The Business Of
Fast Food | McDonald’s | How Do They Make Money?
Morning All!
So yesterday, we started Part 1 of The Business Of Fast Food. And our focus this week is on the US fast food giant, McDonald’s.
Now, I’m going to mix things up here. Usually I save the chart of the company’s revenues for the end. But I’m going to show it now to get you thinking. Because if you notice below, it’s a pretty dismal chart for McDonald’s at first glance! Revenues declined every year from 2014-2020!
But what’s happening here? Why were McDonald’s revenues in 2022 still 18% below its peak in 2013? Well, to answer that and understand the revenue trend we need to first dive into how McDonald’s makes its money. And the 3 main ways the US fast food giant makes its money is through the following:
Restaurant sales - from selling burgers, nuggets, chips, etc. at their owned and operated restaurants.
Royalties - the 6% fee they take from franchised restaurants’ sales.
Rent… yes rent (?!) - McDonald’s are slightly different from other franchise businesses!
Hold onto your hats, we’ve got some surprises in store today! So, without further ado, let’s crack on!
1. Hold One, Are McDonald’s Closing Down Their Own Stores?!
Okay, so let’s start with Restaurant Sales. And this is fairly easy to understand. These are all the sales made from McDonald’s owned and operated restaurants. Remember, we said yesterday that only 5% of McDonald’s restaurants are owned and operated (~2,000). The other 95% are franchised (~38,000) - and so operated by people not employed by McDonald’s. If you need a refresher on the difference, check back to yesterday’s newsletter!
So, how have McDonald’s sales from these restaurants been trending? Well, I think this is going to shock a few people. But as we can see from the chart below, McDonald’s sales from owned and operated restaurants have fallen 54% since 2013! From $18.9bn in 2013 to $8.7bn in 2022.
But what’s behind this?
Are less people going to McDonald’s? Doesn’t feel like it.
Are McDonald’s meals becoming cheaper? Definitely doesn’t feel like it!
Well then, what’s the reason for this astonishing 54% drop?
Well, it’s due to the number of restaurants that McDonald’s own and operate! We mentioned yesterday that one of the most obvious ways restaurant chains can grow is by opening more restaurants. Well, the opposite is also true. And McDonald’s actually own and operate ~6,000 less restaurants than they did back in 2003! The chart below shows us how this decline has happened over the last 2 decades.
Now, some of you may be super confused by this. Because it definitely doesn’t feel like McDonald’s restaurants have been closing that much over the last 20 years! And you probably haven’t heard of McDonald’s struggling. So, what’s the deal? Well, the next section will give us the answer.
FYI - $8.7bn in revenues from 2,106 restaurants. That’s $4.1 million revenue per restaurant. And as we saw yesterday, this is in line with what McDonald’s say their average restaurant makes in sales!
2. Move Over King Charles… We’ve Got Real Royalty Here!
Okay, so we’ve seen just now that McDonald’s are owning and operating less restaurants. But you may feel like you’re seeing more and more McDonald’s popping up! So, what’s happening here? Are you seeing things?!
Well, no you’re not seeing things! Because yes, McDonald’s are owning and operating less restaurants. But more and more McDonald’s restaurants are being opened by franchisees! The chart below adds in the number of franchised restaurants that McDonald’s operates. And we can see that this figure has nearly doubled from 22k in 2003 to 38k last year!
Okay, but how do McDonald’s actually make money from these franchised restaurants? Because it’s individuals (franchisees) who run the restaurants for McDonald’s right? Well, one way is through royalty fees. And these royalties come in 2 parts. The first part is an initial franchise fee. Every time a franchisee opens a McDonald’s restaurant in the UK, they have to pay McDonald’s Corporation a £30k franchise fee. For the right to use the McDonald’s brand. This fee varies country by country.
But this isn’t the main royalty fee. The main fee is based on the franchised restaurant’s sales. A franchisee has to pay McDonald’s Corporation ~6% of their sales every year! And this is the majority of what McDonald’s call their royalty revenues. The chart below shows how royalty revenues have grown impressively from $1.7bn in 2006 to $5.0bn in 2022. And this is driven by what we saw earlier. More franchised restaurants = more sales from franchised restaurants = more royalty revenues!
Okay, so you may be surprised by the above. Because McDonald’s have 19x more franchised restaurants (~38k) than owned and operated restaurants (~2k). But in terms of revenue, the company still make more money from their owned and operated restaurants! And why is that? Well because the company only takes 6% of the sales from franchised restaurants! Now, this clearly seems like a bad deal…
… but in tomorrow’s newsletter, you’ll see exactly why McDonald’s choose to franchise! Because remember, the goal isn’t revenue… it’s profits!
Before we move on, I just want to make some more sense of that $5bn royalty revenue figure. So let’s do some rough maths! McDonald’s have ~40,000 franchised restaurants. Assuming the average global restaurant makes ~$2 million in annual sales. Then the revenue McDonald’s Corporation makes from these franchised restaurants would roughly be… 40,000 restaurants x $2 million sales x 6% royalty fee. This equals $4.8bn. So not miles off the $5bn. Pretty good for a rough estimate!
3. A Bigger Real Estate Company Than Airbnb?!
Right, so we’ve gone through 2 of the ways McDonald’s makes money. Restaurant sales and royalty fees. But now, let’s dive into the third, and most surprising, way McDonald’s makes money. And for this, we need to think about the actual building that franchisees operate their restaurants in.
Who owns the restaurant buildings? Is it McDonald’s Corporation? Is it the franchisees? Is it a completely different party?
Well, the answer is McDonald’s Corporation… in most cases. 80% of McDonald’s restaurant buildings are owned by the company. With the remaining 20% leased from landlords. Okay, but do McDonald’s Corporation allow their franchisees to use these buildings for free? Absolutely not! Franchisees have to pay rent to use the restaurant buildings. And who do they pay rent to? McDonald’s Corporation!
That might be slightly confusing so let’s simplify. McDonald’s are basically super clever. They know that franchisees need a physical building in order to start their own McDonald’s restaurant. For which they’ll have to pay rent. But instead of letting franchisees go and find their own building. McDonald’s buy land and buildings and tell the franchisees that they have to open their restaurants in that building! And so McDonald’s are actually the landlords for most of their franchisees!
And this isn’t some side hustle for McDonald’s. The chart below shows us that rental revenue is actually McDonald’s highest revenue stream! Mind blown!
For those of you who’ve seen The Founder (Amazon Prime - highly recommend). Which details how McDonald’s became McDonald’s. This probably hasn’t come as a huge surprise. But just to put this in perspective… Airbnb - who make money when people rent out properties - made $8.4 billion in revenues last year. McDonald’s made $9.0 billion in rental revenue last year. That is simply ludicrous.
And it’s because of this why a lot of people think McDonald’s is actually a real estate business that sells burgers!
30th May 2023
And that is a wrap… time to pick my brains up off the floor! Tomorrow we’ll crack on with looking at McDonald’s margins and see whether they’ve been able to grow profits despite falling revenues!
Have a great day!
The Business Of Team