In a significant development within the world of fast-food franchising, McDonald’s franchise is about to have a notable change. For the first time in nearly three decades, the iconic burger chain is increasing its franchise royalty rates. This shift has far-reaching implications for both new and existing franchise operators, signaling a potentially transformative chapter in McDonald’s history. Let’s delve into the details and understand what this means for the company and its franchisees.
Key points
- McDonald’s is going to charge its franchisees more money. If you want to open a new restaurant, you used to pay them 4% of your sales, but now it’s going up to 5%.
- This is the first time in almost 30 years that they’ve raised this fee.
- At first, it won’t affect too many franchise owners, but some of them might get upset because McDonald’s and its franchisees in the U.S. have had some problems working together in the past.
What is changing in McDonald’s Franchise Royalty
McDonald’s is making franchisees who want to open new restaurants pay more. They used to pay 4% of their sales, but now it’s going up to 5%, starting from January 1st. This is the first time in almost 30 years that McDonald’s is raising these fees.
However, if you’re already a franchise owner and you’re not adding new restaurants or if you’re buying an existing franchise from someone else, this change won’t affect you. It also won’t apply if they rebuild an existing restaurant or if a family member takes over a restaurant.
McDonald’s is increasing the fees for franchisees who plan to open new restaurants. Until now, they paid 4% of their sales, but as of January 1st, it’s going up to 5%. This marks the first time in nearly three decades that McDonald’s has raised these fees.
But if you’re already a franchise owner and you’re not expanding by opening new restaurants, or if you’re purchasing an existing franchise from another person, this change won’t impact you. It also won’t be applied if they renovate an existing restaurant or if a family member takes over the ownership of a restaurant.
McDonald’s is making a language change regarding the payments made by franchisees. Instead of calling them “service fees,” they will now be referred to as “royalty fees,” which is a term commonly used by most franchisors.
McDonald’s isn’t altering the actual services provided, but they aim to shift how people think about what they get when they invest in the McDonald’s brand and system, according to McDonald’s U.S. President Joe Erlinger in an interview with CNBC.
In the United States, approximately 95% of McDonald’s 13,400 restaurants are run by franchisees. These franchisees pay various expenses, including rent, monthly royalty fees, and other charges, such as annual fees related to the company’s mobile app, to operate as part of the McDonald’s system.
McDonald’s Franchise Royalty Rates might cause issues in future
The increase in royalty fees probably won’t immediately affect many franchisees, but there’s a good chance that they will become unhappy due to the strained relationship between McDonald’s and its U.S. franchise owners.
McDonald’s and its franchisees have had disagreements on various issues recently, including a new evaluation system for restaurants and a California bill that will raise wages for fast-food workers by 25% next year.
In the second quarter, a survey of several dozen McDonald’s franchise operators, conducted by Kalinowski Equity Research, found that the relationship between franchisees and corporate management was rated at 1.71 out of 5. This is the highest rating in the survey since the fourth quarter of 2021, but it’s still quite low compared to the highest possible score of 5.
On Friday, The National Owners Association, a group of over 1,000 independent McDonald’s franchise owners, shared a memo regarding the news from McDonald’s corporate. The memo, seen by Critiqueportal, described Friday as a very busy day as U.S. franchise owners woke up to emails from CFO Ian Borden and U.S. President Erlinger announcing the decision to raise fees for new owners and change the name to royalties.
The memo also expressed concerns. It stated that while McDonald’s may have the legal right to make these changes to fees and agreements, it doesn’t mean these changes are the best move for the business, the relationship between franchisees and the company, or the future of the McDonald’s brand. The memo pointed out that even though the company’s overall sales have been strong this year, leading to record-breaking revenue, these benefits aren’t translating into better financial situations for franchise owners. In fact, the memo highlighted that franchisee cash flow hasn’t kept up with inflation, and franchise owners are making less money today compared to what they were earning in 2010.
