MCDONALD’S EXODUS: McDonald’s operators have had enough. For decades,
they’ve put up with McDonald’s anti franchisee policies and agressive corporate politics just to
have a chance at growing a thriving restaurant. But, the more time they put in, the more they
realize that this deal is far more favorable for McDonalds. The average franchisee owner pulls
in $150,000 per year from each restaurant which sounds great until you realize that you have to
invest $1 to $2.2 million to get your hands on a location. In other words, operators are running a
full restaurant business just to earn a 10% return on their investment. Instead of putting in all
this effort into running a restaurant, operators could just invest their money into the S&P 500
and earn comparable returns with absolutely no effort. This is only made worse by the fact that
as a franchisee, you’re not even building up your own brand, you’re building up McDonald’s brand
which is doing better than ever. You know how there’s all this fear about recessions, layoffs,
bank failures, interest rates, and what not? Well, despite all that turmoil, McDonald’s is
doing better than ever. They’re one of the only companies’ who stock is at near all time high
levels giving them a valuation of just under $200 billion. A similar story can be seen with their
net income as well. In the last 12 month period, McDonald’s profited just over $6 billion. If
we divide that amongst their 38,000 locations, we get an average income per store of $162,000
or even more than the average franchisee. Given McDonald’s brand image, it’s not surprising
that their able to charge such a premium, but more franchisees than ever are starting question
whether all of this is even worth it, and for many of them, the answer is no. In 2021, a record 13%
of franchise owned locations changed hands. For perspective, only 6% of Burger King franchise
locations changed hands during the same time period. If we zoom out a little, it just looks
even worse for McDonalds. Between 2019 and 2022, 28% of McDonald’s locations have either been
closed or sold off. And according to operators, it’s only getting worse. There’s apparently
a line to get out the door. So, here’s why McDonald’s operators are leaving in droves and
the frightening implications for McDonald’s. EXPENSIVE REMODELS:
McDonald’s likes to write off the exodus as simply pent up demand from the pandemic,
but in reality, there was a pivotal event 2018: remodels. This marked the biggest remodel in
the company’s history in decades and it was required. McDonald’s wanted new furniture, new
decor, remodeled counters, exterior redesigns, digital kiosks, and reimagined drive thru lanes.
Even if you only go to McDonald’s on an occasional basis, I’m sure you’ve noticed these changes. And
honestly, they’re pretty nice, but they were also quite a burden for franchise owners. McDonald’s
offered to pay 55% of the renovation expenses for the affected 14,000 US restaurants
which came out to a total of $6 billion. This means that the average cost to renovate
each store was a whopping $779,000, out of which operators were responsible for $350,000, and
that’s just the average. For older more outdated stores, the renovation expenses were probably
closer to a million dollars if not over which pushes up the operator contribution to nearly
$500,000. This is made even worse by the fact that the stores that are most likely to be outdated and
run down are ones that aren’t performing as well. In other words, the stores that are performing
the worst would likely have to pay the highest bill. For 40% of operators, this was completely
unfeasible as the remodel expense would put them in danger of not having their leases renewed
based on McDonald’s own financial requirements, though McDonald’s does dispute this number.
For obvious reasons, operators were triggered. In fact, when asked to rate their relationship
with McDonald’s from a scale of 1-5, the average operator gave a rating of 1.19, and that was in
April of 2022. This was the 3rd worst rating in the survey’s history and the 2 times that it
was worse were both during the height of the remodels. All of this tension would lead to the
creation of basically a franchisee union named the National Owners Asociation in 2018 which was
the first of its kind in the company’s history. The association has been trying to advocate on
behalf of operators, but it doesn’t seem like they’ve been able to make much tangible progress.
