March 25, 2015

By Bob Coleman
Editor, Coleman C Suite Report

If you have a restaurant borrower in Seattle, they will need to raise prices 6.7% next week in order to absorb the impact of the increase in the minimum wage.

I am agnostic on the current dust up on whether Seattle restaurants are closing because of the impending increase of the minimum wage, or closing due to typical restaurant failure factors.

However, I do know Main Street eatery owners will have to devise and execute a strategy to deal with the increased labor costs, or they too will be closing their doors.

By the way. Don’t think this is a one-time local Seattle issue. The $15 minimum wage movement is spreading throughout the country. In the last year 22 minimum wage-related bills have been introduced across 14 states.

Beginning next month, the Seattle minimum wage will increase from $9 to $11 an hour. Additional increases will follow at the first of the year to $13, and to $15 by January 1, 2017.

For small businesses with less than 500 employees, the increases are less — $10 next month, $10.50 at the first of the year, etc, and gradually phasing in to $17.25 an hour in ten years.

The first skirmish has to do with franchisees. The city maintains small business owners who own a franchise will be considered to a large employer, due their affiliation. This is currently being litigated.

So, what are my calculations?

Here’s a simple case study.

Take a franchised quick service restaurant with $500,000 in revenues. Assume they allocate 30% each to food, labor and g&a, leaving a 10% profit margin. Assume they pay $9 an hour. A $2 hour increase will increase their costs $33,000. To absorb the costs at the top end, prices will need to raise 6.7%.

The challenge of course is will the marketplace, or the Brand for that matter, endorse the price hikes?

And of course, we now move from a comfortable labor cost of 30%, to pushing 35%.

To fully absorb the increased labor costs, and keep them at a prudent 30%, there must be a 20% price increase. That could be problematic.

Any number of things can occur in that will impact cash flow — and most of them are bad.

Oh, and don’t forget, our case study entrepreneur will have to go through this exercise again in nine months, and a year after that.

The takeaway is we’re in uncharted territory with our borrowers who face such hefty labor cost increases. I believe no action is a losing strategy. But, no one knows what a winning strategy is yet.

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