Reihan Salam is a Reuters columnist, a fellow at the R Street Institute, and a contributing editor at National Review. He is co-author with Ross Douthat of the 2008 book Grand New Party.
By Reihan Salam
On Wednesday, Facebook released data on its performance in the first quarter of 2014, and the results were very impressive. The social network has succeeded in monetizing its enormous audience, having generated $642 million in profit on $2.5 billion in sales. The expectation is that Facebook profits will amount to 25 cents per share, quite a bit more than the 9 cents per share it generated last year.
McDonald’s, a much larger and older company, reported $6.7 billion in revenue in the first quarter, slightly higher than its revenue from last quarter. Yet its net income fell to $1.2 billion and its profits per share to $1.21, down from $1.26 last quarter. Analysts attribute McDonald’s lackluster performance to a modest decline in US comparable store sales.
I mention Facebook and McDonald’s not just because they are both iconic American brands, but because they represent the contrasting poles of American business. Though both Facebook and McDonald’s are innovative firms operating in a competitive landscape, Facebook is a social media company that lives almost entirely in the cloud. McDonald’s, meanwhile, is the quintessential quick-service restaurant, which, like Wal-Mart, depends on an extensive, expensive and labor-intensive logistical apparatus to meet the needs of its franchises.
This difference helps account for the fact that Facebook had a 102.27 price to earnings ratio in 2013 while McDonald’s had a 17.99 price to earnings ratio that same year. It’s much harder for a brick-and-mortar company like McDonald’s to grow than its code-driven counterpart.
Yet the contrast between Facebook and McDonald’s that interests me most is the difference in how each approaches human capital investment. Facebook is a high-wage employer. Its workers pay relatively high taxes and get relatively little in benefits. You might think of them as net contributors to America’s public coffers. McDonald’s is a low-wage employer. Its workers pay relatively low taxes and get a relatively high level of benefits, particularly if they’re members of low-income households, as many of them are. This has led many observers to conclude that while employers like Facebook are the good guys, employers like McDonald’s are the bad guys. If McDonald’s employees can’t get by on their wages, and they need the earned-income tax credit, food stamps, and Medicaid to lead decent lives, surely their employer is a corporate villain that is forcing taxpayers to take on the needs of its employees.
This notion that McDonald’s and companies like it are bilking taxpayers undergirds the case for increasing the minimum wage. Andrew Biggs of the American Enterprise Institute has criticized this argument by observing, correctly, that wages primarily reflect skills, and that the “bilking taxpayers” thesis suggests that all social programs should be abolished, as they allow companies to get away with paying their workers a pittance. That’s a rather odd argument coming from the left.
I would go further than Biggs. McDonald’s and other low-wage employers aren’t just not bilking taxpayers. Rather, they are taking on a task that many American families and schools are failing to perform. To put it bluntly, McDonald’s is a company that hires large numbers of people with limited skills, many of whom are teenagers and young adults, and it introduces them to the ways of the workplace.
There are many bright young people in this country who lack the non-cognitive skills — like grit, self-regulation, motivation, and the ability to work constructively with others — that one needs to climb the economic ladder. Schools generally rely on parents to impart these skills, and for good reason.
Parents who don’t have the presence of mind to provide a stable environment for their children expect the schools to pick up the slack. The result is that children who don’t have stable families that impart the habits and skills necessary for steady employment can find themselves struggling in the labor market, if not locked out of it entirely.
In order for McDonald’s to be successful, it either needs to inculcate these habits and skills in its workers, or it needs to de-skill the work of operating a quick-service restaurant to such an extent that it can withstand high turnover without going out of business. McDonald’s, like many businesses that employ workers with limited skills, pursues a mix of both strategies.
Facebook does not, as a general rule, hire people from difficult backgrounds who lack cognitive and non-cognitive skills. Yes, one assumes that Facebook is willing to hire people who lack certain social skills if they’re excellent software developers. But those employees generally make up for their lack of social skills with an excess of grit, self-regulation and motivation.
Leaving aside our stereotype of the rebellious college dropout coder, Facebook and companies like it tend to hire people who’ve already made large upfront investments in their human capital by going to college and graduate school, and often by taking unpaid internships or underpaid entry-level jobs that essentially serve as apprenticeships. Once these workers arrive at Facebook, or at a place like it, their employers assume that they will get up to speed quickly, since they have been pre-trained.
If we’re going to condemn McDonald’s for employing people who need to rely on anti-poverty programs, should we condemn Facebook for employing people who’ve already been trained — by parents, educators and other employers — to do their work at a high level?
If anything, Facebook wants to go even further by dramatically increasing the number of employer-based visas, a step that would allow it and other tech companies to hire employees who’ve been educated in other countries, where training is often generously subsidized by the state. This type of hiring suppresses wage growth for skilled employees who already live in the US
I have no problem with Facebook’s approach, as I think society benefits from its eagerness to assemble talented, capable teams of workers. I do think, however, that it is unfair to blame McDonald’s for pursuing a human capital strategy that is far more inclusive, and far more challenging, than Facebook’s.
One of the central developments in modern economic life is de-verticalization, or the process of separating the parts of production that might have once been undertaken by a single business. Globalization is often understood as nothing more than an increase in the volume of international trade, in which the Chinese sell us more of their stuff and they buy (maybe) more of ours.
But what globalization really means, and why it really matters, is that it represents a transition from vertically-integrated businesses to a world in which companies orchestrate complex multi-firm, multi-country networks to achieve their goals. A company like Apple might own valuable intellectual property, and it might even manufacture a few key components of its devices itself. Yet it outsources much of the rest of the manufacturing and assembly work.
The central question about the future of the American economy is whether we can make this de-verticalization process work for us. In the context of globalization, the United States needs to retain the most valuable parts of the production process — like software design — that pay lucrative wages and lead to more companies and jobs. More importantly, we need to separate out the services and functions that companies perform in ways that better serve the interests of American workers.
Employers have always outsourced human capital investment to other institutions, like families and schools. Yet as families deteriorate and schools fail to keep up with the changing demands of the economy, employers need new solutions.
The good news is that a handful of innovative businesses and non-profits are entering this space. Clearly Innovative, a Washington, DC app developer, is hiring people with little or no training as web developers and teaching them the tools of the trade. The non-profit Coalition for Queens launched Access Code, a programme that teaches people how to code iOS apps and provides them with mentorship as they search for jobs. The results have been extremely encouraging so far.
One wonders how the business model for training workers will evolve. Perhaps the employers who makes a risky bet on a raw employee, and who take the time and effort to train her, should be entitled to a small portion of her lifetime earnings as she moves on to more lucrative employment. That would create a powerful incentive for employers to devote real resources to building the skills of their workers. Or perhaps some entirely new model will emerge. But one way or another, we need to find a better, smarter way to train workers. Demonizing McDonald’s, or for that matter demonizing Facebook, won’t cut it.