MCD - Where there is smoke there is fire!

Advertising Age is the latest publication to run an article on McDonald's and the issues surrounding the $ menu. To the articles credit, it contains incremental data points!

Issue #1 - Franchisees are pushing back.

According to the article, one Texas market franchisees voted down local funding to advertise the dollar menu in September. Going back to an early post on MCD, I pointed out that the company is very focused on transactions counts as a driver of same-store sales. Increased advertising on the dollar menu helps to support transactions but takes away the advertising of higher-margin items. In the current economic environment a value message is important, but as Ed Bailey (a McDonald's franchisee with 63 restaurants in the Dallas area) said "when you begin to advertise it and make it your marketing campaign, encouraging franchisees to do it because transactions are slipping and comp sales are slipping," he said. Mr. Bailey went on to say the chain is pushing to boost transactions and same-store sales, with little regard for franchisees' bottom lines.

Research Edge: I feel that management is walking a fine line between trying to manage Wall Street's expectations for same-store sales and franchisee profitability. In the end, the health and profitability of the franchisee system will always win.

Issue #2 - Increased sales of low margin items.
The Ad Age article quoted Greg Watson, VP-marketing at McDonald's USA, saying Dollar-menu sales in the U.S. are now roughly 15% of sales, on the high end of the 13%-to-15% range that's been typical during the past five years, but the these shifts are seasonal and do not reflect the economy. Mr. Bailey, however, said dollar-menu sales have absolutely increased with the downturn but couldn't quantify the shift.

Research Edge: As I said before, increased transaction counts and a lower average check is a recipe for disaster. Clearly, these issues are not going away and management stance on the issues appears unwavering. It's important to note, that the same time franchise profitability is under pressure, Oak Brook is rolling out the specialty coffee initiative. From what I have seen, this puts even more pressure on franchisee profitability. Something has to give!

The McDonald's U.S. system has a number of serious issues to deal with and so far shareholders have been immune from the issues.

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