The Wall Street Journal/The Business of Food
McDonald’s goes upscale, with salads. will it work?
By Steven Gray
McDonald's Corp., the world's largest restaurant chain, has hit upon an unlikely recipe for a turnaround: selling pricier items such as salads laced with arugula and radicchio.
In early 2003, McDonald's was smarting from its first-ever quarterly loss as a public company. Its customers were defecting to rival chains like Panera Bread Co., Cosi Inc. and Applebee's International Inc.
The iconic burger giant responded with a risky departure from its longtime strategy of targeting children and young men with inexpensive food. It rolled out such menu items as the $4.50 California Cobb salad with grilled chicken and the $3.89 grilled chicken club sandwich. Prices that high had never been seen underneath the golden arches.
McDonald's executives say they were aware of the risk. "We know that a significant amount of our customers are very sensitive to price," says Mike Roberts, the company's president and chief operating officer. "We know that everyday affordability is an enormous part of the McDonald's equation."
Nevertheless, its customers bit. Last year, the average check total increased by 5% to about $5, a significant increase in an industry that has long considered itself highly price- sensitive. Such increases add up fast when multiplied by the eight billion customer visits to McDonald's in the U.S. each year.
The new strategy has helped fuel three years of growth. Revenue increased to $20.5 billion in 2005 from $15.4 billion in 2002. Net income grew to $2.6 billion from $893.5 million over that period. Its stock has bounced back from a low of $12.12 in March 2003 to $36.06 yesterday in 4 p.m. composite trading on the New York Stock Exchange.
Other fast-food chains have been pursuing different strategies. Hardee's, owned by CKE Restaurants Inc., and Burger King Corp., for example, are focusing on the industry's traditional core customers – young men – by playing up their large portions in advertisements. Burger King Chief Executive Greg Brenneman has said that a typical Burger King sells just three salads a day, compared with 300 Whoppers. Salads, he says, help take away the "veto vote" of mothers who sometimes prefer such fare to burgers and fries.
McDonald's recent success selling salads and other premium fare – after years of failed efforts to do so – is a testament in part to good timing. More upscale chains such as Cosi and Panera have paved the way by getting baby boomers used to lunching on jazzed-up salads and sandwiches in lieu of more traditional fast food. McDonald's is reaching for that market.
After scanning the menu at a McDonald's in downtown Chicago Friday afternoon, Terry Warner, a 50-year-old electrical engineer on a business trip from Ohio, selected the new $5.95 premium meal of white-meat chicken strips. "It was the only thing on the menu that looked almost healthy," because it's chicken rather than beef, he said.
Still, he said, he never takes his children to McDonald's, despite the new menu offerings. "We feed them real food," he says. "They'd want the rest of the stuff on the menu, and I don't want to be bad father telling them 'no.'"
At McDonald's, premium products like salads and white-meat chicken have accounted for more than half of same-store sales growth in the U.S. since 2003, estimates David Palmer, a restaurant-industry analyst for the investment research arm of UBS AG. Such offerings could also help McDonald's battle the public-relations taint left by the widely publicized 2004 documentary film, "Super Size Me," which cast the chain as a merchant of dangerously unhealthy food.
Now, executives at the company's Oak Brook, Ill., headquarters are debating how much further to expand the menu beyond the core burgers and fries. To stretch it too far is to risk alienating the chain's most loyal customers. In addition, long menus add strain on franchisees already scrambling to serve customers fast.
Limits of Expansion
Richard Adams, a retired McDonald's executive and franchisee who now works as a franchisee consultant, says that broadening the menu too far risks confusion. "They've gone as far as they can go in complicating the menu," he says. "I don't know if they can add any more products without further confusing the customer and the restaurant staff. That's the biggest complaint I get from franchisees...You try to push people through the drive-thru, but you give them a menu that takes a half-hour to read."
Mr. Roberts says he's aware of the concern. "No one wants to sit in a drive-thru for seven minutes," he says. McDonald's recently scaled back tests of deli-style sandwiches, dubbed "Oven Selects," partly because they take too long to prepare. Still, he says, "we'll go as far as the customer will let us" in introducing new items. "I'm thinking different ingredients on the edge of being mainstream, or more ethnic tastes, spicier food. There's more room to grow."
McDonald's, founded in 1955, was the industry's standard-bearer for decades, and other fast-food chains followed many of its leads. By the time it hit the one-billion-burgers-sold mark in 1963, the company and its franchisees dominated the U.S. market.
By the late 1990s, however, more baby boomers who grew up gobbling Quarter Pounders with Cheese had begun looking for healthier, more varied fare. They found it at Panera, Subway, Applebee's and other chains. They didn't mind paying more for it, either. At Panera, for example, lunch customers pay $8.51 per transaction, on average, more than $3 more than the average McDonald's check. At the same time, Starbucks Corp. was luring breakfast customers from McDonald's with its premium coffees. McDonald's and its rivals, chiefly Burger King and Wendy's International Inc., battled for customers through price wars.
