Taco Bell makes smart bet on U.S. Taco Co.

Yahoo Finance

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Source: U.S. Taco Co. website

Source: U.S. Taco Co. website

It's not typical for nationwide buzz to accompany a Taco Bell restaurant opening. But when it's Taco Bell's new store, U.S. Taco Co., a higher-scale eatery whose first location is now operating, it starts to make some sense. And when considering this particular store is at the center of what's working awfully well for chain restaurants these days, it makes a great deal more.

While U.S. Taco borrows from elements of Mexican and Tex-Mex cuisine, its leadership wants to focus messaging on the menu's attempts to reinvent the "best regional dishes" from America. Lobster, Mahi Mahi, pulled pork and brisket are among the centerpiece items decorated with poblano sauces, jalapenos and salsas, all on a tortilla, sold mostly in the $3 to $4 range each.

Regardless of whether one views U.S. Taco as uniquely American, Mexican-inspired, a mix of the two or even none of the above, Taco Bell's move makes good sense, both for its entry into the high-growth fast-casual sector and its kinship with Southwestern fare. The fast-casual restaurants, a group of stores that often charge more than fast-food operators, bill their ingredients as higher quality, and they outright state, or at least imply, that they possess a superior philosophy around food service than one would get from a McDonald's (MCD). For some time, this has been the brightest spot in the restaurant group.

U.S. Taco, currently just one store in Huntington Beach, Calif., is not the imminent remaking of the giant chain owned by Yum Brands (YUM), whose other main divisions are Pizza Hut and KFC. That's important to remember. But when combined with (sort of) Mexican-type fare, it's difficult to bet against the potential of U.S. Taco to add many more units.

Two numbers make it clearer why Taco Bell would want to try U.S. Taco. The first: Industry research firm Technomic says fast-casual restaurants had U.S. sales of $34.5 billion last year. No name better represents the fast-casual movement than Chipotle (CMG), the Denver-based burrito chain that, as of last year, had $3.2 billion in revenue from nearly 1,600 domestic stores. The second: Research firm IBISWorld says the nation's Mexican restaurants will combine for $35.7 billion in revenue in 2014. Take something from each idea, and you might have a winner, especially if the financial heft of one of the world's largest restaurant operators can help out.

Growth prospects

Fast casuals, Technomic says, saw sales increase 11% last year, tripling the overall rate of all restaurants in the "limited service" segment -- those with zero or almost no table service by wait staff. Meanwhile, among the top 150 fast casuals it tracks, Mexican-food sellers collected $6.4 billion in U.S. sales last year. Guest traffic has been consistently strong at fast casuals, while many dine-in and fast-food stores have seen their diner-count growth flatten or fall.

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Source: U.S. Taco Co. website

Source: U.S. Taco Co. website

As noted, U.S. Taco executives have made it clear they don't want to be perceived as another Mexican-influenced place, but they could do worse than be thought of as such. That brings us to the other factor in U.S. Taco's favor.

IBISWorld estimates the Mexican restaurant sector will have 2.6% annual revenue growth in the next five years, taking it to more than 47,000 individual locations, from some 42,000 at present. In comparison, the country is home to about 71,000 pizza sellers.

Plenty of chains do exist in the Mexican-influenced arena, including Qdoba, Lime Fresh Mexican Grill and Taco Cabana, as well as the newly public El Pollo Loco (LOCO). With all the independent stores found from coast to coast, the competing dine-in options, and the guacamole and salsas available at Chili's and the like, it may seem as though we don't need another Mexican/Tex-Mex operator.

Yet among the expected driving factors for growth are continued immigration from Mexico and Latin America, as well as rising popularity of Mexican-style and Tex-Mex food among non-immigrants. Restaurant researcher CHD Expert notes that California and Texas, two states bordering Mexico, alone account for over 36% of all the Mexican dining establishments in the U.S. While they are the most populous states, this points to an industry with room to build. Add in that many of these dishes are easily changeable and fairly affordable, and it's understandable why the firm would say the "industry is in the growth phase of its life cycle."  In other words, we've not gotten our fill of burritos, beans and avocados.

Craft food

Of course, a large part of why this store exists is to attract millennial diners. The goal here isn't simply to create a pricier Taco Bell, the largest American taco seller with almost 6,000 locations  it's about an entire experience meant to draw in Generation Y with Earth-friendly packaging and no-hormones-added steak. These influences are seen in "better burger" establishments, in craft pizza stores and even sometimes at large chains. McDonald's, for example, started offering wraps to draw in the anti-Big Mac crowd, and it's been posting well-produced videos discussing its supply practices.

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Source: U.S. Taco Co. website

Source: U.S. Taco Co. website

With every restaurant wanting to get millennials, as well as "more informed" patrons of any demographic, it's not surprising Taco Bell would surface a SoCal surfer-food shop with a conscience. It's also not entirely new, at least in spirit, with the chain having made past attempts at snazzier food with Lorena Garcia's Cantina Bell menu. (Fellow Yum company KFC has also explored fast casuals with the KFC eleven and Super Chix concepts, as it goes up against Chick-fil-A and Zaxby's.)

How big can U.S. Taco ultimately get? Taco Bell CEO Greg Creed said this to Nation's Restaurant News earlier this year: "We’re going to open a restaurant and see what happens. I'd love to see 1,000 or 1,500 of these, but let's not get ahead of ourselves."

That's a long way off, if it ever happens. But it may be that Taco Bell has found a recipe to get there.

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