Hamburger economics 101... a fairy tale

hanging in there

Well-Known Member
Once upon a time in a land far, far away, Billy opened up a burger joint. He had the juiciest best tasting burgers in town.

People came from all over to eat his burgers and loved his nice clean diner and friendly staff. It was so much better than Bubba's burgers down the street. At Bubba's the staff was rude, the food was often cold or bland, and sometimes it took forever to get served. Plus the place was filthy and there were occasional cockroach sightings.

Billy was selling his juicy burgers for $2.50, slightly less than Bubba was charging. It cost him $0.50 to make the burger. So he made $2 gross profit, but of course he had all his other overhead costs such as his store rent, his staffing costs, utilities, insurance, maintenance, taxes etc, which added up to another $0.50 per burger, so his true profit per burger was actually only $1.50. He sold about 500 burgers per day so his net profit was $750.

One day he was playing with his kids in the pool and his older son Billy JR asked "Daddy? If you can sell 500 burgers at $2.50 each, maybe you could sell 1000 if you only charged $1.50 each? Then maybe you could make more money! Instead of $1250 you would make $1500!"

Billy had to explain to his son about how he would make less when all his costs were factored in. In fact he would actually make only $0.50 per burger, or $500 per day if he did that. But on their business anniversary date they did just that, just because. They ran their burgers on special for $1.50 and sure enough, 1000 people bought burgers that day. He worked harder than he ever had in his life and still he made $250 less for that day.

He thought about expanding to more locations but decided it was too much work and he didn't have that many friends or family to help him do that, so instead he decided to offer franchises. The deal was, pay a small franchise fee and then 20% of the gross. So the new franchise owners spent lots of money to buy the needed equipment, fixtures signage etc and then made $1250 gross per day, of which Billy collected $250/day in commission. The burger cost was 500 x $0.50 = $250, and the overhead costs were 500 x $0.50 - $250. So that left the franchise owner $500/day in net profit.

100 franchises were sold and the owners were happy. The customers were happy. Billy was happy... but something started to nag at him. He thought back to that anniversary special price day and thought, you know what? Since the franchisees have to pay for everything, if I slash the price of the burgers and as a result more people are buying burgers, then maybe I'll make more money in commissions!

He was making $250/day x 100 locations= $25,000/day. (At this point he had already sold his original location to the first franchisee.)

So, he lowered the price of the burgers to $2.00 each and told the franchisees don't worry! You will make more money because of increased demand! The lower price did indeed double the business volume but it forced the franchisees to work twice as hard and have twice the overhead. Now their gross was 1000 burgers x $2 = $2000. This is the amount that Billy promised them! Wow, almost twice as much money as before! But their commission was $400, their food cost was $500, and their other overhead was another $500, leaving them with a $600 net profit. That was only $100 more and they had to work twice as hard! The owners were not happy, but they had already made the commitment and felt kind of trapped.

But Billy was very happy, since he was now getting $400 per location instead of $250 without any increase in his work or costs! So now he was making $40,000/day!

Wow, he thought, what would happen if I lowered the price of the burgers even more! Then I can maybe make even more money! So he lowered the burger price to $1.50 and now the owners were selling 2000 burgers per location. They were working crazy hours, their equipment was starting to wear out and break down, their plumbing and cleaning costs were going sky-high, employees were complaining and quitting much faster, yet they were now netting even less than before. 2000 burgers x $1.50 = $3000 gross, minus $600 commission, minus $1000 burger costs, minus $1000 other overhead costs, = $400 net profit, which was $100 less than back in the "good 'ol days" when they only had to sell 1/4 as many burgers.

Of course, now Billy was super happy! He was now making yet another $200 per location without any additional work or cost on his part! He was now making $600 x 100 locations = $60,000 per day!

The only problem was, the owners were grumbling. So he had to come up with a way to entice new owners to replace the old ones he was quickly wearing out. He started to advertise more heavily...

Be your own boss! Start your own business! Bad credit ok! Make $3000/day!

Soon he had more new owners flooding in who didn't understand business enough to know that the $3000/day was actually going to be $400/day and they would have lots of headaches and tons of work ahead of them in order to make that.

Of course with every wave of new owners Billy kept lowering the price of the burgers again until he finally figured that he pretty much maxed out HIS profit per location, which at this point was $800/day x 1000 locations = $800,000/day, but now the owners were only making $200/day net.

The next step of course was to not lower the burger price any more but to just keep getting more and more owners. The owners were now not only unhappy that they were working much harder for a smaller net profit, but also that Billy kept adding new locations just down the street from them, competing for the same burger-eaters. And Billy was spending more time and money advertising for more owners as opposed to more customers.

