In 2003, Greg Dollarhyde went to Las Vegas for the annual International Council of Shopping Centers (ICSC) exhibition. And he was feeling pretty good.
He was CEO of Baja Fresh, which at the time was the largest burrito chain in the U.S. The previous year it had been sold to Wendy’s for $275 million, which represented an obscene multiple of 33 times projected 2005 EBITDA, or earnings before taxes, depreciation and amortization.
Whatever euphoria Dollarhyde was feeling would be quickly tempered, however, when he saw the competition, the McDonald’s-owned Chipotle Mexican Grill, at the event’s restaurant section.
“It was ridiculous,” Dollarhyde said. “They had about 30 people in brown Chipotle shirts, lots of food and stuff. And this guy who ran development for him, with McDonald’s money, was just blowing it out. And they weren’t there selling franchises. They were there to find real estate and talk about the big picture.”
The event would crystalize what would happen over the next few years. When Wendy’s bought Baja Fresh in 2002, it was bigger than Chipotle, with stronger unit volumes.
But by 2006, Wendy’s unloaded the chain for $31 million, an 89% reduction in valuation in just four years. That same year, Chipotle went public, generating a massive return for McDonald’s and becoming one of the most successful restaurant IPOs of all time. The brand has since become a powerhouse. It is one of the 10 largest restaurant chains in the U.S. and remains one of the most admired stocks on Wall Street.
Baja Fresh, on the other hand, is a zombie, a chain that cycled through owners and today is just a fraction of the size it was in 2002.
Why Baja Fresh didn’t become Chipotle, or at least a rival on more equal footing, is an intriguing restaurant industry what-if. That it didn’t succeed offers numerous lessons for aspiring restaurant companies: Growth chains need investment. Real estate is a major factor in success. Be careful of competitors. And culture matters. A lot.
It’s also a lesson in just how difficult it is to pick a winner. My Technomic colleague David Henkes pointed out the two chains’ 2002 standing to demonstrate that you can’t always tell who will ultimately come out on top. So we sought out Dollarhyde, because we really wanted to know why the smaller chain ultimately won the race.
A brief history of Baja Fresh
Baja Fresh can stake every bit as big a claim to the title of fast-casual pioneer as its rival Chipotle.
The chain was founded by Jim and Linda Magglos in 1990, in Newbury Park, California. The concept promised higher-quality ingredients in a limited-service format.
The concept used fresh proteins for its menu. And it featured a self-serve salsa bar with authentic recipes. “You walk in and smell and hear the chopping,” Dollaryhyde said. “That really said fresh to people.”
It was a revolution. Fast-food chains were largely known for their emphasis on speed and convenience over freshness. McDonald’s, for instance, premade its burgers and kept them in a warmer, which compromised on quality.
Full-service restaurants, on the other hand, were not fast. And consumers were yearning for convenience.
Fast-casual chains like Baja Fresh offered a compromise that, over time, would exert enormous influence on the restaurant business.
The sector has been the source of a huge percentage of restaurant industry investment and development in the decades since then. Fast-casual chains have emerged to sell roughly everything, including burgers, pizza, and Mediterranean, Italian and Asian fare.
No good idea in the restaurant industry ultimately goes uncopied. Baja Fresh certainly attracted a few competitors.
In 1993, Steve Ells, a former line cook at Jeremiah Tower’s Stars in San Francisco, founded Chipotle in Denver. Two years later, investment banker Anthony Miller and Robert Hauser created what would eventually become Qdoba.
Dollarhyde, who had worked with a number of restaurant chains over the years, including Pizza Hut and Kenny Rogers Roasters, met the Magglos in 1996. He ultimately helped recapitalize the company and later bought the chain for $27 million along with a group of investors.
By 2002, the company was ready to go public and filed documents with the U.S. Securities and Exchange Commission on a $58 million IPO.
The burrito battle
There was little question who the king of the burrito world was by 2002.
Chipotle had more locations than Baja Fresh that year (232 v. 210). But Baja Fresh won out on every other data point. The chain had stronger average unit volumes ($1.5 million v. $1.1 million) and more total U.S. sales.
Yet in 2002, the big three burger chains were engaged in an apparent game of one-upmanship.
In the late 1990s, McDonald’s had been investing into ancillary concepts and put money into several of them, including Fazoli’s, Boston Market (mostly for the real estate) and Donato’s Pizza. And it turned to the burgeoning fast-casual Mexican sector with a $50 million investment in Chipotle. And Chipotle was clearly becoming a success.
Some of McDonald’s rivals wanted a piece of that business. And so as Baja Fresh filed its IPO documents, it also got a call from Wendy’s.
