McDonald's is leading the way in the global fast-food chain industry. The company experienced rapid change through a series of CEOs while maintaining control over operating-processes and incorporating various business-level strategies over recent years. In retrospect, McDonald's has witnessed significant decline in performance and sales. One influencing factor that has negatively stunted its performance is the rise of emerging competition who appeal to a wider customer base. This strategic report aims to take a deeper look into McDonald's internal and external environment, assess their past and current strategies that led to the decline and recommend new strategies that could promote McDonald's recovery and growth in the long-run.
McDonald's was founded in 1940 by two brothers in Bernardino, CA. In 1948, the brothers decided to change their business model and introduce a fast-food/low-cost concept to the restaurant industry. Later on, in 1954, a man named Ray Kroc found out about the fast food restaurant and offered the brothers a franchise deal for stake in the idea. As of today, McDonald's operates under a franchise model with about 14,000 franchises in the United States, and a total of 36,899 restaurants in more than 120 countries. McDonald's mission is: “to be our customers' favorite place and way to eat & drink”. McDonald's started out with a simple menu of 33 items which rose to 121 as of today. It has expanded its product line by introducing popular items such as Happy Meals and McCafe specialty drinks. On the downside, McDonald's has faced extensive competition over its growth and mature stage by leading market participants such as: Subway, Chipotle, Wendy's and Burger King.
II.) Industry Analysis
McDonald's has faced several internal and external challenges to its brand image and corporate environment. In recent years, the restaurant chain has dealt with changes in corporate structure and in operational-chain efficiency. For example, from 1998 until 2015, McDonald's had a total of 6 chief financial officers take position. This caused major turbulence and lack of stability within the corporate structure and organization. The fast-food restaurant industry is vastly competitive, causing the company to lag behind from high demand and changing tastes. For example, there is alot of demand for more trendy automated fast food venus, especially amongst millennials. Lastly, McDonald's has attracted an unhealthy and negative reputation for its brand image as a result of bad publicity from a documentary. Following this incident, millennials are now more health-conscious, seeking out alternatives to satisfy changing tastes. They have also developed an overall skepticism towards what food products they consumer on a regular basis. Another trending issue is that of technology. Nowadays, emerging restaurant chains are introducing automated manufacturing and serving system in their operational processes. McDonalds was a disadvantage until it recently began to implement this technology into its services.
McDonald's rivalry among existing competitors is stronger than it has ever been. The industry in which McDonald's competes – fast food restaurant industry – is one of the most competitive industries today. Each player in the industry strives for market share and even in many developed economies, the industry is approaching high saturation levels due to an oversupply of fast food businesses and extensive franchising. This industry development is resulting in less revenue growth and intense price-based and product-based competition.
Although, even when the industry has become more heavily saturated in several parts of the world the threat of new entrants is still moderate yet, it is increasing. The barriers to entry are low in this industry because a fast food operator can establish a new restaurant with relatively low capital outlay and no existing customer base in that market. Since brand recognition is huge for fast food restaurants, most chains or franchisees will pick a market they've done research into the demographic and why this location could be profitable. A new entrant can also reduce their initial capital costs and borrowing by leasing premises and equipment, or by signing a franchise agreement, which includes outfitting of systems and equipment, as well as training and marketing support. But even with the facts previously mentioned, a new entrant would have to establish economies of scale to become as profitable as McDonald's.
The bargaining power of suppliers for McDonald's is weak. Even when suppliers influence McDonald's performance, the raw materials McDonald's uses for its products are available through a large number of independent suppliers. On the supplier side, McDonald's orders are, on a routine basis, massive; which creates a desire to become McDonald's supplier and consequently putting the majority of suppliers in no position to bargain. On the other hand, however, the bargaining power of buyers is very strong. As mentioned before the market is very competitive making it easy for customers to switch from one restaurant to another with a very low opportunity cost, and as a result, customer loyalty is difficult to reach. Therefore, making the threat of substitutes also strong. McDonald's substitutes are meals of other slightly different fast food restaurants, with many of these substitutes offering almost the same products but a different experience based on customer services, price and quality. Healthier products are another substitute for McDonald's with the increase of disposable income, younger generations - especially millennials - are willing to pay premiums prices for low-calorie options. This is furthered by the rise of fast casual restaurants with an emphasis on healthy, quick alternatives to the traditional fast food that has been known for half a century.
