McDonald's 'Playing The Long Game' As Growth Pace Slows

Golden Arches Plans Include More Breakfast and More Value, But Pokemon In the U.S. Not Announced

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McDonald's this fall plans to expand the number of breakfast items available all day.
McDonald's this fall plans to expand the number of breakfast items available all day. Credit: McDonald's

For the McDonald's of a couple of years ago, actually growing sales slightly in a tough environment would have been a success. But now, more than a year into its turnaround effort, weak sales gains were enough to send the stock down and add to concerns that the broader U.S. restaurant industry is in trouble.

CEO Steve Easterbrook tried to ease some concerns during the company's conference call Tuesday, stressing how McDonald's is reinvigorated and that it is taking market share. He also said the company is not managing itself quarter by quarter, as Wall Street monitors the company.

"We are playing the long game here," Mr. Easterbrook said.

The CEO pointed out that customer satisfaction scores are up in seven of McDonald's nine largest markets. He even pointed to a recent YouGov brand perception study, calling out that McDonald's was the fourth most-improved brand across all 1,400 brands in the survey and the most-improved one in the quick-service restaurant industry.

Still, the numbers did not please investors, who pushed shares of McDonald's down 4.3% to $121.96 in afternoon trading.

McDonald's second-quarter same-store sales, or sales at longstanding locations, rose 1.8% in the U.S. and 3.1% overall. While McDonald's fared better than some other chains, analysts were anticipating a 3.2% bump in the U.S. and a 3.6% rise overall, according to Consensus Metrix. Plus, McDonald's grew at a slower pace than it did in the first quarter, when same-store sales rose 5.4% in the U.S. and 6.2% overall (with a little help from Leap Day).

"Although the progress we've made in the U.S. is encouraging, our most significant opportunity continues to be bringing customers into our restaurant more often," Mr. Easterbrook said.

McDonald's growth is still being aided by the October debut of All Day Breakfast, and the chain hopes to continue that momentum by adding to the number of items available all day as this fall approaches. Expanding the lineup was a decision that franchisees were overwhelmingly happy about, with more than 99% approving of the move, Mr. Easterbrook said.

McDonald's is also planning to talk more about the quality of its food. That effort includes the "The Simpler, The Better" messaging it began using this month and there will be more news in that area in the coming weeks, he said, without sharing details.

"Sustainability matters to our customers and it matters to us," Mr. Easterbrook said.

Plus, there are technology improvements and other changes that could make their way to the U.S. For example, increased use of kiosks can help with personalization, voice-recognition software may help speed up the drive-thru lanes and even switching to a larger font on receipts can help ensure staff pull the right items into an order. It is not all about technology, though: table service is available in a large chunk of restaurants in France, Mr. Easterbrook pointed out.

The company briefly mentioned that its Monopoly game and a tie-in to the "Angry Birds" movie helped generate some buzz, yet did not call those out as major traffic drivers during the second quarter. Instead, the focus was on All Day Breakfast and this year's launch of the McPick 2 value play.

When asked about Pokemon Go and the potential of doing a tie-in with the wildly popular mobile game in the U.S., Mr. Easterbrook mentioned how McDonald's Japan has already linked up with the game and that "it's doing great things for the business." He said McDonald's relationship with Niantic was really driven by the McDonald's team in Japan.

For now, when it comes to Pokemon Go in the United States, there's "nothing else to say, no other speculation to add to it, but we're certainly enjoying what it's doing for our business in Japan at the moment," Mr. Easterbrook said.

Earlier on Tuesday, Stifel restaurant industry analyst Paul Westra announced a bearish outlook on the U.S. restaurant industry and the broader economy as a whole. Slowing same-store sales growth across the industry during the second quarter and his own survey "reflects the start of a U.S. restaurant recession - which, may also represent a harbinger to a U.S. recession in early 2017," he wrote in a research note. Mr. Westra said restaurant industry sales tend to be what he called the "canary that lays the recessionary egg."

He lowered his ratings on 11 stocks, including moving Chipotle, Darden and Panera to "sell" from "hold" and pushing Cheesecake Factory and BJ's Restaurants all they way down to "sell" from prior "buy" ratings.

Meanwhile, RBC Capital Markets analyst David Palmer estimated that the overall U.S. fast-food industry had same-store sales growth in the 1% to 1.5% range in the second quarter, down sharply from the first quarter's 3% growth. By those standards McDonald's, while weak, fared slightly better than the broader industry it leads.

"While All Day Breakfast and McPick 2 drove positive trends for the fourth consecutive quarter, traffic likely remains negative and the chain continues to wrestle with 'Dollar Menu hangover' as prices for its premium items are perhaps too high for their perceived quality," Mr. Palmer wrote in a research note. "Over time, we would anticipate that product quality upgrades including core menu enhancements, better restaurant operations, different value messages can bolster McDonald's traffic trends."

McDonald's acknowledged that the broader consumer slowdown has had an impact on the chain.

"I think generally there's just a broader level of uncertainty in consumers' minds at the moment, both trying to gauge their financial security going forward, whether through elections or through global events, people are slightly mindful of an unsettled world. And when people are uncertain, when families are uncertain, caution starts to prevail and they start to hold back on spend," the CEO said.

If people cut back on vacations and trips to shopping malls, inevitably they are also cutting back on potential trips to its restaurants. Plus, as the gap between prices for food from the supermarket and food away from home is widening, people are choosing to make more of their meals.

"We're not immune from what's happening in the outside world at all, but nor are we letting that deflect our focus on what really matters to us and our customers," Mr. Easterbrook said.

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