But Billy didn't care because now he had twice the locations and was now making 1.6 mil per day!

Then Billy started thinking, if they will pay 20% commission, then maybe they will pay 25%!
So he started charging the higher commission to the newer owners and they were only netting about $100/day as a result, but now Billy was making over 2mil per day.

Some owners protested, saying why are you charging us new owners 5% more for the same service?

Billy replied "Because I can".

He thought, 2mil per day is great but I still think I can make more! So he decided to offer a new double-burger option at a higher price, but at a 28% commission! The owners protested, saying "Why should you get a higher commission when we are the ones having to provide and pay for the increased cost to make the bigger burger?"

Again Billy replied "Because I can".

Next step for Billy? IPO time!!!

The end.
 
Last edited:

DocT

Well-Known Member
Then one of the burger franchise ran out of free condiments (ie. ketchup, mayo, mustard, water, etc). Customers gave that joint a 4*(star) ZAGAT rating for not providing the free condiments. And yet another -1* for not providing ambient music in the restaurant. Billy had to place that franchise on probation unless the franchise owner forked up his own out-of-pocket cash to do whatever it takes to raise his restaurant's ZAGAT rating.
 

hanging in there

Well-Known Member
Then...one of the franchisee's noticed the quality of the chains burgers was not what it was...some of the customers noticed too. Some of the customers were in need of a good burger and willing to pay $2.50. ahhhh... now I'm hungry. Maybe we can try again later with widgets.

Ah yes, the slippery slope of the quality and dining experience sliding back toward "Bubba's Burgers" level as the progressively disenchanted owners get worked to the bone more and more for less and less overall profit and have less money to maintain proper service levels, sanitation, cleanliness and product quality. And the overall attitude degeneration from the owner on down resulting in bad quality of service (less smiles, less helpfulness in general). Forgot that part, thanks for bringing it up.
 

tb1984

Active Member
Once upon a time in a land far, far away, Billy opened up a burger joint. He had the juiciest best tasting burgers in town.

People came from all over to eat his burgers and loved his nice clean diner and friendly staff. It was so much better than Bubba's burgers down the street. At Bubba's the staff was rude, the food was often cold or bland, and sometimes it took forever to get served. Plus the place was filthy and there were occasional cockroach sightings.

Billy was selling his juicy burgers for $2.50, slightly less than Bubba was charging. It cost him $0.50 to make the burger. So he made $2 gross profit, but of course he had all his other overhead costs such as his store rent, his staffing costs, utilities, insurance, maintenance, taxes etc, which added up to another $0.50 per burger, so his true profit per burger was actually only $1.50. He sold about 500 burgers per day so his net profit was $750.

One day he was playing with his kids in the pool and his older son Billy JR asked "Daddy? If you can sell 500 burgers at $2.50 each, maybe you could sell 1000 if you only charged $1.50 each? Then maybe you could make more money! Instead of $1250 you would make $1500!"

Billy had to explain to his son about how he would make less when all his costs were factored in. In fact he would actually make only $0.50 per burger, or $500 per day if he did that. But on their business anniversary date they did just that, just because. They ran their burgers on special for $1.50 and sure enough, 1000 people bought burgers that day. He worked harder than he ever had in his life and still he made $250 less for that day.

He thought about expanding to more locations but decided it was too much work and he didn't have that many friends or family to help him do that, so instead he decided to offer franchises. The deal was, pay a small franchise fee and then 20% of the gross. So the new franchise owners spent lots of money to buy the needed equipment, fixtures signage etc and then made $1250 gross per day, of which Billy collected $250/day in commission. The burger cost was 500 x $0.50 = $250, and the overhead costs were 500 x $0.50 - $250. So that left the franchise owner $500/day in net profit.

100 franchises were sold and the owners were happy. The customers were happy. Billy was happy... but something started to nag at him. He thought back to that anniversary special price day and thought, you know what? Since the franchisees have to pay for everything, if I slash the price of the burgers and as a result more people are buying burgers, then maybe I'll make more money in commissions!

He was making $250/day x 100 locations= $25,000/day. (At this point he had already sold his original location to the first franchisee.)

So, he lowered the price of the burgers to $2.00 each and told the franchisees don't worry! You will make more money because of increased demand! The lower price did indeed double the business volume but it forced the franchisees to work twice as hard and have twice the overhead. Now their gross was 1000 burgers x $2 = $2000. This is the amount that Billy promised them! Wow, almost twice as much money as before! But their commission was $400, their food cost was $500, and their other overhead was another $500, leaving them with a $600 net profit. That was only $100 more and they had to work twice as hard! The owners were not happy, but they had already made the commitment and felt kind of trapped.

