.6 percent
Traffic: 1.6 percent
“Our performance clearly distinguishes us from most others in casual dining and the restaurant industry as a whole,” Tomasso said of Q2.
The fact First Watch generated traffic during a calendar where the opposite is far closer to the norm for restaurants (despite robust top-line growth, even brands like McDonald’s have seen transaction declines in recent quarters), is proof, Tomasso said, First Watch’s differentiators are insulating it through the storm. But there’s another point to note, he adds. While the broad value equation has tensed in retail, he believes First Watch’s proposition only improved.
Per federal data released Wednesday, menu price inflation was up 7.6 percent, year-over-year, in July. Full-service restaurants came in 8.9 percent higher, while limited service was 7.2 percent. Grocers outpaced again at 13.15 percent.
First Watch has treaded lightly on price since costs began to rear. It didn’t take any in 2021, deciding instead to court traffic. First Watch in July raised prices 3.9 percent and will run at just under 8 percent in the back half of the year. Tomasso said he doesn’t expect any negative impact. “This is one where we feel like we can take this price, do what we've done in the years past, which is take it to offset the inflation that we're seeing, and then hopefully that subsides a little bit and we're in a good place,” he said.
First Watch is historically cautious not because of the company's pricing power, Tomasso added, or perceived lack thereof. He’d simply rather reserve price and highlight value.
First Watch’s increases thus far have come below the rate of food away from home and grocery inflation. The chain’s per-person average, all things factored in, lists at just over $15. Tomasso said the expectation now is much of the food inflation First Watch experienced has peaked, and the brand projects costs to normalize moving forward. If so, he likes First Watch's position relative to the industry and among the consideration set for customers, recession or not.
“We believe this approach resulted in increased market share over the past year and in prior volatile periods,” Tomasso said. “We did not see any negative traffic impact from our last price increase nor have we seen what I believe to be an early indicator of pricing resistance, check management by the consumer. In fact, customers are electing to spend more in our restaurants.”
Overall beverage incidence is up at First Watch and PPA has exceeded expected levels when you consider pricing, he noted.
This fits into a broader conversation. In the economic downturn of 2008–2010, Tomasso said First Watch observed families trade out of pricier full-service gatherings into occasions like brunch and breakfast. Customers didn’t give up dining out; they reshuffled the nature of it.
For instance, guests turned grabbing a steak dinner on Friday night into getting together for brunch on the weekend, Tomasso explained. “And spend a lot less and have the same kind of social engagement, but do it during the day,” he said.
In a descriptor often used by Starbucks founder Howard Schultz, Tomasso called First Watch “an affordable luxury” that customers make room for when wallets tighten. Brunch/breakfast is not an occasion easy to recreate at home, especially with creativity. This notion isn’t a new one, but it is something First Watch has evolved toward in recent years.
“Going back to my time here in 2008, 2009, and 2010, I think in times like this, it's when the consumers demand quality, consistency,” he said. “If they are going to reduce the number of times they go out to eat, they want to make sure they get it right. And all the steps that we took coming out of COVID to communicate that quality and that consistency, whether it was the fact that we didn't take anything off of our menu when we returned or the conservative approach to pricing or some of the improvements that we've made and some of … the culinary additions that we've had, really we think will carry us through that.”
First Watch started to accelerate the rollout of alcohol in 2020. It jumped overall beverage incidence by 230 basis points out of the gate and hit 244 stores by June 2021.
The offering is now live in more than 75 percent of First Watch’s system, with a clear path to reaching “our desired penetration” by year’s end, Tomasso said. Alongside, First Watch continues to expand its fresh juice options, which hiked from 3 to 15 percent mix.
Alcohol, however, is still an entry level platform for First Watch. The brand has yet to innovate around it.
When First Watch launched alcohol in stores where it was served in dining rooms, it represented just under 4 percent of mix. Now, it’s roughly 6.5 percent. The brand is in the process of purchasing licenses to spread out.
But overall, First Watch is building a chain that promises experience as much as fuel, Tomasso said. And that’s going to appeal to all demographics.
“Again, we feel like our pricing relative is conservative, but as we look at the qualitative metrics too, our NPS scores are solid, our value scores are solid, and obviously the biggest indicator of that is traffic,” he said. “So, with those three things, plus others that we look at, that’s why we feel like we've actually improved our value proposition.”
A telling example, CFO Mel Hope shared, was when First Watch included Crab Cake Benedicts in its spring menu launch.
Hope said it was simultaneously one of First Watch’s most popular LTOs, and yet also one of its priciest. “Customers consumed it to the point where we [sourced] every bit of crab we could find,” he said. “So frankly, we have a customer who seems to see value in a lot of our items, even when we take the price up.”
Growth, KDS, and other happenings
First Watch’s Q2 systemwide sales bumped 20 percent to $231.2 million from $192.6 million this time a year ago. Revenue lifted 19.8 percent to $184.5 million (from $154 million) and same-store sales grew 13.4 percent. Comps are 30.2 percent up relative to Q2 2019.
The chain opened nine locations—five company and four franchises—across seven states and expects to bring 30–35 corporate and eight to 13 franchise-owned units to market for the full fiscal year.
Restaurant-level operating profit margin was 18.2 percent in Q2 versus 22.5 percent in the prior-year measure, thanks to inflationary challenges. F&B costs as a percentage of restaurant sales rose to 24.9 percent in the period, which is higher than Q1’s 23.1 percent. First Watch experienced inflation of 17.7 percent in commodity cost. Building on Tomasso’s comment, Hope suggested this would be the high watermark for the year.
He added dining room recovery versus 2019 grew to 93 percent for the quarter and weekly off-premises sales volumes “remained consistent” even as four-wall traffic continued its recovery.
Soaring costs or not, First Watch won’t take its foot off the innovation pedal. Its most recent seasonal offering featured the Barbacoa Quesadilla Benedict—two barbacoa quesadillas prepared quesabirria-style, topped with poached cage-free eggs and covered with Vera Cruz hollandaise, ranchero sauce, and scallions. First Watch served it with seasoned black beans and housemade pico de gallo.
Tomasso said the product performed “far better” than already high expectations and aligned with culinary trends seen throughout the independent restaurant industry. “What's more special here is that this menu item was identified and tested close to a year and a half ago, highlighting our ability to identify early trends and [roll out] seamlessly throughout a fast-growing system,” he said. “This is a unique competitive advantage that’s been refined over decades.”
On the employee front, Tomasso said First Watch’s hourly staffing levels are roughly 93 percent of what they were previously. Manager figures have “improved slightly” and currently stand at 2.8 managers per locations.
Whether First Watch ever gets all the way back or what that means for the industry going forward is hard to pin down. But the chain will work on efficiencies as that settles. First Watch’s KDS rollout is ahead of schedule, Tomasso said, and has helped the brand serve additional demand, particularly during peak hours. The goal is at least half of locations by year’s end. At Q2 exit, KDS was active in 114 restaurants. It’s upped to more than 200 since. Ticket times and accuracy improved.
“We still have relatively low brand awareness yet impressive guest satisfaction scores, creating an ideal opportunity as we move forward,” Tomasso said. “Consumers are still discovering us and we're in a great position in our brand lifecycle as we grow toward our long-term potential of 2,200 restaurants in the U.S.”