Business economics of minimum wage hikeBusiness economics of minimum wage hike

It dawned on me while watching news coverage of the recent quick-service strikes calling for a $15 minimum wage that the foodservice industry needs to educate its employees and the public about the economics of the business before it’s forced into a corner.

A failure to do so could result in a significantly higher cost structure for operators, steeper prices for consumers and slower unit growth that will translate into fewer employment opportunities for the very people who need them the most.

There are many aspects to this issue. Some are philosophical, such as the right for workers to earn a “living” wage. Some are emotional, such as the hardships endured by the single mother who must support her two children on $8 an hour. Some are purely economic, such as the ability of a business to pay a higher wage.

Much of the strike coverage tended to focus on the philosophical and emotional aspects, at best paying lip service to economic considerations and at worst showing ignorance of them.

An example of the latter was seen in a recent interview in which a progressive proponent of the strike cited McDonald’s record profits as proof that the chain could afford to pay higher wages. To my dismay, the interviewer did not push back on this statement. There was obviously no knowledge of the source of McDonald’s earnings, which include franchise fees, rent and international operations in addition to earnings from domestic corporate restaurants. There was no acknowledgement that the large majority of McDonald’s restaurants are operated by franchisees, the profitability of which has little relationship to that of the parent company.

Unless the restaurant industry is prepared to lose the battle for hearts and minds in this war, it’s time to teach its employees about the economics of building and operating a restaurant. In the current economic, political and social environment that increasingly pits the “1 percent against the 99 percent,” failure to do so, in my view, ultimately will result in a successful political effort to increase direct wages on the heels of pressure on indirect wages being imposed by such regulations as the Patient Protection and Affordable Care Act.

My suggested solution is to incorporate a discussion of restaurant economics into each employee’s training program — a lesson that is proving to be equally as important as how to operate the grill or use the point-of-sale system.

Key information in the discussion should include:

• Who owns the restaurant. In most cases, this will be an entrepreneur — even larger franchisees should emphasize the entrepreneurial nature of the company. The value of this is to personalize the restaurant, enabling the employee to identify that a real person is behind it, not some corporate monolith. If it is owned by a larger company, bonus potential for the local management team could be emphasized to highlight both the opportunity for hourly workers to advance and to provide the sense that someone is vested in how well the restaurant performs.

• How much the restaurant cost to build and open. For a chain this can be the average investment. The important point to get across is that capital was required to build the restaurant. Without that capital, there would be no jobs.

• A review of a sample income statement of a typical restaurant that includes at least food and beverage, labor, occupancy, and other operating costs. Disclosure requirements for public companies and the desire for confidentiality for private ones could restrict the level of detail presented. Figures from the franchise disclosure document or public earnings releases could suffice. If there is corporate overhead, an allocation should be included. The key is to demonstrate that the profit margin at the restaurant level is relatively low, especially after franchise fees for franchised restaurants are factored in.

• How the restaurant’s earnings are deployed. This could include a reserve for capital improvements, providing a return to the owner and/or investor on his investment, and cash to help fund the development of another location. Employees and the public need to understand that 1) the investor requires a return on investment and 2) some of the money generated by the restaurant is reinvested back into the business.

Much of this information is Capitalism 101 and arguably should be understood by the general public. Unfortunately, based on the discussions I’ve heard, it is not. Therefore, it’s incumbent on the industry to educate its employees, and employee training programs provide the opportunity to do so.

The National Restaurant Association also should capitalize on this wage controversy to educate the public on restaurant economics. From what I’ve seen the NRA’s response primarily has been to focus on the structure of the industry’s workforce — principally younger, not head of the household, etc. — its role as an initial employer for many successful businesspeople and its ability to fuel job growth.

In addition, the NRA should develop and aggressively publicize models for the financial information suggested above. This would serve to educate the media and the public about the economics of the business and provide a ready basis to highlight the impact of a doubling of the minimum wage and other potential cost increases. For example, if a restaurant has a pretax margin of 10 percent and minimum wage-related labor costs represent 10 percent of sales, a doubling of the minimum wage would wipe out earnings.

These are uncertain times for the industry, which are only being exacerbated by the demands for higher wages. The publicity surrounding these demands has created an opportunity for the industry to educate employees and the public on the financial realities of the business. It must act quickly and aggressively, though, or a media that is sympathetic to emotional hardship stories of having to survive on the minimum wage could wind up spurring action that slows growth, forever alters the industry’s returns and ultimately harms those who most need a job. 

Steve Rockwell has 30 years of experience in the restaurant industry, including as an analyst and finance executive. He is a partner in the Results Thru Strategy consulting firm and can be reached at [email protected].