Franchise owners and consumers in California are among the hardest hit by the higher costs.
After thirty years in business, Scott Rodrick, franchisee and CEO of Rodrick Foods, had to make the difficult decision not to renew his lease at one of his McDonald’s (MCD) locations in a San Francisco mall.
“The unprecedented changes in California’s economic landscape, coupled with a host of ill-timed legislative mandates, have significantly narrowed the restaurant’s path to extending its tenure into another term,” Rodrick told Yahoo Finance. He added that an “inflexible landlord who fixed rent per square meter,” high property taxes and retail costs were additional reasons that “made the decision difficult, but clear.”
Rodrick still owns 17 other McDonald’s locations, but is bracing for further changes in the industry. His father was one of the first to franchise a McDonald’s location in the 1960s – a very different time for franchisees than today.
“There’s been an explosion in California,” Rodrick said, referring to a series of closures of other long-standing franchises, including an In-N-Out location in Oakland and an Arby’s restaurant in Hollywood that had been around for 55 years. “We’re going to see the shock waves pass slowly over time.”
California’s minimum wage law goes into effect
One concern for quick-service restaurant owners in California is how to respond to the new legislation.
April 1 marked the first day of California’s new fast-food minimum wage law, which raised the starting wage for restaurant workers in the state to $20 an hour — from $16 previously — for chains with at least 60 locations across the country.
As franchisees struggle to maintain profitability, consumers have started voting with their feet on higher prices. Overall, the cost of dining out has increased 4% year-over-year in the past month alone. In California, menu prices at fast food restaurants increased 10.12% between September and April, with the largest increase seen in April due to the legislation.
According to data analytics platform Placer.ai, traffic at McDonald’s in California underperformed all U.S. McDonald’s locations by 2.48% in April and May compared to the same time last year. Before that, pedestrian traffic was relatively the same.
Ab Igram, executive director of Babson College’s Tariq Farid Franchise Institute, said that while the closure of a McDonald’s branch may not seem to have an impact on the overall state of the entire company, it does make consumers wonder what the overall ‘ brand health’ of the company.
Additionally, it will have a lasting impact on the community as long-time employees are displaced and, as Rodrick mentioned in his letter to customers, customers face disruptions to their routines.
McDonald’s California locations make up 9% of the U.S. restaurant portfolio. The company did not immediately respond to a request for comment on the total number of locations closed in California after April 1.
McDonald’s executives briefly touched on the California wage increase during their latest quarterly report.
“There is definitely labor inflation,” McDonald’s CEO Chris Kempczinski said when asked by an analyst about the company’s current inflation expectations. “A lot of that comes from what happened in California. … Nationally, you can probably see that we’re expecting labor inflation in the high single digits.”
McDonald’s isn’t the only one feeling the impact. Other chains like Burger King (QSR), Wendy’s (WEN), Jack in the Box (JACK) and In-N-Out are also seeing fewer visitors in California.
Chipotle (CMG), which raised prices 6% to 7%, saw year-over-year trends underperform the national average in April and May, according to Placer.ai.
On a call with investors, Chipotle CFO Jack Hartung said the impact of higher wages “will add nearly 1 full point to overall corporate prices starting in the second quarter.”
He added: “California restaurant cash flow is below the corporate average, so this increase will allow us to maintain cash flow. However, it will have a negative impact on overall margin at the restaurant level of approximately 20 basis points. “
Igram believes the real impact will be felt in the coming months.
“I would keep an eye on … what the traffic impact is between brands in California, three months down the road, six months down the road, nine months down the road,” he said.
Meanwhile, some critics of the law hope the push will make California Governor Gavin Newsom think again.
“California’s bad policies have real world consequences,” Tom Manzo, the president and founder of the trade group California Business and Industrial Alliance, told Yahoo Finance. “People are losing their jobs, businesses are leaving the state – or in this case, shutting down completely. Lawmakers need to wake up and start supporting our state’s job creators instead of punishing them.”
The group claims nearly 10,000 fast-food jobs were cut in the state after the legislation was introduced last fall.
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Brooke DiPalma is a senior reporter for Yahoo Finance. Follow her on Twitter at @BrookeDiPalma or email her at bdipalma@yahoofinance.com.
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