Struggling with operating costs and changing consumer habits, America’s casual dining restaurant chains are rapidly going bankrupt in their last-ditch attempts to expand or sell to opportunistic investors.

Red Lobster’s filing for Chapter 11 bankruptcy in May is likely to be the most high-profile restaurant bankruptcy of 2024, but the iconic seafood chain is just one of several brands forced into bankruptcy this year by unsustainable debt and bloated operations. The trend continued earlier this month when Italian restaurant Buca di Beppo and craft beer chain World of Beer sought refuge in bankruptcy.

For many, the goal is to use the debt respite provided by Chapter 11 of the U.S. bankruptcy code to close unprofitable locations and rework a number of supplier contracts to save money. Some also use bankruptcy to complete an ownership change or solicit offers to buy the company at a lower price.

In court filings, the bankrupt brands all say they were struggling to survive amid industry-wide difficulties, including rising food and labor costs and falling consumer demand. The Covid-19 pandemic is often cited as a trigger for the desperation, as many restaurants have struggled to adapt to changing consumer behavior, such as spikes in delivery or takeout orders and reduced weekday lunch crowds.

Additionally, pandemic-era guardrails have been removed and price-conscious consumers have avoided eating out due to higher costs. Even fast-food brands are offering cheap menu deals to win back customers amid inflationary pressures.

“We’re facing bankruptcy,” said restaurant consultant Aaron Allen, head of Aaron Allen & Associates. “We’ve been getting more and more calls lately from people who need restructuring.”

The cases illustrate not only how a global event has impacted a consumer market, but also how an entire industry is reckoning with far-reaching, lasting change.

“This is a kind of convergence of things,” Allen said. “Over the next two or three years, this will result in a restructuring of the industry.”

Keep an eye on opportunities

Restaurateurs like Mod Pizza, a fast-food chain with over 500 locations across the country, have signed buyout agreements before ending up in bankruptcy court. In other cases, U.S. bankruptcy law is being used to facilitate the transfer of businesses to investment firms that have assumed much of the company’s secured debt.

Red Lobster is moving forward with a deal that will see Fortress Investment Group acquire the company through an exchange of secured debt. Buca di Beppo has also sought court permission to begin a sale process with an initial offer from Main Street Capital Corp. to buy the company through a debt exchange.

One Table Restaurant Brands LLC, the operator of California-based Mexican restaurant chain Tocaya and salad concept chain Tender Greens, has also entered an auction, favorably positioned by lender Breakwater Management LP, which has more than $30 million in secured debt.

“There’s a lot of money at stake,” said Los Angeles-based bankruptcy attorney Howard Ehrenberg of Greenspoon Marder LLP. “Smart people think, if they invest in the business, restructure, redecorate and change the menu, can they make it work? Maybe they can.”

Rubio’s Restaurants Inc. completed a Chapter 11 transaction this month in which the fish taco chain sold most of its operations to an affiliate of TREW Capital Management Private Credit LLC for $40 million. TREW Capital, which is led by Jeff Crivello, the former CEO of barbecue restaurant chain Famous Dave’s, bought Rubio’s debt in March as the company prepared to file for Chapter 11 bankruptcy.

“Certainly there are brands that are stronger than others,” Crivello told Bloomberg Law. “You wait until a patient who is normally healthy is on the operating table to make an investment.”

“New Normal”

At the height of the pandemic, several major restaurant brands such as California Pizza Kitchen and Le Pain Quotidien filed for bankruptcy, but the vast majority trudged on, hoping that business would return to normal before government aid ran out.

Thanks to the support of landlords who were unable to find new tenants quickly and lenders who did not want to take over their businesses, the operators were largely spared.

“Some companies filed for bankruptcy during Covid, but there was definitely a trend to postpone the issue,” said Mette H. Kurth, chair of Culhane PLLC’s bankruptcy practice. “In mid-Covid, no one wanted to buy that from them.”

Government support and creditor patience have since waned. Nor has consumer demand, in many ways, returned.

When One Table filed for Chapter 11 bankruptcy in July, it noted that the ripple effects of the pandemic had had a devastating impact on its business “as they no longer have the same number of lunch workers as they did before the pandemic.”

The operator of the New York-area restaurant chain Sticky’s Finger Joint told a Delaware bankruptcy judge in April that it too had seen a decline in weekday lunchtime crowds and had struggled to adjust to “the ‘new normal’ of shorter work weeks for employees who previously commuted to New York City five days a week.”

Kurth, who guided fast-casual chain Corner Bakery through Chapter 11 bankruptcy proceedings and its sale to SSCP Management last year, said rising debt and interest rates – coupled with inflationary effects on food prices and labor costs – have made it “very difficult for these businesses to keep their doors open.”

In California, the problems are acute: in April, the minimum wage for fast-food workers was raised to $20 an hour.

“Restaurants are at record levels of debt,” Allen said. “We expect bankruptcies to increase in the fourth quarter and into 2025.”

Size adjustment

The insolvency court can also help chains with an oversupply of unprofitable locations.

“Bankruptcy is the function of capitalism to help rid the business of locations that aren’t working,” said Crivello, whose company bought 86 of the 150 restaurants Rubio once operated. “For a small restaurant portfolio, there’s always a buyer.”

Chains that filed for bankruptcy this year tried to terminate leases on stores that had closed before the bankruptcy, and some left open the possibility of further closures or rent cuts.

The fact that the costs and revenues of the individual locations are largely inconsistent does not mean that the respective chain will be forced out of business for good, says Ehrenberg. However, a reduction in physical presence is a likely consequence.

“It seems like the entire industry needs to resize,” he said. “So locations that are underperforming need to go.”

Developing a profitable version of a once-successful but now struggling restaurant chain is particularly difficult given the economic climate and changing consumer habits, Allen said. The restructuring analysis must take into account restaurant categories and competition, changing geographic markets, debt levels and the history behind a brand, the consultant said.

“It requires a really differentiated approach,” he said. “Most likely, a new ecosystem will emerge from this.”