This is what would happen if fast-food workers got raises

For years, jobs in fast-food restaurants have had a bad reputation—and bad pay to match. That hasn’t stopped an estimated 3.9 million Americans from landing behind the counter. In late July, thousands of fast-food employees in seven U.S. cities staged one-day strikes, demanding $15 an hour—about two-thirds more than the roughly $9 hourly wage a typical worker at these restaurants earns and twice the federal minimum wage of $7.25. Although the protests have ended with no imminent change in sight, they raise this question: What are the business consequences of paying fast-food workers a living wage?

Restaurant owners say that their businesses already operate on slim margins and they would be forced to increase menu prices, resulting in fewer customers—and jobs. Supporters of higher wages argue that at a time when corporate profits are higher than ever, there’s room to pay restaurant workers more. “People are always going to want to make more money,” says Steve Caldeira, chief executive officer of the International Franchise Association, many of whose members operate quick-service restaurants. “It comes back to, can paying higher labor costs be sustained over time in this economic environment?”

The impact would vary, depending on the restaurant involved. In most chains, there are two kinds of outlets: those run by the company, and those operated by independent franchisees who set their own wages and pay royalties to the chain. AtBurger King (BKW) and McDonald’s (MCD), the vast majority of locations are franchised. All Subway locations are independently owned.

A look at company-operated McDonald’s and Burger King outlets shows profit margins above 10 percent. Still, labor expenses at these locations exceed profits, so suddenly raising the hourly wage to $15 would slam margins. Based on recent restaurant financials, if payroll costs doubled and other expenses didn’t decrease, menu prices at McDonald’s would have to go up about 25 percent to offset the increase. That would mean paying up to an extra $1 for a Big Mac, likely sending price-sensitive consumers elsewhere.

It’s more complex than simply doubling all wages. “Remember, not all workers would get a raise because [some] earn more than $15, and even among those who earn between the lowest wage and $15, the raises would range in size,” says Jeanette Wicks-Lim, an economist at the University of Massachusetts Amherst.

Much of the public debate, however, is focused on raising wages to considerably less than the much-hyped $15 an hour. Wicks-Lim and 99 other economists signed a petition in July to raise the federal minimum wage to $10.50. They say the increase in costs for restaurants would equal about 2.7 percent of sales. Wicks-Lim adds that companies could then make up the difference through price increases (say, a nickel more for a burger), reduced employee turnover, productivity gains, and slower raises for the highest-paid employees.

Wages at franchised locations, the bulk of fast-food outlets, are an even more contentious issue. Margins at these stores are likely lower than those for company-owned ones because of expenses and royalties that company restaurants don’t have to pay. “Franchisees take more risk,” says Craig Sterling, managing director and global head of equity research atEvaDimensions, a financial research firm.Carrols Restaurant Group (TAST), a big publicly traded Burger King franchisee, had operating margins of 2.01 percent in 2011; the Burger King corporate chain had margins of 15.52 percent. While that’s not an apples-to-apples comparison, it suggests some franchisees may have a tough time serving up bigger paychecks.

Because payments from franchisees currently contribute about one-third of revenue at parent chain McDonald’s and 40 percent at Burger King, ensuring the profitability of franchisees is critical to maintaining the chains’ margins. “Don’t think investors won’t care or react,” Sterling says.

Currently, restaurant wages are more in tune with the needs of the many entry-level teens, students, and part-time workers traditionally employed in the industry. “We see it as a positive thing that we provide opportunity and a place to start your work career and training,” says Scott DeFife, executive vice president of policy and government affairs at the National Restaurant Association. But for older workers who took fast-food jobs during the recession, or for those supporting families, the low wages make it hard to save and hinder upward mobility, says Jack Temple, policy analyst at the National Employment Law Project.