McDonald’s Looking for a Break

In outlining a new strategy to serve up burgers at a competitive price, McDonald’s restaurant operators in Southern California didn’t mince words about why they were offering Big Macs for 99 cents.

“There is a battle for customers currently raging among competitors and McDonald’s is not keeping pace,” said an internal memo, signed by Neal Ruby, head of the association of 560 McDonald’s restaurants in the region. Without taking significant steps, it warned, there will be no reversal in the “steep declining trend” in sales and customer count.

If Ruby sounds a bit distressed, that’s the way it is these days at McDonald’s, which is wrapping up one of its most challenging years ever.

McDonald’s has been beset by “mad-cow” scares in Europe and Japan, and its U.S. operations have struggled amid intense competition and some problems of its own making, such as keeping stores clean, refreshing its menu, and delivering warm food to customers in a timely manner.

McDonald’s is working to shore up its domestic operations, largely by tightening central control and encouraging franchises to offer consumers better value.

In Southern California, McDonald’s restaurants this week began selling its flagship Big Mac for less than half the regular price; the promotion runs through the end of the year. And starting early next year, according to Ruby’s memo, the Southland stores will offer an expanded menu of items priced less than a buck, including a new McChicken sandwich for 99 cents and a fifth size of French fries also for 99 cents.

This new strategy may be expanded nationally, but the outlook for the Oak Brook, Ill.-based company remains guarded. Some analysts said the discounting strategy might trigger a price war and not produce long-term results.

On Friday, McDonald’s executives said sales trends were improving in Europe. But more-recent concerns in Japan about mad cow disease, a fatal animal disorder, has hurt McDonald’s business there. Europe and Asia account for nearly half of the chain’s operating income. In the U.S., executives said, sales at restaurants open at least a year, a key industry measure, were running slightly negative in the current quarter.

In the first nine months of the year, its profit was down 11% from a year ago, to $1.4 billion, on systemwide sales that edged up 1% to $30.5 billion.

In its interim quarterly update Friday, McDonald’s said net income in the fourth quarter would fall for the fifth consecutive quarter. But the company’s fourth-quarter earnings projection (34 cents per share excluding one-time expenses) was in line with analysts’ forecast, and analysts said that triggered a bit of a relief rally on Wall Street.

Shares of McDonald’s rose $1.16, closing at $26.80 on the New York Stock Exchange. The stock remains off 21% for the year, in contrast to notable yearly gains for some rivals, including Wendy’s International Inc. and CKE Restaurants Inc., the operator of Carl’s Jr. and Hardee’s.

“These are definitely trying times for the company,” John Glass, an analyst with Deutsche Bank Alex. Brown in Boston, said of McDonald’s. “Everybody’s a little tense. Franchisees are a little tense. Executives are a little tense. And investors are tremendously disappointed.”

The public, too, has expressed dissatisfaction.

In an annual study by the University of Michigan, McDonald’s last year received the lowest customer satisfaction ranking among national fast-food restaurants for the eighth consecutive time. McDonald’s finished last in five of the six categories, including perceived food quality and value.

The company is “only slightly above the IRS for customer satisfaction, but only slightly,” said Claes Fornell, a marketing professor at the University of Michigan who runs the consumer survey.

By sheer size and brand recognition, McDonald’s still clearly leads the pack. It has almost 13,000 restaurants in the U.S., 85% of them franchised outlets. The typical McDonald’s garners annual sales of $1.6 million, compared to $1.2 million at Wendy’s and Jack in the Box and $1 million at Carl’s Jr., according to Technomic Inc., a restaurant consulting firm near Chicago. McDonald’s dominates the breakfast market.

But its rivals are narrowing the gap because McDonald’s isn’t keeping pace in generating traffic and growing same-store sales. And McDonald’s is facing growing competition from chains that serve a fresh, healthier fare, such as Baja Fresh , Mexican Grill and Quizno’s.

Analysts say that McDonald’s problems with maintaining high quality, service and cleanliness emerged as the Oak Brook-Ill.-based headquarters moved to decentralize operations in recent years.

The experience of Ben Henderson, a 34-year-old insurance salesman in Costa Mesa, typifies the uneven standards throughout the McDonald’s system.

Henderson complained that he used to eat at several Southland outlets where workers were unable to get his order right. Henderson now goes to a McDonald’s in Santa Ana, where he has had better luck.

Among other missteps by McDonald’s has been its made-to-order cooking system, which the company required of all U.S. restaurants to install two years ago in an effort to improve the taste of its burgers and better compete with rivals. Wendy’s boasts that is hamburgers are made from fresh rather than frozen beef. Similarly, Carl’s Jr.’s charbroiled sandwiches have won fans.

But McDonald’s made-to-order system hasn’t panned out for everyone. And some franchisees complain that it has slowed down the delivery of food to customers.

“We have people walking out of our restaurants everyday because they’re not getting waited on quickly enough,” said Michael Muntzel, who owns four McDonald’s franchises in Little Rock, Ark. Muntzel said he spent more than $300,000 to retool the kitchens at three of his stores. “I spent a lot of money and haven’t benefited at all.”

McDonald’s Chief Executive Jack Greenberg declined to comment. But the president of McDonald’s U.S.A., Mike Roberts, said the cooking system is working.

Greenberg and Roberts are taking other steps to turn things around. Recently, the company announced a major restructuring that included layoffs of up to 700 workers, or 10% of its home office and field staff, and a variety of steps to tighten control of its franchise outlets.

The central office said it will send out more mystery shoppers and has appointed 21 regional vice presidents to impose uniform and more exacting standards and monitor quality.

“We know we can improve,” said Roberts, who has been touring restaurants nationwide to promote McDonald’s new focus on quality, service and value.

Mark Brownstein, co-owner of 20 McDonald’s restaurants in Orange and Los Angeles counties and head of the national franchisee association, said he expected the company’s low-priced items to strike a chord with increasingly value-conscious consumers.

Ruby, who signed the memo outlining the new pricing strategy, declined to be interviewed. But his memo made clear that he had high hopes for the program.

And he sounded a note of urgency: “We need to turn this situation around as quickly as possible.”