Cost-cutting, private equity and piles of shrimp: What really drove Red Lobster into bankruptcy

Waves of customers hungry for under-priced shrimp. A skeleton crew of waiters overwhelmed by the unexpected demand. Tables occupied for long stretches of time, forcing new patrons to wait ages to be seated.

Such was the chaos that engulfed the popular seafood restaurant chain Red Lobster last summer when it made its "endless shrimp" promotion a permanent menu item.

The endless shrimp debacle would ultimately cost Red Lobster $11m, making up a significant proportion of its $73m net loss last year, and has been widely blamed for the company's decision to file for Chapter 11 bankruptcy on Sunday.

But a closer look suggests that the endless shrimp incident was really a symptom of deeper factors.

Court documents, experts, and former employees described a spiralling combination of bad management decisions, destructive buyouts, and even the suggestion of shrimp-related impropriety by senior executives.

So what really happened to Red Lobster? And can it recover?

Red Lobster was founded in 1968 by Bill Darden and Charley Woodsby in Lakeland, Florida, at a time when good seafood was rare across vast swathes of inland America.

Its expansion was rapid, going from 100 restaurants at the end of the Seventies to 705 across the US and Canada by 2013, with additional franchises across the world.

Much of that expansion came under the auspices of the US food giant General Mills, which bought the company in 1970 and spun it off as a separate firm in 1995. But in the wake of the 2008 financial crash Red Lobster began to struggle, and in 2014 its parent company jettisoned it in order to focus on more profitable brands such as Olive Garden

The buyer was a San Francisco-based private equity firm called Golden Gate Capital. Instead of ponying up the $2.1bn price by itself, it partly funded the deal by selling off most of Red Lobster’s real estate to another company called American Realty Capital Properties, and then having Red Lobster rent its own restaurants back.

Such agreements are not uncommon in the restaurant industry, but this one would end up costing Red Lobster dearly. “It produced cost pressures on Red Lobster that they’ve never had before,” market analyst John Gordon recently told CNN.

Indeed, a statement filed in support of Red Lobster’s bankruptcy said the company has nearly $294m in debt against less than $30m in cash, and blamed these “unfavourable leases” as a major factor.

The filing itself estimates the company’s overall liabilities as even higher, between $1bn and $10bn.

“A material portion of the company’s leases are priced above market rates,” wrote Red Lobster’s chief executive Jonathan Tibus, who was appointed in March to oversee and attempt to save the company.

Of the $190m that Red Lobster spent on rent last year, more than $64m was for branches that are underperforming, Tibus said.

“Given the company’s operational headwinds and financial position, payment of lease obligations associated with non-performing leases has caused significant strains on the company’s liquidity.”

Tibus also blamed macroeconomic factors such as high inflation, rising minimum wages in many US states, and the ongoing impact of the Covid-19 pandemic.

“What’s truly happened with Red Lobster is that the consumer base has changed and Red Lobster hasn’t,” food industry consultant Darren Tristano told Business Insider.

“Red Lobster isn’t losing to a competitor in their space – they’re losing to competitors outside their space.”

Yet Tibus’s most shocking claims relate, once again, to shrimp.

Beginning in 2016, Red Lobster slowly came under increasing control by a global seafood company called Thai Union, which had long been one of the restaurant chain’s major suppliers of shrimp.

As the restaurant struggled to recover from the pandemic, Thai Union steadily became more involved in its management. They increased menu prices to keep pace with inflation while increasing the number of tables served by each waiter from three to ten.

“Thai Union forced huge cost reductions, including many that were penny wise and pound foolish because they hurt sales,” one former Red Lobster executive told CNN.

Another former executive, Les Foreman, said Thai Union “didn’t have any idea about running a restaurant company in the United States” and was “cutting costs everywhere they could”, making life “miserable” for employees.

One former employee said that Thai Union made various menu changes that were driven by “executive opinion”, not what customers wanted. The chain saw rapid turnover in senior executives, including its CEO, chief financial officer, and chief marketing officer.

According to Tibus, the influence of Thai Union may also have been at work when Red Lobster’s then CEO Paul Kenny decided on the “endless shrimp” venture – “despite significant pushback from other members of the company’s management team”.

Tibus’s court filing says that Red Lobster is investigating whether Thai Union and Mr Kenny “encouraged excessive merchandising” for the promotion, resulting in a glut of customers that caused “major” shrimp shortages and whether Mr Kenny’s decision-making “circumvented the company’s normal supply chain and demand planning processes”.

It accuses Thai Union of “exercising an outsized influence on the company’s shrimp purchasing”, and alleges that Mr Kenny made shrimp orders to Thai Union that “did not flow through the traditional supply process or bid cycle or adhere to the company’s demand projections”.

Tibus further alleges: “In apparent coordination with Thai Union, and under the guise of a ‘quality review’, Mr Kenny made a series of decisions that eliminated two of the company’s breaded shrimp suppliers, leaving Thai Union with an exclusive deal that led to higher costs to Red Lobster.”

Indeed, CNN reported that Thai Union had seen the endless shrimp promotion as “a way to sell off the mountains of shrimp it was catching.”

Red Lobster isn’t dead yet. Filing for Chapter 11 bankruptcy means that the company will remain in business but must embark on a court-supervised rescue plan in order to pay off its creditors.

According to the filings, however, it will do so without the help of Thai Union, which announced in January that it would end its involvement with Red Lobster after eating an estimated $530m loss on its initial investment.

“The combination of Covid-19 pandemic, sustained industry headwinds, higher interest rates and rising material and labor costs have impacted Red Lobster, resulting in prolonged negative financial contributions to Thai Union and its shareholders,” said Thai Union boss Thiraphong Chansiri.

“After detailed analysis, we have determined that Red Lobster’s ongoing financial requirements no longer align with our capital allocation priorities and therefore are pursuing an exit of our minority investment.”

Whether Red Lobster can regain its position in Americans’ affections after so many years of slippage remains to be seen.

In a wider sense, many commentators have claimed this saga as an example of how the private equity business model destroys viable businesses by treating them as short-term cash cows and selling off their assets.

“Once they sell the real estate, then the private-equity company is golden, and they’ve made their money back and probably more than what they paid,” Eileen Applebaum of the left-leaning Center for Economic and Policy Research told Business Insider.

“The retail apocalypse is all about having your real estate sold out from under you so that you have to pay the rent in good times and in bad.”

Red Lobster and Thai Union did not immediately respond to a request for comment. Golden Gate Capital declined to comment.

This article has been amended on May 21 to better describe the Thai Union group and their role in operating the chain.