The impact of a $15 minimum wage on a McDonalds

There was a really interesting thread on Reddit earlier this week in the Explain It Like I’m 5 (ELI5) subreddit titled How would a $15 minimum wage ACTUALLY affect a franchised business like McDonalds?

In an effort to make sure I understand the math, I’m going to try to summarize the top response. Here we go:

The Cost of Labor (COL) is the sum your employees’ wages + benefits + payroll taxes. When viewing an operational report for a business, the COL is usually also expressed as a percentage of net sales. Net sales is gross sales minus returns and discounts which for a franchise like McDonalds means probably just subtracting the value of coupons.

For the franchise the commentor is considering for his analysis (which may or may not be an actual McDonalds), the COL is currently 28% of its net sales. So for every $1 they sell, $0.28 goes towards labor. If you buy a $15 meal, it costs $4.20 in wages to produce it on average.

(Some commentors point out that 28% is high and where they worked the goal was 15% and if they operated at more than 20% for a week the manager would get fired. Those are for higher end restaurants though.)

For restaurants, there’s also Cost of Sales aka Cost of Goods which is basically the cost of the ingredients. For this franchise, it’s also 28% of net sales. So for a $15 meal, 28% COL + 28% COS = 56% or $8.40 towards the wages and ingredients to make it.

Then there’s franchise fees (aka royalty fees which corporate charges each franchise for running a store with their brand), which are ~10% of net sales.

COL + COS + the franchise fee make up the majority of operating costs.

For the franchise he’s looking at for a particular week, those numbers work out to: $27,321 net sales so 28% to COL ($7,702) + 28% COS ($7,908) + 10% franchise fee ($2,732) = $8,979 remaining. Here, COL + COS are ~56% of the net sales. The remaining amount is used to pay the manager, assistant manager, rent/mortgage, garbage, utilities, maintenance, advertising, administrative overhead, etc.

At this restaurant, employees make $9.25/hour on average. Increasing the minimum to $15/hour would be a 62% increase in COL (we assume everyone would make $15/hour to keep it simple). With the same $27,321 net sales, that would bump COL to $12,477, reducing the remaining amount to $4,204. That won’t be enough to cover all of the remaining costs. Now COL + COS are ~74% of net sales.

For fast food restaurants, a general rule is that you want COL + COS to be under 60% and need it to be under 65% to be profitable. Another commentor said a good goal is 50% for COL + COS. It will vary by the type of restaurant; the fast food is extremely competetive so there are thin margins.

Increasing the COL by 62% would cause major issues. By increasing the hourly wage to $15, it increases the COL by $12,477 – $7,702 = $4,775/week. If you wanted the same $8,979 remaining, you’d have to increase the net sales by that $4,775/week to $32,096, an increase of 17%. That would probably come from higher menu prices, assuming customers were willing to pay it.

This other response and the comments on it are worth a read as well.

I’ll end by saying that I do believe the current US minimum wage is too low and think we should raise it, but… it’s complicated. If the national minimum wage was raised to $15/hour, that would would also lead to higher COS for McDonalds because it would cause more for companies to produce the ingredients, correct? But it would also mean that people who were making less than $15 would have more money to spend so a hypothetical 10%-20% increase in menu prices might not be that bad. But if the price of everything increases, doesn’t it decrease the value of those extra wages? While the Reddit discussion is interesting, it made me appreciate that there are professional economists out there who can take into account the full impact of a change like this.

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s