Friday, January 11, 2008

"Fast Company" on McDonalds: A Biff Whiff

Fast Company did a piece on McDonald's (MCD) Wednesday that essentially said "How McDonald's Will Kill Itself Killing Starbucks". That is not my conclusion but the title of the article.

First read the article here:

Where to start? The premise of the piece is so flawed that we might as well start there. I was unaware that McDonalds was trying to destroy Starbucks (SBUX), was anyone else? What they have said repeatedly is that they were responding to changing customer tastes and preferences. Let's remember where this all began.

McDonalds faced sluggish to falling breakfast traffic and survey after survey said the same thing, the coffee was awful. They responded in the Northeast by replacing their admittedly "brown liquid in a cup" with the "Newman's Own" brand gourmet coffee. Guess what? Sales of coffee and ancillary breakfast items exploded.

Mcdonalds then responded to this profound success by rolling out gourmet coffee in its 14,000 restaurants nationally. Guess what? Another stunning success as foot traffic is up and earnings release after earnings release credits "breakfast and coffee" as the driver for this success.

What is the next logical step now that Dunkin Donuts' has gotten into Latte' market? Right, get into the latte' market.

Back to the article. The author tries to make three points:

McPizza: McDonalds has regularly tried foot menu items that have failed. That being said, coffee is beyond a runaway success for the chain. The author then goes into the smell and aroma of the stores and this somehow being a negative for coffee sales. Back to the earnings releases. "Breafast" has been the driver. I have never smelled a Big Mac at 6am in McDonalds, replacing the smell of grease from home fries the smell of good coffee is actually a plus and more likely to get people in there.

Drive -Thru.
The author claims that the drive thru convenience will be destroyed buying the drinks there. What he fails to realize is that unlike the hundreds (thousands?) of options customers have at Starbucks, Mcdonalds, like Dunkin Donuts will only offer a few. The reason? Simple really, the speed and convenience of production will not be compromised for any item. The stores where the drinks are being tested in Kansas City have reported no diminished drive thru times and have reported increased store traffic which is perfect as that leads to increased sales.

Dunkin Factor
This is the most egregious point. The "Dunkin Factor" is the very reason McDonalds is moving into lattes. Currently they are the only significant competition to McDonalds for coffee at the drive thru. As their menu goes upscale, so must McDonalds and vice versa. Offering gourmet coffee while your competitor in the space offers that and more and NOT getting into that market would be a poor business decision.

What the author fails to realize is that is EXACTLY what happened to Starbucks. As both Dunkin and McDonalds improved their coffee selection and kept prices reasonable, Starbucks sat pat and had nothing to respond with as the market around them changed and customers fled in droves...

In short, if one wants black and white proof the piece is way off base, just look at the two companies results. While McDonalds has increased its dividend 50%, is consistently increasing earnings guidance and trades at an all time high, Starbucks is dialing theirs back, fired the CEO and saw its stock drop 40% last year...

Disclosure: Long McDonald's, None in any other

Todd Sullivan's- ValuePlays

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