Memo analysis and Findings
The memo also pointed out that the profit margin, known as EBITDA percent, for each restaurant is declining and is expected to reach a 12-year low of about 12.25% in either the fourth quarter or certainly by 2024. Despite the restaurants generating impressive sales growth, franchise owners are actually earning less money per restaurant today compared to what they were earning back in 2010.
Furthermore, the memo emphasized that the change in terminology from “service fees” to “royalties” is a big deal. It suggests that this change could affect the rights of franchise owners to receive crucial services, support, and assistance from McDonald’s, as it may remove the company’s obligation to provide these services. The memo advises owners to carefully review any agreements they receive from the company and consider having a knowledgeable attorney look at them before signing. It also points out that decisions about reinvesting in new restaurants should be reevaluated because the change means that those looking to open new restaurants won’t have the same historical earnings data to rely on.
This recent protest from owner advocates against the corporate side is not the first. Just last week, the National Owners Association (NOA) communicated with its members about California’s AB 1228, warning that this legislation could severely hurt the finances of restaurant operators in the state.
Conclusion
McDonald’s has chosen not to provide a response regarding the NOA’s stance on both the service fee change and the negotiations in California.
Despite these challenges, McDonald’s U.S. business is thriving. In its most recent quarter, sales at existing U.S. locations grew by 10.3%. This growth was driven by promotions like the Grimace Birthday Meal and strong demand for classic McDonald’s menu items such as Big Macs and McNuggets.
As a result, franchise owners saw their earnings increase compared to the previous year, according to McDonald’s CFO Borden, who mentioned this in late July. The company also reported that the average earnings for McDonald’s operators in the United States have gone up by 35% over the past five years.
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FAQ: McDonald’s Franchise Royalty Rate Increase and Owner Concerns
Q1: What’s the big change happening with McDonald’s franchises?
A1: McDonald’s is increasing the royalty fees that franchisees pay when opening new restaurants. This fee is going up from 4% to 5%, marking the first increase in nearly 30 years.
Q2: Who will be affected by this fee increase?
A2: The fee increase mainly impacts franchisees who plan to open new McDonald’s restaurants. Existing franchise owners who are not expanding, those buying an existing franchise, or those involved in rebuilding or family transfers won’t be affected by this change.
Q3: Why is McDonald’s changing the terminology from “service fees” to “royalty fees”?
A3: McDonald’s is making this language change to align with the common terminology used by most franchisors. They want to emphasize the value and support franchisees receive when they invest in the McDonald’s brand and system. It doesn’t change the services provided, but it could affect how those services are perceived.
Q4: Are franchisees happy with these changes?
A4: No, there are concerns and disagreements between McDonald’s and some franchisees. This fee increase and other recent issues have strained the relationship between them. In a survey, franchisee satisfaction with corporate management rated at only 1.71 out of 5.
Q5: How is this fee increase affecting franchisee finances?
A5: Franchisees are concerned that despite strong overall sales for McDonald’s, their earnings per restaurant have not kept up with inflation. Profit margins are declining, and franchisee cash flows are expected to hit a 12-year low.
Q6: What should franchisees do in response to these changes?
A6: Franchisees are advised to carefully review any agreements from McDonald’s and consider legal advice before signing. Additionally, they may need to reconsider their reinvestment decisions, especially if they plan to open new restaurants, as historical earnings data may no longer apply.
Q7: Is there ongoing controversy with McDonald’s and franchisees?
A7: Yes, this is not the only recent issue. Franchise owners have also raised concerns about legislation in California (AB 1228) that could have financial implications for them. McDonald’s has not commented on these disputes.
Q8: Is McDonald’s still doing well despite these challenges?
A8: Yes, despite the conflicts, McDonald’s U.S. business has reported strong sales growth, with a 10.3% increase in domestic same-store sales. Promotions and demand for classic menu items have contributed to this success, and average cash flows for U.S. operators have risen by 35% over the past five years.
