McDonald’s has high hopes for the China market and a burning desire to overtake KFC over time and establish their brand as #1 in the QSR category. That won’t be easy considering the KFC market lead made possible by a prior association with PepsiCo, the parent company at the time. (Excess cash flow from the beverage and snack food divisions were able to fund heavy investments in the 1990’s in store development and infrastructure.) McDonald’s took a very dramatic step early this year by slashing prices up to 33% to gain market share and give better value to Chinese customers while at the same time increasing their store development plans. But has it hurt or helped the Brand with Chinese customers?

I was skeptical about the McDonald’s pricing actions in a previous posting given the impact on food costs and the apparent lack of enthusiasm in many parts of the country for its burgers. People do love the 2.5 Rmb soft ice cream everywhere in China! Now we learn that the Company will be scaling back expansion and is experiencing declines in year over year same store sales! How can this be? Here are a few thoughts.

First, I think it is safe to say that the Chinese like chicken more than burgers and there is a frequency problem for McDonald’s other than the cheap menu items like soft ice cream. I suspect that the volume did not make up for the price cuts and that the store level economics are getting worse.

Second, I notice that McDonald’s is building stores very close to each other in many cities I visit. There is probably a lot of cannibalization between stores and the overall volume in a trade area may not have grown very much. This coupled with rising food costs leads of course to very scary economics!

Third, most Chinese can eat a lunch of noodles for 10 Rmb and feel reasonably satisfied. Even with the price cuts, McDonald’s is still expensive and the menu variety is still not comparable to a Chinese restaurant. McDonald’s may need more localization to attract more regular customers and increase frequency.

Fourth, customer service is definitely not the problem. I have always been very impressed with the McDonald’s crews. They are very well trained, well groomed and very friendly. The best in my opinion in the China QSR industry.

So the key question is whether McDonald’s can attract more customers and increase the frequency of visits to its stores while being profitable I don’t think pricing by itself can provide the answer. The Company may need to ask itself some hard questions. Is the menu local enough to satisfy customers? How many stores can a burger concept really develop? Maybe they should stop at 1000 stores for now and figure out how to achieve solid store level profits while becoming more attractive to local Chinese customers? That wouldn’t be such a bad thing!

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