The burger chain already owned Tim Hortons, which it had acquired in the 1990s. It was clearly interested in growth chains—later in the year it would make a minority investment in another fast-casual chain, the Italian concept Pasta Pomodoro. But it wanted all of Baja Fresh.
“In no time, the senior leadership of Wendy’s was in their jet and out to Baja Fresh,” Dollarhyde said. “I put together this big, two-hour presentation on the company and the financials. And when they got in and sat down, I gave a brief introduction, and then they proceeded to tell me how great Wendy’s was, how great Wendy’s was to work for, and how Wendy’s was going to do so much for Baja Fresh.
“They barely got to the book that I put together.”
Executives continued to sell him on the deal afterward. “That was the weirdest meeting I’ve ever been in,” Dollarhyde said. “I mean, if someone’s going to buy you, usually the diligence is deep, and they bring a proctologist with them. And so that was weird.”
Wendy’s only wanted to pay cash for Baja Fresh, which provided the chain’s management team and its investors with an exit at a strong valuation. It would take some time before those investors would be able to match Wendy’s offer by going the IPO route, so the company took the offer.
“We closed very quickly,” Dollarhyde said. “Pretty soon, I was in New York on national TV with Jack (Schuessler, Wendy’s CEO) and it was beautiful. Wendy’s was explaining how great it was going to be.”
The next year, Jack in the Box acquired Qdoba Mexican Grill. And so three of the four largest fast-food burger chains were about to do battle on a completely different front: Mexican fast-casual chains.
The sale included $5 million Dollarhyde could use to give to Baja Fresh employees as bonuses. “What a happy state of my life, giving out $5 million to the team at Baja,” he said.
Immediate problems
It wouldn’t take long before problems emerged. Same-store sales started to slump late in 2022. They fell slightly in the fourth quarter of 2002, but worsened from there, including a decline of 6.8% in the second quarter. Dollarhyde said he expected some decline as some high-frequency guests backed off. But he felt he could get them back.
That also brings us back to the ICSC conference. Chipotle under McDonald’s was focused on real estate. While McDonald’s is known primarily as a franchisor, or a burger chain depending on your perspective, it is foremost a real estate company, and it has honed those skills admirably over several decades. And now it was showing Chipotle the ropes, while investing money into the chain.
McDonald’s at one point owned 90% of Chipotle and had pumped around $340 million into the chain during its ownership. The investment enabled the burrito chain to develop the processes for expansion, largely through company units. And it enabled the company to make that big blowout at the ICSC event.
“No. 1 is capital, No. 2 is intelligence,” Dollarhyde said. “That intelligence plus that much capital, plus hiring really good people in the business, just put Chipotle on the map.”
One of the concerns with Baja Fresh was its speed, or at least the perception of it.
Baja Fresh operated in a more traditional fashion. Customers paid for their order and it was handed to them some time later. But Chipotle had taken the assembly-line method pioneered by chains like Subway. Customers chose their own ingredients for their burritos and paid at the end.
“There was a perception that Chipotle was faster,” Dollarhyde said. And maybe it was. “It was accurate up to a point.” Yet he also argued that sometimes Chipotle customers walked in, saw the queue of customers waiting for their shot to create their own burrito.
Nevertheless, going up against McDonald’s and Chipotle would take cash. And Dollarhyde relayed a sit-down conversation he had with Schuessler.
Dollarhyde wanted capital for Baja Fresh. “We’re going to grow this thing. We need capital,” he quoted himself telling the Wendy’s CEO. “I have to fund some marketing for franchisees, because we have brand new franchisees in brand new cities like Detroit and Boston. They don’t know what this green stuff is. It’s on the side. And we call it guacamole.”
“We didn’t have the available funds to do that,” he added. “We had the financial plan. And our financial plan had to fit in with Wendy’s financial plan.”
Dollarhyde ultimately wanted $20 million to $30 million to invest in the brand. “Greg, you don’t understand, we already put the money in when we bought the company, you’re just going to have to figure it out,” Dollarhyde recalled being told. Wendy’s wanted Baja Fresh to spend its revenue to build the business and wouldn’t put more money into the company.
“You go from 28 restaurants to 280 in four years and you’re moving, the team’s moving, and they’re throwing a lot of heart and soul in it, and they were getting kind of a little deflated. And then my senior management team found out that we’re not going to get some cash from Wendy’s.”
Greg Dollarhyde would leave the company by April 2004.
