Restaurant software provider Toast (TOST) was having a nice year in the markets until it announced on Wednesday that it was reversing its decision to charge a 99-cent fee to its customers’ customers for online orders of $10 or more.
Its shares are down nearly 16% midway through Wednesday trading. Thanks to the Scrooge-like attitude of investors, Toast stock has lost one-third of its gains for the year.
While it’s still up nearly 28% in 2023, the price drop probably has potential buyers pondering whether a lower share price makes it an inviting treat. Or is Toast stock toast, after the move?
It’s the former. Here’s why.
Doing the Right Thing
Ever since Toast introduced the controversial 99-cent fee, everyone and his dog has had an opinion. For or against the fee, it takes a lot of guts to introduce something that bypasses your immediate customer while affecting the end user.
Here's the weird thing about how some people have reacted to the 99-cent fee. PepsiCo (PEP) have been hosing their end-users over the past two years of inflationary prices. And yet, many consumers blamed the grocery store chains for these higher prices.
See, here’s the thing about restaurant users: Unlike potato chips bought in the grocery store, where we all generally get hosed together, restaurant users come in all shapes, sizes, and levels of thriftiness.
Whether you like it or not, we live in a world of fees and additional costs. Toast management theorized that innovation and development should be paid for by the ultimate user, not their direct restaurant-owner customers. And, to a certain extent, they’re right to ask us users of online food ordering to pay for innovation.
However, unlike the potato chip buyer, the restaurant user might have all kinds of reasons for ordering online, including that they cannot go outside for some health-related reason. So, this customer is being unfairly penalized, despite Toast’s good intentions.
Here’s what CEO Chris Comparato had to say in its statement ending the fee controversy:
“We made the wrong decision and following a careful review, including the additional feedback we received, the fee will be removed from our Toast digital ordering channels,” Comparato stated in a letter to its restaurant-owner customers.
The company did what was right and listened to its customers, who argued the fee would be seen by its customers as petty or completely unnecessary.
It was not, however, worth a 16% haircut.
The Potato Chip Wins
The argument made by Wall Street is that the fee possesses a 100% margin, and by ending it as quickly as Toast has, the company has prolonged its pathway to profitability, which could explain the drop in share price.
“‘The financial impact (of the fee sustaining) would have been sizable and some buy-side numbers likely already reflected a potential ~7-10% run-rate impact (some were even higher) on gross profit,’ Bernstein analyst Harshita Rawat wrote in a note to clients. And Toast likely would have seen a ‘much higher impact’ on earnings before interest, taxes, depreciation and amortization (Ebitda) had it kept the fee, given a ‘100% margin,’” MarketWatch reported.
Naive restaurant users who think they’ve dodged a bullet; have not. Toast will ultimately add this fee to its customer’s bill each month as part of the software and services provided by the company.
All 85,000 locations and growing that are using Toast’s restaurant software platform will pass on the cost of innovation to their customers. Either way, like the potato chip, somebody will pay, and it isn’t going to be Toast.
You can argue that the entire episode will hurt Toast’s reputation within the restaurant community. Still, I would say that, ultimately, the users of its cloud-based software are only interested in making their restaurant businesses as efficient and profitable as possible.
Toast helps them do that. It seems ludicrous that a restaurant owner would eliminate something that works simply because their software provider made a bonehead decision. It won’t happen.
Much Ado About Nothing
Like the potato chip and PepsiCo, Toast understood how much rope it had and gambled that the move wouldn’t cause a stir. It gambled wrong. But that doesn’t mean you throw the baby out with the bathwater.
As of Q1 2023, it believed it would break even on a non-GAAP adjusted EBITDA basis on $3.75 billion in revenue. In the first quarter, it added approximately 5,500 locations. By the end of 2023, Toast should have more than 100,000 locations across the U.S. using its platform.
Is Toast stock toast after doing the right thing?
I can see it getting to GAAP profitability by the end of 2024. The sky’s the limit after that. But make no mistake; analysts are mixed on its stock, and it can ill-afford to make another boneheaded move like the 99-cent fee fiasco.
It should learn from this latest episode, which will be good for shareholders, employees, customers, and even restaurant goers.
Down 16%, it’s now a little cheaper to buy. Go for it.
On the date of publication, Will Ashworth did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