In fact, McDonald’s has not only not backed off, but they tried to offload even more of the remodel
expenses onto operators. The most notable example of this was a new technology fee that McDonald’s
implemented in late 2020. Apparently, McDonald’s was racking up too much debt, so they decided to
charge operators a $70 million technology fee. Operators would end up suing McDonald’s, but
even this didn’t eliminate the fee, though it did reduce by 60%. It seems that McDonald’s has
gotten into a habit of prioritizing end consumers and shareholders over everything else which
isn’t a bad thing in itself. The reason that it’s bad in McDonald’s case is that they’re doing
it at the cost of operators which is not exactly a very smart move long term given that 93% of
their locations are operated by independent business owners. But, expensive remodels and
annoying technology fees are just the tip of the iceberg. The truth is that the entire partnership
between operators and McDonald’s is just a facade. FACADE OF A PARTNERSHIP: When you think McDonald’s, we all think of
burgers, fries, creepy clowns, and big golden arches, but what if I told you that McDonald’s
doesn’t actually make money from any of this? While these are what us consumers associate with
McDonald’s, the reality is that we’re not even the real end consumer of McDonald’s. The real end
consumer is actually operators, and if you don’t believe me, just take it from McDonald’s former
CFO himself. “We are not technically in the food business. We are in the real estate business. The
only reason we sell fifteen-cent hamburgers is because they are the greatest producer of revenue,
from which our tenants can pay us our rent.” This might be confusing because it’s been engrained
in all of our minds that McDonalds is a fast food company. But in reality, McDonald’s figured that
that wasn’t all that lucrative decades ago. I mean just think about it. Even if you sell billions of
burgers every year, if you’re only make 10 or 20 cents on each burger, it’s not gonna be that much
money on a company scale. If you own the land of tens of thousands of the most desirable locations
in the world and charge your operators massive leases though, well, now you’re talking. This is
magnitudes more profitable than selling burgers and it’s evident in McDonald’s market cap. They’re
worth over 4 times more than the 2nd largest restaurant chain, Chipotle, and they’re worth
almost 20 times more than Domino’s. This isn’t to say that McDonald’s is 20 times more popular than
Domino’s or that they sell 20 times more food, but it does mean that their business is 20 times
more attractive for investors. While this model is brilliant for investors, it hasn’t been all
that friendly for operators especially over the past few years because of the real estate
boom. Right at the beginning of the pandemic, the Fed cut interest rates to 0% which led to
real estate across the country going absolutely wild. And given that McDonald’s is a real estate
business, I don’t think you’d be surprised to see that McDonald’s total assets also went wild. But,
this didn’t exactly sit well with operators. Here they were struggling to pay cashiers and burger
flippers minimum wage during one of the worst hospitality crises ever while McDonald’s
was doing better than ever. Of course, you can argue that all of this is in the
fine print and operators should look into all aspects of the franchise before signing and
all of that’s true. But with that being said, it’s also natural for people to get mad in such a
situation. When you sign up for a franchise, you expect to be partners with the company. You expect
to share in the good times and the bad times. But, in McDonald’s case it seems like the partnership
is cleverly structured such that all of the risk of running a low margin fast food business
lies on the operator. And for many operators, the pandemic was the eye opener they needed
to see the partnership for what it really was. And now that things have finally
stabilized on their side as well, they want out. UGLY BREAKUP: If these one sided policies weren’t a good enough
reason to leave, yet another reason to leave is that modern generations aren’t as eager to get
into the fast food business. Traditionally, many McDonald’s locations are run almost like a family
business. A family might own a few locations in their home town that they’ve pass down generation
after generation, but for the first time, the new generation doesn’t want in. It’s not just
that McDonald’s franchisee policies aren’t that great but also that there’s way more opportunities
out there thanks to the internet. If you’re gonna go down the partner with a big company approach,
why partner with a fast food company when you can partner with a tech company. You can become a
Google AdWords partner or a YouTube partner or an Amazon Affiliate marketer or an FBA seller.
The options are basically endless online. Also, you don’t even need to go down the entrepreneurial
route. In the western world, you don’t have to run a business to make a $150,000 per year. There’s
plenty of jobs that pay the same or more without the stress of running a full on restaurant.
So, naturally, despite putting in decades into the business, many families want out. These
families would of course prefer an amicable split, but McDonald’s is making this rather difficult as
well. First of all, they don’t even question about why you’re leaving which is quite surprising. I
mean, if you’re trying to cancel a simple cell phone plan, you’ll run into 4 sales reps asking
you why you’re leaving and trying to convince you to stay. But, at McDonalds, not a single persons
asks operators why they’re leaving which simply strengthens the idea that they don’t really care
about their operators. That’s quite a shame but the bigger disappointment for many operators is
that they don’t even get to choose who they hand off their location to. If you spend 30, 40, 50
years building up a location, it would make sense that you would want to hand off the location
to someone you know and trust, but McDonald’s is often blocking outright. You see, on paper
they have the right to first refusal meaning. Traditionally, this wasn’t enforced very strictly,
but given that many operators are starting to take a stand against McDonald’s, McDonald’s
has resorted to leveraging this right more aggressively. This way, they can route the stores
to more passive investor operators but that just makes the situation worse for all of remaining
everyday operators. All of this is leading to operators not even missing the business that
they worked on for decades. And as more and more operators start feeling this way, the McDonald’s
operator exodus is only gonna get worse. THE FUTURE OF MCDONALD’S: For franchises, it’s usually the operators that
can make or break the business. McDonald’s has cleverly structured their business to minimize
impacts from unhappy operators, but even this will only shield them so much. At the end of the
day, if operators drop the ball on running these stores, people will have a worse experience
at McDonald’s and they will come less often. Eventually, this would lead to locations becoming
unprofitable meaning that operators won’t be able to pay McDonald’s their cash cow lease payments.
And if a location is already performing poorly, it’s just gonna be even harder to bring in another
operator and try to turn things around especially if that operator isn’t all that happy to be there
either. McDonald’s isn’t quite at that point, but given that 28% of stores were sold off
or shutdown within past couple of years, it won’t take long for things to get that bad if
McDonald’s doesn’t take any action. So, I think it’s in McDonald’s best interest to get on the
good side of their operators as soon as possible unless they want to continue facing this mass
exodus and ruin their business in record time, but that’s just what I think. Do you like
McDonald’s? Comment that down below. Also, drop a like if you think that McDonald’s
operator policies are brilliant but also terrible. And of course, consider checking
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