A new report shows the extreme disparity between CEO and worker compensation in the fast food industry is far higher than in any other sector—and it's affecting the bottom line.
By Francesca Rheannon
Corporations have begun to recognize their approach to environmental sustainability is a crucial factor in evaluating material risk to their business success.
But it appears they need to be concerned about economic inequality as well – especially when it comes to the vast and increasing gap between executive compensation and wages of front line workers. Nowhere is the gap starker than in the fast food industry.
A new report from think tank Demos lends support to the concern, revealing a chasm between CEO compensation and frontline workers in the fast food industry on the order of 1200:1, more than three times as much as in other industries where excessive CEO pay has been cited as a problem.
Fast Food Failure: How CEO-to-Worker Pay Disparity Undermines the Industry and the Overall Economy shows that this disparity poses legal, reputational and operational risks to companies. McDonald’s itself admitted in an SEC filing that labor unrest over low wages has hurt its bottom line.
CSRwire spoke with policy analyst Catherine Ruetschlin who authored the report about its findings and their implications.
You write that Accommodation and Food Services is the most unequal sector in the economy. What did you find?
I found many of the sectors are grouped around a tight medium, but fast food and accommodation is an extreme outlier—way above all the other sectors, especially since the Great Recession. In fact, in six of the last seven years, they are not just above, but well above the other sectors in pay disparity.
In 2012, the CEO to worker pay ratio [in fast food] was 1204:1.
That's not just extreme – we have talked about the growing inequality in the U.S. economy and that's problematic but even in a context of growing pay disparity overall – fast food is way beyond the norm.
One example would be the CEO of Chipotle who earns $25 million annually.
Chipotle has two CEOs, each of whom make $25 million per year, so any numbers you get for that firm you have to double.
Chipotle Shareholders Vote Down CEO Pay Plan Despite Good Returns
Maybe that's why their shareholders just voted against ratifying the current executive compensation plan. What's your take on this move?
This is a really important decision [the shareholders] made and it will have ramifications for other firms in the industry.
Chipotle has done well this year – they are one of the highest growth fast food companies and they have a very solid brand perception in the market. So the investors are not telling them they’re frustrated with the returns the company is bringing them. Investors are saying, “We are ready to be involved in how these compensation decisions are made at the top.” They don’t think this is a good use of their capital.
And that's going to affect other firms not because Chipotle isn't a good investment but because even in a good year shareholders are saying "enough is enough."
McDonald's actually had a pretty bad year last year and yet the CEO walked away with tens of millions of dollars in compensation.
In 2013, Yum! Brands had a food safety scare where there was a poisonous residue in chicken in their largest market – they get more than half of their revenue from China and the Chinese market backed off from the KFC brand causing a 19 percent decline in profits. And yet, not only did the CEO receive $22 million in compensation, but the head of the China division received almost $20 million.
If we could look at a firm like Chiptole that's doing well and say as shareholders, “Not only do we care about the escalation we're seeing in CEO pay but we also demand a greater ability to link it to our interests than in firms where those returns haven't been there,” it's more likely to become a shareholder issue.
McDonald's Pays Denmark Workers Far More
McDonald's pays $25 per hour to its frontline workers in Denmark. How do they manage that?
McDonald's is a hugely profitable company, and it certainly isn't making investments in countries that don't pay off. In Denmark, the minimum wage is covered by bargaining agreements that allow fast food workers a starting wage of $21/hour. In New Zealand, the minimum wage is $15.
So we know that McDonald's can pay wages that high and still reap a profit and return value to their shareholders because they've been doing it all along. That undermines the response to demands for higher pay: “If we have to raise wages, we'll close down stores or fire workers.” Not only can you pay workers a higher wage but that also stimulates greater consumer demand in the local economy.
The same way we align executive pay with the interests of the firm, there are companies that do that with the frontline workforce. Those companies really see a productive benefit from that decision.
We've seen a growing body of research that in these low wage sectors, the firms that choose to pay their employees a wage that compensates them enough to want to stay with the firm also makes them committed to the long-term values of the firm.
How Pay Extremes Undermine Profits
So paying a living wage does not adversely affect the bottom line. Taking the corollary, are there negative impacts on the bottom line of extreme inequality in CEO vs. worker compensation?
We've seen three kinds of issues in fast food. There are operational issues, such as declining customer experiences. Customer service ratings in fast food drive-throughs have been declining over the past several years. There also has been decreased order accuracy. Those are the kind of operational issues that appear when a firm underinvests in frontline services that are in direct contact with the customer. That leads to long-term problems of perception with the company brand.
Another problem is the legal risks from minimizing the wages. A slew of class action lawsuits [have been brought] implicating the companies.
In March, McDonald's settled one of a number of suits being brought against it and other fast food companies for labor law violations. Connect the dots between CEO compensation and lawsuits like these.
Underpaying at the bottom is part of a business strategy that sees the frontline labor force as a cost to be minimized rather than a productive investment where you can see a real return for the money you put there.
The pressure to minimize costs passes through to franchisees and frontline managers and has resulted in law-breaking behavior, which is the most extreme example of the negative consequences of those decisions.
But it’s not just law-breaking behavior. It’s also a misallocation of human capital and resources, a misunderstanding of where the real long-term value of the firm is being generated.
And then, of course, we have worker strikes that disrupt the supply chain, frustrate the franchisee, reduce sales and further diminish the public perception of how the company is run.
Over the past year, fast food worker strikes have increased not only awareness that these are low wage industries but also that these industries are employing adults who in many cases have families to feed. There's awareness that there is a real tax subsidy going to firms like McDonald's and Yum! Brands and other low wage firms in the form of the $7 billion in poverty alleviation that's necessary because the firms don't pay enough. That's a basic cost of doing business that's being shifted to the taxpayers.
McDonald's has actually acknowledged the strikes over pay are a risk to the company's bottom line.
This is a really important revelation on the part of the firm. Unfortunately, while they've acknowledged the problem, they have yet to take any real steps to deal with it or lay out a path that would show the way.
What should they do?
They could talk to their workers about their scheduling and benefits needs, raise wages as the workers are demanding – $15/hour and a union. If they want to address that disparity, they could start those talks with workers now.
But it's taken a very long time for companies just to be convinced that the problem is a material risk. It took a very long time to convince companies that environmental sustainability was in their material interest. I think it will be a long process with pay disparity, where companies will first have to awaken to the fact that it's in their material interest. Then they will have to move forward in dealing with it in a way that's wholly new for them.