McDonald’s has been warning us about this for months.
The Chicago-based fast-food giant has said all year that consumers, particularly those with lower incomes, were adjusting their fast-food dining in light of rising menu prices and steady, if not falling, prices at grocery stores.
On Monday, the company revealed the extent of this reaction: Its first quarterly same-store sales decline in the U.S. in four years, and weak sales in some of its biggest international markets, including France and China.
The company’s response is likely to be more value, both in the U.S. and worldwide. That will put pressure not only on McDonald’s rivals like Burger King, Wendy’s and Jack in the Box but on the franchisees who will be forced to generate a profit on discounted or lower-priced food.
“Our franchisees in the U.S. are in a very strong financial position,” Joe Erlinger, McDonald’s U.S. president, told analysts on Monday. “They have the financial firepower both in terms of cash flow as well as equity to make investments, and they can make those investments across their” profit-and-loss statements.
“We think they’ve got the ability to invest,” he added, “so we’re comfortable with the position in the U.S.”
McDonald’s blamed its weak sales results entirely on negative guest counts. While the company had been losing traffic for a few quarters now, until recently McDonald’s was more than able to make up for it through a combination of higher prices and consumers ordering more premium items. Not this time.
Two-year same-store sales data in the U.S. tell a more complete story of the company’s sales slide this year. That metric has mostly hovered between 14% and 18% since early 2021, including a 15.1% increase in the first quarter.
That figure slowed to 9.6% in the second quarter. That’s a steep, downward shift. There are ceilings to which companies can take their prices. McDonald’s, apparently, crashed right through it. So did a lot of other fast-food brands.
“Beginning last year, we warned of a more discriminating consumer, particularly among lower-income households, and as the year progressed, those pressures have deepened and broadened,” CEO Chris Kempczinski told analysts on Monday. “The QSR sector has meaningfully slowed in the majority of our markets.”
Yet company executives also said the problem was of their own making. “There were factors within our control that contributed to our underperformance, most notably our value execution,” Kempczinski said.
To be sure, McDonald’s franchisees faced unprecedented cost increases in recent years that led to their collective decisions to raise prices. McDonald’s prices are up about 40% on average in the U.S. since 2019.
But those higher prices “disrupted long-running value programs and led consumers to reconsider their buying habits,” Kempczinski said.
“We recognize that in several large markets, including the U.S., we have an opportunity to improve our value execution,” he added. “Consumers still recognize us as the value leader versus our key competitors, but it’s clear that our value leadership gap has recently shrunk.”
Grocery prices have been flat or declining for several months, and the gap in pricing between grocers and restaurants has led many lower-income consumers to eat at home more often.
Fast-food chains like McDonald’s, which have a higher percentage of lower-income consumers, have been hit hardest. That helps explain far stronger results at the fast-casual chain Chipotle (11% same-store sales last quarter) and the steak chain Texas Roadhouse (9.3%).
But getting customers back will likely take more discounts. Company executives said efforts are underway in many global markets to provide that kind of value. In the U.S., the $5 Meal Deal was extended in 93% of its domestic markets.
But there was a clear indication that the company wants to keep pushing on value for the balance of the year until consumers have better adjusted to the higher prices.
Franchisees have generally been on board with the value push, though they needed some convincing to go aboard with the $5 Meal Deal and its extension. Coke agreed to provide a financial incentive to get them on board with the initial offer. And the company itself pushed operators hard to go along with the extension, according to several sources.
Adding to that complication is the $20 fast-food wage in California, home to more than 10% of McDonald’s U.S. restaurants.
Yet McDonald’s says that profit margins remain strong, and that as food and paper costs come down, they should be able to withstand whatever hit future discounts have to profit margins.
“Even with more muted top-line growth, restaurant margins have held up pretty well,” CFO Ian Borden said.
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