Since the implementation of the $20 minimum wage in California, the predicted impacts have become apparent. Store closures, staff layoffs, and price hikes for consumers are now a reality, confirming the concerns of many. Multiple points of data confirms the cost this has had on the industry, including a survey by the Employment Policies Institute (EPI), commissioned by the International Franchise Association, which reveals that increased costs amount to at least $100,000 per location while the U.S. Bureau of Labor and Statistics’ Current Employment Statistics shows more than 22,000 jobs have already been lost in California’s restaurant industry. This includes Pizza Hut’s elimination of 1,200 driver jobs, and Rubio’s shuttering 48 locations in the state overnight, leaving many out of work. Kiosks that allow consumers to place their own order versus interacting with an employee are on the rise. One kiosk provider recently stated his company is in “active conversations with every major brand in California.”
It’s worth considering if California has inadvertently created a “doom loop” for its restaurant industry within the state. The term, “doom loop,” popularized by Jim Collins in his 2001 book “Good to Great” is a “situation in which one negative economic condition creates a second negative condition, which in turn creates a third negative condition or reinforces the first, resulting in a downward spiral.” What are the initial negative economic conditions that could trigger subsequent issues, leading to a downward spiral for California’s once-thriving restaurant industry? Let’s examine the potential factors.
Contracting Footprints
Franchisors, faced with unit closures within the state and shrinking footprints, may hesitate to extend new franchise agreements to operators in a market where labor margins significantly erode already thin earnings. After all, when units established for 30 years, like this McDonald’s flagship store outside of San Francisco, are closing, why would emerging brands take risks in developing in the state? There’s a chance some brands will not develop in California at all. Fewer development deals in the state and fewer brands developing new concepts overall in its markets will accelerate the trend with fewer store openings compared to the population. Thus, the doom loop cycle is complete. The initial negative condition of higher costs, leads to a second negative condition, contracting units, leading to the third negative condition, dampening further growth. Currently California year-over-year fast food employment growth is the lowest it has been since the Great Recession barring COVID-related declines.
Evaluating the viability of growth in the state is not limited to franchisors but is also a key consideration for corporate or publicly traded restaurants. Brands already affected by the larger economic conditions of inflation and interest rates can quickly do the math on opening new units with lower overall margins. Their response to building new units in California’s market conditions versus developing in states that produce more favorable results, are not only prudent, but incumbent upon those seeking shareholder value. This thinking further perpetuates the state’s doom loop.
Technology Replacing Humans
In a frequently cited interview, operator Harsh Gai, who owns 180 fast-food restaurants in the state, said last year, “We are installing kiosks in every single restaurant.” He’s not alone. Earnings calls for some major brands all reference their deployment of self-service kiosks that eliminate jobs. Thus, the $20 minimum wage which was to assist workers, is creating a second negative condition, where jobs and working hours are eliminated, and ultimately, the overall “human” work force contracts, its own loop of failure.
The Urban Downfall
While California is expanding costs for restaurants, several of their city centers are facing their own failures with downtown areas that have never fully recovered from the pandemic. San Francisco and Sacramento, major city centers, are cited in University of Toronto’s recovery rankings as among the worst downtown markets nationwide to recover from the pandemic. In these California urban markets, under greater pressure and lower recovery rates, the empty downtown retail and office space impacts restaurant traffic, contributing to the downward spiral. In March of this year, the seemingly unstoppable In-N-Out Burger closed their first location ever nationwide.
A lack of foot traffic is not the only problem impacting California restaurants, the last San Francisco Denny’s closed in mid-August, citing “high operating costs brought on by crime” the shuttered Oakland California store, near the airport, was deemed too unsafe to operate for its employees and customers. This is yet another example of California policies leading to doom for the restaurant industry. California, which famously joined the cry to “defund the police” has netted the results of this action. Oakland’s statistics on crime, published in December 2023, showed motor vehicle theft was up 44 percent, robbery was up 38 percent, violent crime was up 21 percent and overall crime was up 17 percent.
Customer Costs
The other response to higher wage costs is to raise prices and have customers absorb the higher rate. Kalinowski Equity Research compared prices at 25 restaurants and looked at specific menu items before and after the wage hike. Their findings? Wendy’s hiked prices by roughly 8 percent with Chipotle at 7.5 percent. Taco Bell raised menu prices 3 percent while Starbuck in California increased prices by 7 percent. A recent report by the Berkley Research Group found overall food prices at California’s quick-service restaurants have increased by 14.5 percent. The outcome of these hikes is predictable with quick-service restaurant traffic measured by placer.ai showing a “sharp decline in traffic” since the introduction of the wage increase. According to the Employment Policies Institute 98 percent of restaurant owners has shared that they have raised food prices. The outcome of higher prices has dampened enthusiasm for the product, resulting in lower traffic and again, the self-fulfilling prophecy of fewer customers, and ultimately, lower sales, which leads to store closures until the loop is complete. The data suggest that low-income consumers are most directly affected.
Commercial Real Estate Risks
Retail developers are another piece of the doom loop scenario for restaurants in the state. In March of 2024, California experienced 187 commercial foreclosures. That was a 405 percent increase over the prior year. Banks, wary of development are tightening credit requirements in an already high-interest rate market, placing greater emphasis on both credit quality and expected cash flows. This leads to higher rental rates for buildings that are developed, meaning restaurant real estate costs increase, leading to fewer restaurants, and the doom loop is once again, complete.
Unfortunately, despite all the evidence to the contrary on the $20 minimum wage impact, California is not done. Part of the negotiated initial rate included the establishment of a California Fast Food Council which held is first meeting in March of 2024. They are on record as seeking another 3.5 percent increase when they meet at the end of summer.
For operators, franchisors, and the industry as a whole, California seems to have met all the criteria for a “doom loop” in the restaurant sector. The state faces a chain reaction: initial negative conditions lead to further adverse impacts, ultimately spiraling downward. This is a disappointing outcome for California, once known as the “Golden State,” which now appears to have lost its appeal for the restaurant industry, affecting every level.
As a result, expect fewer restaurants to open and existing ones to struggle for survival in the current business environment. The industry, historically a starting point for many seeking their first job or managerial experience, will offer fewer opportunities, limiting career prospects for workers in the state.
Consumers will bear the brunt of this decline, facing fewer dining options and higher prices. While the “Visit California” website still boasts that “… towns across California give travelers something special to feast on,” this sentiment may soon reflect a bygone era if the state’s policies continue to undermine the restaurant industry.
Robin Gagnon is the cofounder and CEO of We Sell Restaurants, a company specializing in business brokerage specifically for the restaurant industry.