But Billy was very happy, since he was now getting $400 per location instead of $250 without any increase in his work or costs! So now he was making $40,000/day!

Wow, he thought, what would happen if I lowered the price of the burgers even more! Then I can maybe make even more money! So he lowered the burger price to $1.50 and now the owners were selling 2000 burgers per location. They were working crazy hours, their equipment was starting to wear out and break down, their plumbing and cleaning costs were going sky-high, employees were complaining and quitting much faster, yet they were now netting even less than before. 2000 burgers x $1.50 = $3000 gross, minus $600 commission, minus $1000 burger costs, minus $1000 other overhead costs, = $400 net profit, which was $100 less than back in the "good 'ol days" when they only had to sell 1/4 as many burgers.

Of course, now Billy was super happy! He was now making yet another $200 per location without any additional work or cost on his part! He was now making $600 x 100 locations = $60,000 per day!

The only problem was, the owners were grumbling. So he had to come up with a way to entice new owners to replace the old ones he was quickly wearing out. He started to advertise more heavily...

Be your own boss! Start your own business! Bad credit ok! Make $3000/day!

Soon he had more new owners flooding in who didn't understand business enough to know that the $3000/day was actually going to be $400/day and they would have lots of headaches and tons of work ahead of them in order to make that.

Of course with every wave of new owners Billy kept lowering the price of the burgers again until he finally figured that he pretty much maxed out HIS profit per location, which at this point was $800/day x 1000 locations = $800,000/day, but now the owners were only making $200/day net.

The next step of course was to not lower the burger price any more but to just keep getting more and more owners. The owners were now not only unhappy that they were working much harder for a smaller net profit, but also that Billy kept adding new locations just down the street from them, competing for the same burger-eaters. And Billy was spending more time and money advertising for more owners as opposed to more customers.

But Billy didn't care because now he had twice the locations and was now making 1.6 mil per day!

Then Billy started thinking, if they will pay 20% commission, then maybe they will pay 25%!
So he started charging the higher commission to the newer owners and they were only netting about $100/day as a result, but now Billy was making over 2mil per day.

Some owners protested, saying why are you charging us new owners 5% more for the same service?

Billy replied "Because I can".

He thought, 2mil per day is great but I still think I can make more! So he decided to offer a new double-burger option at a higher price, but at a 28% commission! The owners protested, saying "Why should you get a higher commission when we are the ones having to provide and pay for the increased cost to make the bigger burger?"

Again Billy replied "Because I can".

Next step for Billy? IPO time!!!

The end.

Good story, and that's pretty much how free market is.

I know that Uber has even lowered rates in markets that Lyft already left, just to get more market shares. But, in your story, you forgot about Lyft competition.

So, going with your story, there is another burger franchise named Lyft which offers exact same burger(quality and everything else). And in order to get market shares, Lyft has been using pretty much all of its money(investors, profit, ...) to subsidize its franchisees and customers. So, Bob does not want to lose market shares to Lyft, he lowers burger prices again to get customers back.

Also, you assumed that franchisees are just naive, just sit there and do nothing to maximize their profits. I know that:

- Franchisees are now selling Bob and Lyft burgers at the same restaurants to maximize profits.

- Some franchisees don't serve single customer anymore, only take catering to at least 100 people.

- Some franchisees don't sell burgers at regular prices anymore, they only sell at "Surged" prices.

In this Uberx system, at this point without any real regulations, each of its participants does its best to maximize own profits, and none should really care for others, and none should expect anything from others.
 

Sacto Burbs

Well-Known Member
In n out Burger was initially worried cause they were losing business, but they really were the best in town, and people came flocking back.
 

LAuberX

Well-Known Member
Moderator
How many of you crave the very cheapest burger around? anybody?

the one you WANT is never the cheapest one. cheap is not good and good is not cheap.

People flock to expensive burger places Because They Can!
 

Fuzzyelvis

Well-Known Member
How many of you crave the very cheapest burger around? anybody?

the one you WANT is never the cheapest one. cheap is not good and good is not cheap.

People flock to expensive burger places Because They Can!
But even the cheap places, the corporation realizes the franchisees have to make enough money to make it worth their while. There is a limit to just how low the prices can go and how much the franchisees have to pay to the corporation.

Uber doesn't seem to know that. Or they are correct that there really is an unlimited number of drivers to burn through. At some point the only ones on boarded will be those who simply did not qualify yet because of their car status, age, no license long enough, or simply because they weren't in the country yet.

Dammit, the Donald is right! It's those immigrants' faults AGAIN!

(For those people here who will start arguing with me, that was sarcasm!)
 
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