National Living Wage changes the game for restaurants

Paper money people

When it was first introduced in the UK in 1999, the National Minimum Wage (the NMW) and its potential impact on UK businesses prompted debate and divided opinions at the time. A decade and a half later, the debate has been reignited with the revelation of the National Living Wage (the NLW) announced to replace the NMW for workers aged 25 and over, according to Christie & Co, which has been gauging opinion on how an increase in the NMW will impact the industry.

The NLW will be initially set at £7.20 per hour in April 2016, with the government planning on ambitious wage growth to over £9.00 by 2020. These rates are not arbitrary, corresponding to 55% and 60% of the median salary for workers above 25 in the UK, in 2016 and 2020 respectively, according to the recent publication from the Resolution Foundation think tank called ‘Taking up the floor, exploring the impact of the National Living Wage on employers’.

Despite the obvious benefits for employees, the UK labour market is bound to experience significant changes and employers are preparing for major challenges. According to the Office for Budget Responsibility, primary analysis estimates that 23% of the total UK workforce (circa six million employees) will benefit from the NLW increase by 2020, leading to a £4.5 billion total wage increase across the country.

These numbers also reflect the additional cost of wage compression to maintain salary differentials and pay equity, as a large share of employees are currently paid just above the future NLW. Undoubtedly, the extent of the impact will be very uneven across sectors, as workforce characteristics and remuneration levels differ widely across industries, according to Christie + Co.

In studies last year, the Resolution Foundation commented that hospitality and social care are sectors where the impact is expected to be the highest, with total wages expected to increase by around 2.5% on average.

A booming industry, yet constrained by high rents

The UK restaurants industry has seen substantial growth over recent years, becoming one of the most diverse eating out markets in the world, with around 330,000 venues producing an annual income of over £85 billion. Equity-backed branded operators have been the driving force behind this success story but the independent sector still accounts for over 70% of the market from cafés to fine-dining venues.

“Despite this positive environment, increase in sales has remained stubbornly below 5%, and in many cases, operators are reporting like-for-like growth rates of less than 2%,” says Simon Chaplin, director and head of restaurants. “This is against a backdrop of increasing rents, especially in London and key cities around the UK which account for up to 20% of the sector’s income. This is a key risk factor in an industry, where almost 90% of operators hold leasehold property.”

Capex investment and large transactions still on the go

Whilst the news of the NLW was greeted with some disquiet by the restaurants industry, it does not seem to have affected the appetite for deals so far, with a number of larger branded operators changing hands and receiving investment for expansion since July 2015. Of course, the full impact of the NLW has yet to be seen on the bottom line but most are preparing for it or have started to introduce it in readiness.

“Over the coming year, we may well see a levelling off in values in the independent market as the minimum wage and other costs, such as rent, rise,” adds Chaplin. “The forthcoming business rate revaluation will also hit the bottom line and there is little doubt that some businesses will fail as a consequence. With Central London seeing around 180 new restaurants open every year, yet 35% closing down, it remains a sword of Damocles for many.”

Increasing prices set to be a challenge

An evident way to counter the increased wage bills is to raise prices, especially in a market where the dining out culture is thriving. However, recent surveys suggest that whilst frequency is growing, the average spend per head remains static, with the main driving factor being the under 25 age-group eating out at fast casual dining venues. Furthermore the discounted “voucher culture” has clearly diminished as operators have been struggling to maintain margins.

“For larger corporate operators, they may be able to absorb the impact of the NLW while maintaining operating margins through stricter staff controls such as more zero-hour contracts, as well as portion control and menu pricing,” says Chaplin. “Smaller independent restaurateurs are likely to face the greatest challenge, although in many cases, key staff have always been well looked after as good operators seek to retain quality employees to maintain continuity.”

A burden too far?

David Solomon, HR director of property and compliance at Maxwell’s Restaurants, Clubs & Bars in London told Christie + Co’s National Living Wage report how wage hikes will impact the sector.

The reality is that for most operators The National Living Wage is another cost burden on businesses which have already seen margins squeezed, mainly through increased property costs with rents soaring to record levels in the traditional prime restaurant locations.

Restaurants cannot keep putting prices up, the mid-market sector is too competitive for that and the danger is that to keep margins operators may have to cut labour and look at new, more streamlined ways of running restaurants – more casual and less personal with more automated systems.

People forget that a lot of staff in the hospitality industry earn far more than the basic minimum wage via a share of service charge and tips – the real issue is perhaps that the Living Wage means an employee’s total pay is inflated beyond the value of some roles and to a level where for example a waiter is earning significantly more than a junior manager which then has a knock-on effect with wage demands further up the ladder.

Restaurants provide great employment opportunities but to create more jobs through further expansion, restaurants need to be able to make sense of labour costs which work for the business as a whole and allow reasonable returns.”

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