Thursday, June 9, 2011

Economics of Five Guys' Success

I often joke with others that I am indifferent between a gourmet burger and a McDouble. Burgers are burgers, right? All it takes is a bun, a meat patty, a slice of cheese, lettuce, tomatoes, some sauce and...voila! From that perspective, it is ridiculous to pay five times more for a burger at a gourmet place like Five Guys Burgers and Fries than a McDonald. But the kidding aside, I do recognize that there are significant differences between the two, and that one pays for a higher quality good in the gourmet burger.

What's surprised me is how successful some of these gourmet burger franchises have become, especially in the current (dismal) economy. One prime example is Five Guys which, as this article points out, has an almost "cult following" for its burgers. Business seems to be booming: customers are returning and bringing their friends, franchises are sprouting up all over the country, and sales revenue rocketing upward (all these 3 reasons are interdependent). Maybe we should start referring to Five Guys as the "Apple of the Burger Industry"?

The success of gourmet burger joints is clearly an reflection of people's preference for quality. This isn't necessarily a fight of quantity vs quality given news of McDonald's increasing sales, but does come as a surprise. Costs for gourmet (alternatively referred to as "built-to-order") burgers is significantly higher than a standard McDonald's burger -- joints like Five Guys boast of their patties never being frozen, using fresh vegetables, freshly baked buns, and quality pickles. It explains why the price of a gourmet burger would be much higher.

Yet, for the average consumer, gourmet burger joints are much rarer than the McDonald's and Burger Kings of the world. New franchises may be sprouting up, but likely in places where competition is implanted. In addition, the current recession certainly should indicate a movement away from gourmet burgers as they are considered luxury goods. This paradox can be explained by looking at two items: (1) the size of the market, and (2) the demographic of the customers.

For the first one, we must not assume that the market for burgers is a zero-sum game. That is, when there is a winner, there must be a loser. The CEO of Five Guys, Jerry Murrell, explains very well: he "loves" In-N-Out burgers. (In-N-Out is a competitor to Fiv Guys, similar to how Ford competes with Toyota in automobiles). Rather than In-N-Out taking away customers who would otherwise have gone to Five Guys, In-N-Out has instead expanded the market by attracting the curious and food junkies. Those food junkies, after tasting a few In-N-Outs, would likely sample other gourmet burger joints. The end result is more business for everybody. In economic terms, the market piece has become larger -- allowing everyone to reap greater profits, even in the case of direct competitors. Not to mention the welcoming of competition is a great attitude for a CEO to have.

The second explanation has already been touched on by the article. Frequent customers at these gourmet burger joints are often not young families, but baby boomers or the so-called Generation Y (aka young professionals like myself). This demographic not only have more money to spend, but also constantly interact and persuade their friends to tag along. For the baby boomers, it could be a nostalgic stroll through their childhoods, when burgers joints dotted all across the country. Restaurants like Five Guys try to emulate not only the simplicity of food itself, but also the atmosphere also (think of those free, complimentary peanuts). As for people like me, we were the generation that grew up on the McDonald's and Burger Kings -- and therefore having missed out on the gourmet establishments. Fast-food tastes good, but sooner or later we begin to become bored of them. This comeback of sorts for these types of businesses allow us to try something that our parents or grand-parents considered to be a norm. And it looks like we're hooked.

Fundamentally speaking, gourmet burger joints are successful because they specialize and focus only on select products. This allows them to become better and better at their business (referred to as the economic "learning curve"). Specialization also makes it easier for the customer to be decisive in their food selection -- if they want a burger, they know that Five Guys has good burgers. We may like choices, but oftentimes prefer to have our options narrowed. The simple, no-nonsense approach to serving food seems to be preferred by many individuals. I also suspect the preoccupation with modern food-producing techniques as well as quality -- exemplfied by the documentary "Supersize ME"-- has something to do with the rise of gourmet burger joints.

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