Management and other changes
Bill Moreton, a former Panera Bread executive, joined Baja Fresh in February 2004 and was named CEO in April to replace Dollarhyde. At the time, Schuessler said the change would help Baja speed its growth and get to 600 to 700 restaurants by the end of 2008.
The move didn’t lift same-store sales. They declined 6.3% in 2004.
Brion Grube, a longtime Wendy’s executive, was named CEO in April 2005.
Baja Fresh’s same-store sales declined 3.7% that year.
Dollaryhyde described a pair of changes made under Wendy’s that would ultimately damage the brand. Baja Fresh had prided itself on its fresh salsas. Old salsa was thrown out at the end of the day and made again the next.
The chain created a quality-control team to oversee both company-operated and franchised restaurants, to ensure that operators maintained brand standards. That team was dismissed.
Franchising as a rule can be a highly successful business model, and most of the 10 largest restaurant chains in the U.S. are a franchise. But Baja Fresh was going up against a well-funded, corporate organization in Chipotle that had its own reputation for excellence. That made quality control vital.
“You got to keep the franchisees honest,” Dollarhyde said. “It’s too easy to keep the salsas overnight.”
The chain also changed some of its product sourcing, buying some Wendy’s products. “There’s not that many economies of scale in a handmade, fresh product,” he said.
The changes in food sourcing damaged brand quality, Dollarhyde noted. Baja Fresh customers noticed this.
The lack of marketing support was also problematic, particularly as Chipotle began a billboard campaign around the country.
“You’ve got this educated customer not getting the food they’re used to,” Dollarhyde said. “You’re not getting the marketing. It’s the competition. The franchisees don’t have a strong hand.”
While private-equity firms are often criticized, fairly in most cases, for some of the steps they take in buying a brand, the same should also be said for large brands that buy up growth chains. The smaller chain often needs more financial support than it seems. They also need to act quickly, which can be a problem at a large company.
But sometimes the big company just changes the growth brand’s culture to a fault and the growth brand struggles as a result. As such, these acquisitions frequently fail. Or at least it takes time for the growth brand to adjust to the culture shock. The publicly-traded big company loses patience and then sells the brand.
“A big company comes in that doesn’t really feed the culture, doesn’t hire someone who feeds the culture, understands the culture, and then starts eroding the product culture, and there you go,” Dollarhyde said.
In January 2006, Chipotle went public. The buildup for the initial public offering was so strong the company raised its price twice. When it started selling shares, the stock doubled on the first day of trading. By the following October, McDonald’s divested itself of the company.
That same month, Wendy’s sold Baja Fresh for $31 million to a group of investors, led by David Kim, a franchisee of several different brands.
McDonald’s made more than $1 billion on its investment in Chipotle. Wendy’s lost nearly $250 million.
The story since
There’s no guarantee that Baja Fresh would have thrived under different circumstances, perhaps if it went public or if Wendy’s had invested behind the brand and its marketing in those early days. It’s entirely possible that Wendy’s just had bad timing. Maybe they didn’t do enough due diligence on the brand and its competitive set.
Whatever the reason, within two years of Wendy’s buying Baja Fresh, its average unit volumes fell some $300,000, tumbling below those of Chipotle.
The company’s new owners focused largely on refranchising corporate stores, selling most of them to franchisees.
But the growth days were over. The chain’s unit count peaked at 299 restaurants in 2005, according to Technomic. They’ve been in decline since. The chain operates just 78 restaurants today.
Unit volumes have also fallen. Today, the average Baja Fresh generates just $800,000 per year, only about 60% of the unit volumes it had when it was sold to Wendy’s.
Aside from a couple of years interrupted by an E. coli outbreak, Chipotle’s unit volumes and unit sales have grown annually. Today, a typical restaurant generates $3 million a year. The brand has 3,400 locations in the U.S. and is working to develop its presence internationally.
Baja Fresh was sold in 2016, along with a sister company called La Salsa Fresh Mexican Grill, to the Canadian brand collector MTY Food Group for $27 million. But it remains a shell of itself.
Dollarhyde had an opportunity to buy the chain when Wendy’s put it up for sale in 2006. He was tempted. But he didn’t do it. “I finally decided it was like going back to an old girlfriend,” he said. “I don’t need to do this right now in my life.”
The lack of investment from Wendy’s following the deal was clearly frustrating to Dollarhyde, but he also acknowledges that he wouldn’t want to run Baja Fresh until it had 2,000 locations, anyway.
It's also a reminder these days, particularly as Jersey Mike's customers express frustration over its sale to the private-equity firm Blackstone, that any buyer of a restaurant chain can easily mess up a good thing with one or two bad decisions. No matter who they are.
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