The restaurant industry is early into its summer earnings season, but the impact of California’s FAST Act hasn’t been difficult to spot. About half of Chipotle’s wage inflation, executives said, has come from raising rates (the floor is now $20) in April when the law clicked in. The figure is expected to remain at roughly 6 percent systemwide in Q3.
CFO Jack Hartung noted what Chipotle saw was “really across the entire state.” There’s been a step down in the industry with data points to suggest a pullback in broader spending. “Individual restaurants—there’s not a correlation between the step back in the spending versus the major price increase that was taken,” he said, adding Chipotle raised prices 100 basis points in the state. “And so, it looks like there’s just kind of a macro impact of less spending in the restaurant.”
Phrased differently, Chipotle’s belief is raising menu prices didn’t, store-by-store, instantly send guests running. Rather, there’s an overall softness forming statewide when it comes to California’s value proposition. Kura Sushi shared a similar sentiment, but the aftershock was more vivid given California accounts for north of half of its comp performance. The brand witnessed trends abruptly spin in mid-April. Same-store sales were running 7.3 percent in March, with California up 14.1 percent, year-over-year. By the time the quarter ended, though, Kura Sushi’s top-line rose just 0.6 percent, with the West Coast up 7.3 percent. CEO Hajime Uba told investors there was a general guest perception across California that restaurants as a category became more expensive, “introducing industry-wide pressures regardless of a given restaurant’s relative value.”
Kura Sushi originally predicted the wage increase and subsequent price hikes in quick service would only serve to reinforce the full-service brand’s relative value. That’s not what happened, however.
And so, the question becomes, where does this law and its tentacles take restaurants going forward? Raising wages in one field is going to lift the tide in others. Employers will need to compete with fellow, larger quick-serves to retain talent. The same is true of back-of-the-house full-service workers who can leave to clock higher rates elsewhere. Considering 58 percent of employees quit restaurant jobs to go work at other restaurants, this is a pulsing reality.
The Employment Policies Institute recently surveyed limited-service operators across the state to get a wider sense of how the law is affecting operations.
Firstly, operators were asked how much the $20 lift would cost their restaurants annually:
- Between $100,000–$200,000 per restaurant: 41 percent
- Less than $100,000 per restaurant: 33 percent
- More than $200,000 per restaurant: 26 percent
And how are restaurants reacting?
- Raised menu prices: 98 percent
- Reduced employee hours: 89 percent
- Limited employee shift pickup or overtime opportunities: 73 percent
- Reduced staff or consolidate positions: 70 percent
- Increased automation or self-service technology: 40 percent
- Limited supplemental employee benefit programs: 35 percent
- Closed one or more locations: 9 percent
- Other: 13 percent
It’s interesting to see the cliff succeed what’s an imminent reaction—cutting back shifts and hours—versus thinking ahead by adding technology into the fold. The latter doesn’t always allow for labor reductions given you might need more staff to handle extra order volume being placed in the front of the house (kiosks). But these solutions do create opportunities for allocation to roles in the back. Say more kitchen and expeditors instead of cashiers. Still, though, it’s not always a day-one solution considering the cost of implementation, maintenance, and the general reality you’re going to need to pay somebody $20 to work somewhere.
And speaking of the future, The EPI also polled operators on what steps they’d take in the next year. Or, after the early shock, how they expect to respond. Worth noting is the likely fact the $20 raise is more of a start-gate than finish line. The law allows increases to quick-service minimum wage in this 60-unit-and-above sphere based on recommendations of the “Fast-Food Council” it created. That group has the ability to increase minimum wage annually through 2029 by 3.5 percent or according to changes in the Consumer Price Index, whichever is lower.
What impact will the $20 minimum wage law have on your restaurant(s) in the next year?
