Smoke-Free Ordinances Increase Restaurant Profit and Value

Article excerpt

1. INTRODUCTION

Hundreds of U.S. communities and several states and provinces inside and outside the United States have enacted policies ending smoking in restaurants and bars. The tobacco industry, working through the hospitality industry, opposes these policies using the claim that smoke-free policies will harm the hospitality industry (Dearlove et al., 2002; Ritch and Begay, 2001). In a world of perfect information and efficient markets operating with no externalities, this claim of harm to the industry would make economic sense, because any regulation that restricts an owner's choice set would at best have no effect on profitability. In the real world of imperfect information, external effects on consumers and employees, or other forms of market failure, however, a restriction on the choice set could increase profitability. This situation of imperfect information exists in the hospitality industry with regard to smoking restrictions because the tobacco industry has repeatedly provided inaccurate information to the hospitality industry asserting that smoking restrictions hurt the hospitality industry (Dearlove et al., 2002; Ritch and Begay, 2001). Previous studies, reviewed by Scollo et al. (2003), have demonstrated that all studies of high quality in fact find that smoke-free laws have no effect or a positive effect on restaurant and bar revenues, tourism, and employment. The present study furthers the analysis of these laws by investigating whether there is an economic benefit to restaurant owners in terms of restaurant profitability, as reflected in the value of the business, from smoke-free policies.

Even if smoke-free policies do not affect revenues, they may reduce costs. Labor costs should decrease because smoking is linked to increases in days lost due to illness and higher worker compensation costs (Musich et al., 2001). A smoke-free policy will not only reduce employee exposure to secondhand smoke (SHS) and improve pulmonary (Eisner et al., 1998) and cardiac (Glantz and Parmley, 2001) health but will also encourage employees to stop smoking (Fichtenberg and Glantz, 2002), increasing employee productivity because fewer days are lost to illness. Capital costs should also decrease. SHS is absorbed by everything from carpets to walls to stainless steel, causing discoloration (Daisey, 1999). Smoke is reemitted, causing upholstery to smell (Daisey, 1999), necessitating more frequent cleaning. Equipment and furnishings are degraded from cigarette burns and ashes that do not always find their way into ashtrays. Of course, smoke-free policies may increase revenues if they induce people who would not eat in restaurants because of SHS to patronize smoke-free restaurants.

These two effects (no or a positive effect on revenues and lower costs) mean that restaurants in places that prohibit smoking should be more profitable on both a gross (total profits) and margin (profits as a percentage of sales) basis than comparable restaurants that are not in smoke-free jurisdictions. In a competitive market, the restaurant that achieves higher margins will be sold for a higher price. This difference in price between equivalent businesses in locations that restrict and permit smoking is called the smoke-free premium.

Using a database that records the purchase price of restaurants that are sold, the authors found that restaurants in localities with smoke-free ordinances sell for a higher price than comparable businesses in areas with no restrictions on smoking. After controlling for relevant economic variables, there is a median increase of 16% in the sale price of a restaurant directly attributable to the existence of a smoke-free law. Thus, smoke-free ordinances substantially increase profitability of restaurants.

II. DATA

The authors obtained data on sales of restaurants and bars from the BizComps database (Sanders, 2003) for transactions by Standard Industrial Classification codes (defined by the Statistical Policy Division of the U. …