McDonald's executives now acknowledge that the quality of their food had deteriorated, and their product mix was failing to connect with consumers. The chain tried occasionally to boost prices with limited-time offers, such as the $2.89 Grilled Chicken Flatbread Sandwich in 2001. But customers resisted. In January 2003, the company reported its first quarterly loss since going public in 1965.
By then, Chief Executive Jack Greenberg had resigned and the company had begun a reassessment of its U.S. business. McDonald's learned that women, and particularly mothers, thought there wasn't enough variety on the menu, Mr. Roberts says. "They were coming in some ways because their children wanted to come, not because they did," he says.
The company moved to improve the taste of core menu ingredients such as cheese and ketchup. It reconsidered how its buns were toasted, and widened the diameters of its straws so people could drink more easily.
But its broader goal was to improve the quality of the menu and add variety to it. Although the company was reluctant to stray too far from its longtime commitment to offering cheap food, it wanted to boost the average customer's check total.
In the mid-'80s, McDonald's had briefly tested salads priced at slightly more than $2, but it dropped the project amid poor sales. "There was a time when people said, 'You'll never be able to sell a salad for more than $1.99,'"Mr. Roberts recalls.
This time, executives decided on a two-tiered menu. Certain popular items would be priced low – double cheeseburgers would be offered at $1 – to generate traffic. New items would carry prices higher than customers had ever seen. McDonald's executives were betting that customers would pick and choose across the menu, mixing, for example, a premium salad with a $1 parfait. The goal, executives say, was to boost the average check for two to more than $12.
Their challenge was to create new products that customers would pay more for. The McGriddle breakfast sandwich was one important experiment. Starbucks and Dunkin' Donuts had been stealing McDonald's breakfast business, which accounts for more than one-quarter of sales at many franchises. McDonald's had already succeeded making bacon, eggs, sausage and hash browns portable. But it hadn't figured out how to do the same with pancakes, a popular McDonald's breakfast item.
Product development specialists tried cooking pancake batter in muffin pans. They tried mixing chopped sausage into the batter. Eventually, executives decided to use conventional looking pancakes as "bread" for a sandwich, with sausage patties and other add-ons wedged inside. Adding drippy syrup was out of the question. So the company developed maple-flavored syrup crystals to bake into the pancakes.
At first, customers were reluctant to pick up the concoction, says Wendy Cook, U.S. vice president for marketing and menu management. The company rolled out ads showing people eating McGriddles with their hands.
Targeting Adults
McDonald's target customer for the new item was the adult traveling to work. Ms. Cook says McDonald's executives ordered up surveys to determine whether customers would be willing to spend $2.39 for the item, which would make it one of the chain's priciest breakfast items. She says about 80% of survey respondents said they would. The Bacon, Egg & Cheese McGriddle costs about $2.60.
Nicole Tinnin, a 34-year-old Chicagoan, says that two or three times a week, when she wants to "splurge," she buys a McGriddle for breakfast.
In the 12 months after they were introduced in June 2003, McGriddles accounted for about 40% of McDonald's same-store sales growth in the U.S., estimates Mr. Palmer, the restaurant industry analyst. McDonald's disputes that estimate, but declines to quantify sales for any single product.
Salads were a second part of the premium-menu strategy. In the late 1980s, McDonald's had followed Wendy's into the salad market. But its customers didn't take to such test offerings as Chicken Salad Oriental. McDonald's continued trying other salads through the 1990s, but none caught on.
In recent years, however, family-style restaurants such as Applebee's have succeeded in appealing to customers with premium salads. By 2002, Ms. Cook's team had begun testing various salads with consumers. They tried cold chicken atop lettuce. They tested hot chicken. In the end, they settled on four new salad items: Bacon Ranch, Caesar, California Cobb, and Fruit & Walnut, ranging in price from $2.99 to $4.50.
Getting the right lettuce mix – something more than just iceberg – was critical. For color, flavor and texture, McDonald's decided on a blend of 16 lettuces, including baby red romaine, baby green leaf, baby spinach, arugula and radicchio.
The company drafted new quality-control standards for lettuce suppliers, including strict rules on how the lettuce should be washed and cut. Taylor Farms, based in Salinas, Calif., became a major supplier. It provides McDonald's with about 800,000 pounds of specialty salad mix each month, along with about 900,000 pounds of iceberg lettuce. Taylor's factory has expanded twice in recent years, mostly to accommodate demand from McDonald's.
Taylor, in turn, depends on Stan Pura, who grows lettuce in Gilroy in North-Central California, to supply much of the "spring mix" and iceberg lettuce McDonald's uses. He has rented additional land and has begun using a mechanical harvesters to meet demand.
Mr. Palmer, the analyst, estimates that salads represented between 15% and 20% of McDonald's same-store sales growth in the U.S. in the 12 months after their introduction in March 2003. McDonald's disputes that estimate as well, but declines to provide sales figures.
McDonald's executives now are debating how much further to expand the menu with premium products. They are testing a salad containing Edamame, a soybean used in East-Asian dishes. Ms. Cook concedes that "only a small portion of the population knows what it is." But customers, she says, "expect more choices and options than they've had in the past."