- Raise menu prices: 93 percent
- Reduce employee hours: 87 percent
- Reduce staff or consolidate positions: 74 percent
- Limit employee shift pickup or overtime opportunities: 71 percent
- Increase automation or self-service technology: 60 percent
- Limited supplemental employee benefit programs: 51 percent
- Open future locations outside of California: 45 percent
- Close one or more locations: 27 percent
- Other: 8 percent
Automation and self-service tech jumps a full 20 points when painted as a go-forward approach. That, again, speaks to the preparation and foresight needed to rework channels of trade within a restaurant. It’s coming.
Also striking is 45 percent of operators are considering growth outside the state as their next move. How will this law effect entry into California as well as future infill strategies? Is a California exodus in the cards?
The EPI asked this question as well.
How will the $20 minimum wage law impact your growth within California?
- Significantly less likely to expand inside California: 73 percent
- Somewhat less likely to expand inside California: 16 percent
- Neutral: 8 percent
- Somewhat more likely to expand inside California: 2 percent
- Significantly more likely to expand inside California: 1 percent
How will the law impact your growth outside of California?
- Significantly more likely to expand outside California: 46 percent
- Neutral: 34 percent
- Somewhat more likely to expand outside California: 13 percent
- Significantly less likely to expand outside California: 5 percent
- Somewhat less likely to expand outside California: 2 percent
How will the law affect the likelihood of one or more of your restaurant(s) shutting down?
- Somewhat increase the likelihood of shutting down: 38 percent
- Significantly increase the likelihood of shutting down: 36 percent
- Neutral/no impact: 24 percent
- Somewhat decrease the likelihood of shutting down: 1 percent
- Significantly decrease the likelihood of shutting down: 1 percent
Going back to the labor number game, 75 percent of operators feel the future promises a restaurant run with fewer workers than before.
How will the $20 minimum wage law impact the overall number of employees at your restaurant(s)?
- Somewhat decrease: 50 percent
- Significantly decrease: 25 percent
- Significantly increase: 7 percent
- Somewhat increase: 4 percent
It’s generally a farce restaurants raise prices because they’re “greedy,” as some headlines have suggested in recent months. The vast majority of operators toe this line as gently as possible in fear of traffic implications. Even McDonald’s just saw its 16-quarter streak of positive U.S. same-store sales reverse as guest counts continue to erode. The brand implemented—and extended—a $5 Meal Deal in hopes of winning back the value-seeker.
McDonald’s mentioned the word “value” 94 times in Monday’s earnings call. BTIG analyst Peter Saleh pointed out that was nearly four times the frequency it did so this quarter last year. Guests in nearly every major market become more discerning with their spend, with management commenting Australia, Canada, the U.K., and Germany joined “the quest for deeper value” as well, Saleh said.
“This was a meaningful change in tone, suggesting McDonald’s has to invest margins across the globe to reignite traffic, a process that will likely take several quarters,” he added.
For a while last year, McDonald’s and other quick-serves reported trade down from higher-income demographics, which offset some of the challenges. In Q2, McDonald’s noted trade-out to eating at home, especially among the lower-income cohort, offset the benefit from trade down. “In our view, closing this 300-basis-point gap to grocery is going to require meaningful margin investment from McDonald’s and its franchisees in the second half of 2024 and into 2025, which will limit earnings growth,” Saleh said.
Refocusing on California, the EPI asked operators how the $20 law would impact their menu prices:
- Significantly increase: 73 percent
- Somewhat increase: 27 percent
- Neutral: 1 percent
- Somewhat decrease: zero percent
- Significantly decrease: zero percent
And to their knowledge, how will raising menu prices affect customer foot traffic?
- Significantly decrease: 58 percent
- Somewhat decrease: 34 percent
- Neutral: 5 percent
- Significantly increase: 2 percent
- Somewhat increase: 1 percent
That amounts to 92 percent of owners expecting a traffic downturn, but also realizing they need to take price nonetheless.
“Even before the $20 wage went into effect, fast-food restaurants made it clear they would not be able to survive,” EPI’s research director Rebekah Paxton said in a statement. “Now after just a few months, the policy has been a disaster, killing jobs, and shuttering restaurants. Governor Newsom and state lawmakers should be listening to small business owners and their employees instead of trying to sugarcoat the truth.”