McDonald's is considered the largest player in total global size and reach. McDonald's has built strong brand recognition over the years that enables the company to consolidate its market share, 12.3% globally. For example, in 2016, McDonald's was ranked among the top 10 brands in the world's 100 most value brands by a business magazine. Additionally, in that same period, McDonald's was ranked among the top 25 brands in the world's top 100 brands list by a industry source specializing in brand valuation and has continually held the award for “most recognizable brand” in the market.
McDonald's maintains strong cash flows. This allows the company to have the flexibility to invest in key growth initiatives, while returning cash to shareholders through dividends. For Example, in 2016, the company's cash from operations reached US $6,060 million, of which US $982 million was used for investment activities. Furthermore, McDonald's can share their fixed costs over thousands of locations, which through economies of scale allow them to maintain one of the lowest industry price points.
McDonald's is currently working on building brand trust in the U.S. and high growth markets. It is doing so by creating customer excitement through menu changes, promotions and discount values, while introducing strategic menu items that deem suitable to local tastes in important market. Through McDonald's new “Create Your Taste” concept, customers will be able to use digital ordering kiosks to completely personalize orders and will receive all food tableside so customers don't even have to move. This initiative is part of McDonald's new and improved transition to become a lifestyle brand instead of simply a fast food chain.
McDonald's has a number of pending lawsuits that have been filed in various jurisdictions. These lawsuits cover a broad variety of allegations bringing bad publicity to its image. For instance, in May 2016, a lawsuit was filed against McDonald's in the U.S. District Court of Northern Illinois, for violating the Americans with Disabilities Act. Also, McDonald's holds an unhealthy image as a result of bad publicity and documentaries such as, “Super-Size Me” by Morgan Spurlock. The documentary, released in May 2004, brought awareness of diet and nutrition as something that was bigger than just calories, creating a strive for healthier options.
Additionally, with an increase in health awareness in America during the early 2000's, many of McDonald's most loyal customers began to sue them regarding the high fat content almost all of their products offered.
The company discriminated against a blind person by prohibiting him to order at the drive-thru window after restaurant lobbies were closed. In addition, in May 2015, McDonald's was alleged to have diverted its profits earned in Australia to the low-tax nation of Singapore and avoided taxes for the last five years. Furthermore, the same problem came to light again but for McDonald's avoidance of over 1 billion Euro in corporate tax in European Countries.
McDonald's has one of the highest turnover rates in the industry ranging between 65% and 90%. Even though McDonald's spends approximately US$1,000 to train its employees, every year a large number of them are fired or quit because of low salary and high working pressure. Since these jobs are low-skilled and low-paying, however, most employees don't take the job very seriously or only plan on being apart of the company for 3-6 months. Thus, employee training is extremely high compared to most other fast food companies.
Finally, their most important weakness, negative food image. Almost everyone who has ever eaten at a McDonald's knows the food is high in salt, fat, carbs, and sugar - but do they care? Previously in America, most customers did not care but now there is a shifting perception in the Western market regarding fast food. Moreover, their limited product diversification and low process flexibility don't allow for the company to transition with moves in the market and offer new, healthy products to younger customers.
McDonald's has a high growth potential in key Asian markets. For instance, the increasing middle-class income group in China and their increase in disposable income have contributed to the increase in demand for various consumer goods in the country. As per the industry estimates, China's population constitutes nearly 19% of the total world population and, according to industry sources, its middle class is the largest in the world. In January 2017, the company entered into a partnership with CITIC and The Carlyle Group to expand its business in China and now plans to open 2,000 new restaurants by the end of 2022 with a strong focus on freestanding restaurants with drive-thrus. With markets in North America and Europe fairly saturated, Asian markets are a strong promise as KFC and other American fast food brands have seen immense success.
McDonald's overall financial success does not only derive from selling its products, it also comes from its real estate properties. Most commonly franchisees will not own the real estate of their franchise but instead lease it from McDonald's which usually does so at a significant mark up. Different from the company operated restaurants where the company must pay all operating expenses, McDonald's gets to keep about 82% of the revenue they receive from franchises while only keeping about 16% of the revenue generated by the company-owned restaurants. These margins are what is driving the company to pursue their refranchising initiative to minimize the expenses of operating their own restaurants.
