EAT Brinker International Inc

Cocktails might be trendy, but water is increasingly the beverage of choice for consumers dining out.

A recent survey by restaurant research firm NPD group showed that tap water was the fastest growing beverage at casual dining chains in 2010," said Warren Solochek, analyst with NPD Group. "The challenge is how do you get people to buy more than just an entree."

The average check value was up 1.7% in the fourth quarter of 2010, but costs were up a lot more than that.

"Margins are going to be compressed because they don't have the pricing elasticity to manage their checks in a way that would fully offset the rising costs," Solochek said. "That will be the key issue for 2011, particularly in light of the fact that [the price of gasoline] is rising so much."

To help increase check values, casual dining restaurants are taking advantage of happy hour, offering more late-night menu items and marketing drinks specials, given that alcohol offers such a high profit margin.

Late-night business was up 12% in the fourth quarter among casual diners, compared to 2% to 3% for other day parts.

"Happy hour is a great way to get people in the door and keep them there for dinner," Solochek said.

DineEquity Inc.'s (DIN) Applebee's Neighborhood Grill & Bar and Brinker International Inc.'s (EAT) Chili's Grill & Bar Restaurant are two of the less expensive casual dining chains that are having some of the toughest times. Both are trying to ramp up bar business.

Chili's blamed its traffic declines in the fourth quarter on its less aggressive promotional strategy rather than a reflection of the underlying strength of the brand. In the latest quarter, the chain began marketing various promotions around sporting events. It's expected to show improving trends when it reports earnings later this month.

Applebee's said it expected its domestic same-store sales to rise 1% to 3% in the first quarter; the results will be announced next week. It has added more low-calorie meals and cocktails to its menu this year, and also ramped up promotions.

"Other really good news for the industry is that parties with kids are coming back," Solochek said.

Family business was up 4% in the fourth quarter while adult-only business was flat. This makes it crucial to be kid-friendly, because that could be a tie-breaker when families are deciding where to eat.

But in addition to rising labor and commodity costs, which have gone far from unnoticed by investors and analysts, the restaurant operators are facing backlash from the intense discounting they did during the recession.

"Consumers are more loyal to promotions and price and not necessarily to chains or the products they have on their menus," Solochek said. Restaurant operators should focus more on their menus to make them stand out from their close competition, which would help them win business without discounting.

Some chains are afraid to stop the good deal, but NPD Group says regular-priced visits are growing, "which shows restaurants didn't need to continue to provide as many incentives in the fourth quarter as in the past to get people to come in," Solochek said. "And that is huge from a margin standpoint."

-By Annie Gasparro, Dow Jones Newswires; 212-416-2244; annie.gasparro@dowjones.com

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