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Despite recent struggles with missed revenue expectations and slow sales, McDonald's is a consistent leader in the restaurant industry. The company's new challenge is to transform itself into the option between fast-food and fast-casual dining with new menu items, redesigned stores and maintaining its commitment to value.


Would you like fries with that? McDonald’s seeks to stay relevant in a changing restaurant industry

by Margaret Sutherlin
Dec 04, 2012


MCDONALD-Graph,Sutherlin

Margaret Sutherlin/MEDILL

McDonald's share prices have fallen this year, a result of increasing pressure from competitors, rising food prices, and decreasing comparable sales.  The share prices are still over 300 percent greater than they were 10 years ago.


Margaret Sutherlin/MEDILL

Customers talk about what they like about McDonalds

 


McDonald’s might have once been the place for a grab-and-go Quarter Pounder, but at any given time these days, the global fast-food giant’s restaurants are now filled with families at lunch, young people stopping for a signature McCafe coffee, or a businessmen ordering a new premium menu sandwich. The iconic American brand of the 1950s is long-gone, and the company is working to become the option between fast food and fast casual dining.

Over the past year, McDonald’s has announced a billion dollar plan to redesign its U.S. stores, launched several successful premium and customizable menu options, and started plans to further develop its McCafe line of specialty coffees.

“I think that the competition from fast casual concepts is really driving the new developments at McDonald’s,” said Mary Chapman, a director from Technomic, a Chicago-based restaurant research firm. “They’re tweaking their concept by upgrading their service, putting in new décor and also updating their menu.”

But even with these new developments aiming to transform McDonald’s identity from the burger-and-fries giant with a clown mascot to a much hipper place to get a quick food fix, the company has had a rough year. Plagued by aggressive competition, disappointing sales, rising food prices, a market share that may be reaching its maximum and the first disappointing quarterly earnings report in nine years, it’s possible to conclude that the company is losing momentum.

“McDonald’s has struggled all year, though I’m not even sure if that’s the right term,” says Peter Saleh, an analyst following the restaurant industry with the Telsey Advisory Group. “When you look at where they’ve been since the early 2000s they’ve been moving positively and putting up great numbers. It’s hard for them to gain more and more market share as they grow. It’s the law of large numbers.”

Facing a raft of competitors ranging from Burger King and Starbucks to fast casual chains like Panera or Chipotle Mexican Grill, a brand in which McDonald’s was a major investor in until 2006, 2012 has been the year McDonald’s has particularly gone after its competition with new innovations and several long-term visions for reimaging its place in the restaurant industry.

One of the major initiatives launched by the company to take on the fast-casual concepts has been offering additional “premium” menu options. The value menu accounts for a good part of sales for the company, around 10 or 15 percent at any given point, but having the new Angus burger or customizable sandwiches, such as the “CBO” or cheddar bacon onion toppings, allows the chain to tap into a more varied customer base.

But having premium options right next to the value options is no quick fix. For Chapman, McDonald’s customers ultimately want convenience and value, and the value is becoming increasingly difficult to meet with rising food prices and the consumer expectation that the food should taste as good for a lower cost.

“If you’re pushing value, and value tends to be in essence a lower price point…so generally speaking you get pressure on your margin and earnings power,” said analyst Peter Saleh. “The only way you can offset pushing value is to bring in more people and that is not an easy thing to do.”

In what many characterized as the first disappointing quarterly earnings report for McDonald’s in several years, executives reiterated that even in a tough economic climate the emphasis for the company would remain on the value to bring in more clients.

The company reported that comparable store sales were down globally 1.8 percent in October and third-quarter net income dropped 3 percent to $1.46 billion, or $1.43 per diluted share. The profit decrease was jarring for analysts and investors alike, and pushed share prices to a low for the year.

“After a period of time these traffic gains become more balanced with sales gains as customers migrate to other compelling offerings on the menu. Unparalleled value is foundational to our brand and to the success we have earning of the past 50 plus years,” said Peter J Bensen, McDonald’s chief financial officer during the 2012 third quarter earnings conference call.

During 2012, McDonald’s has still seen revenue growth at $4.84 billion, about a half-a-percent decrease from the same nine month period in 2011. Over the past twelve months he company’s share price has dropped 8.6 percent, to 87.20 Tuesday, even as the S&P 500 Index has climbed 12 percent. While the shares have dipped this year, they’ve been a strong long-term performer: over the past ten years, McDonald’s shares have increased a remarkable 375 percent, compared to a 53 percent upturn for the S&P.

McDonald’s P/E also remains low at 16.42. The S&P 500 P/E remains slightly above McDonald’s at 16.47, but competitors are well above McDonald’s P/E, like Panera at 29.44 and Burger King at 61.19.

But even with such increasing competition and recent poor performance, analysts and executives stress McDonald’s isn’t stumbling. New initiatives focused on value—including more advertising dollars being redirected to the Dollar Menu—diversifying the menu and growing the brand globally are all relatively new focus. They were created less as a response to slow growth, and more as a preemptive action as the company is maximizing market share since it started thriving in 2000.

“A few years ago when McDonald’s had a few quarters of slow growth in a row, people wondered if they’d survive,” said Chapman. “They have a plan now too, and they’ll be fine. People look at the short term and don’t see the big picture, especially when it’s a slowly growing industry.”

Beyond just finding customers through their value proposition, McDonald’s has gone after reinventing the experience of the fast food restaurant to better position itself against fast casual chains.

This past spring the company announced a billion dollar investment in redesigning all of the 14,000 U.S. stores by 2015. Replacing the bright red roof and the yellow fiberglass tables for faux leather chairs, earth tones and new exteriors, the company hopes to become more of a place to dine and relax, rather than eat and run.

“We’re continuing to see the same performance out of the remodels that we’ve been experiencing over the last couple of years. So that kind of 6 or 7 percent average lift is what we’re experiencing,” said Bensen.

McDonald’s has even gone as far as testing a new concept television station in some of its restaurants to add to the “redesign.” The “M channel” is an attempt to target different audiences with specific content at different times of the day, making it more personal than those TV screens in the back of taxi cabs. And the personal touch also means that the company is getting exclusive content from musicians and retailers, who want to use the station to help promote their products with special deals. Big names have signed on to make content, like “The Voice” creator Mark Burnett and ReelzChannel.

“McDonald’s is working on a bit of a perception shift with these premium items and the hipper, comfortable improvements,” said Chapman.

The company also is working to put more emphasis on the strong performance of its beverage division. The McCafe concept has been a wildly successful foray into the coffee and beverages. What started as a cup of black coffee has been transformed into its own business of specialty coffees a-la-Starbucks, smoothies and shakes.

The highest-margin items on the menu have consistently been beverages, says Saleh.

In 2013, the company will invest in adding seasonal beverages to its McCafe menu, similar to the seasonal coffees at Starbucks or Panera or the holiday milkshakes at other fast food restaurants. Saleh says that the beverages have been so successful for the company that additional drive-through lanes are being added at some restaurants and the increased customizable beverages will definitely help continue to bring in dollars.

McDonald’s also recently made the move in the U.S. to patent its McCafe coffee, and while the company insists there are no immediate plans to go into the grocery business in America, it has introduced a line of McCafe coffee in grocery stores in Canada in just the past month.

By combining the value and convenience of its fast-food origins, and rounding off plans for edgier menus and the contemporary aesthetics of growing fast-casual brands, McDonald’s is ready to spruce up its image. McDonald’s is out to prove those golden arches aren’t dimming anytime soon.