In December 2017, Donald Trump, President of the U.S., passed a new tax reform. The tax bill cuts the corporate tax rate from 35% to 21%. McDonald's said it plans to funnel a significant portion of its tax savings into remodeling stores in the U.S. and opening an additional 1,000 stores worldwide in 2018. Also, McDonald's education program, Archways to Opportunity, is included in the tax savings and will be allocated $150 million over the next five years to provide almost 400,000 employees access to the program.
McDonald's will heavily invest into research & development for an upgraded menu. The new CEO, Steve Easterbrook, will be completely revamping the premium menu selections. He has already included an artisan chicken sandwich and premium sirloin burger in the US market and will be doubling down in the caffeinated beverages industry. To compete with the new gourmet fast casual companies that are catching the attention of millennials, McDonald's will soon be offering high-end menu items.
McDonald's faces the increase of wages in the U.S. The federal minimum wage rate in the U.S. was US$7.25 per hour as of July 2017, but the majority of states have minimum wages that are higher. As the U.S. remains McDonald's largest market, rising labor costs could affect its profitability in the short-term.
The fast food restaurant industry is highly competitive with respect to price, convenience, service, menu variety and product quality. McDonald's competes with international, national, regional and local retailers of food products. This intense competition could affect the company's market share and profitability. The popularity of healthier food in new generations such as organics products, fresh fruit and vegetables, and goods with all-natural ingredients, in both, U.S and abroad will increase McDonald's production costs. Even though McDonald's has strong quality control, many consumers do not associate their brand with high-quality products. This conclusion will hurt McDonald's in the long-run unless they start catering their brand awareness to the younger generation who will ultimately be their next customers.
GMO and other regulations. McDonald's, the world's leading buyer of potatoes has gone through some controversy over the past 5 years regarding their use of GMO'd potatoes in their french fries. The firm lacks a comprehensive policy on GMOs and uses them regularly in their food, which, with regulation, could severely limit their product differentiation. They have been asked by many non-GMO advocates to cut back on modifying potatoes but they have failed to do so to-date. If they are to succeed in this ever-changing food economy, they must listen to the public and modify their selections.
From 2013 up to 2015, McDonald's experienced a rapid decrease in revenue with shrinking profit margin. For example, decrease in revenue of 9.6% and a decrease in profits of nearly 20%. Additionally, in the last quarter of 2014, revenue fell by 7% to $6.6 billion while earnings fell by 21% to $1.1 billion with many people shocked at how the fast food icon could be have such a horrible financial performance. Under the new CEO, Steve Easterbrook, the company began to turnaround by re-franchising many of its corporate-operated stores. The goal was to have 95% franchises and only about 5% company-operated. The re-franchising initiative has caused McDonald's to see a reduction in overall revenue, however its operating margins have significantly increased, for example from 28.9% in 2015 to 31.8% in 2016 and 36.6% in 2017.
McDonald's has maintained a low-cost leadership position with international expansion into more than 140 countries worldwide. The company has been able to successfully lower operating-
costs and quickly achieve widespread recognition through a successful franchise model. Despite the significant growth in its course, McDonald's is slowly but surely retiring into the decline stage if it doesn't make significant strategic improvements to its model.
We recommended that McDonald's use a Integrated Overall Low-Cost and Differentiation Strategy for the future. We believe that with the changing demand, rise in technology, and emerging competition, this strategy would be best suited for McDonalds in the long run.
Strategic Implementation Plan
We recommend three tactical solutions in which McDonalds can implement this strategy:
Cut back on unnecessary costs. Reducing expansion into already saturated markets and shifting expansion into unsaturated markets such as places like Africa, Canada and South America. Exploit the profit pool concept for competitive leverage.
Use technology to leverage operating-processes. Incorporate more automated systems, therefore removing human labor costs. Adopting automated and flexible manufacturing systems would increase efficiency and maintain low costs.
Improve the quality of their product. Collaborate with higher-end restaurants where you can protect the brand images against the unhealthy fast food chain stigma. Eliminate harmful ingredients from their items. Reverse-positioning of their older products. For example, the quarter pounder being relaunched now with “ fresh beef”.
Find out what the customer wants. Implement a survey system in their kiosks. Use data analytics to make inferences for ideas and fresh campaigns.
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