Summary:
- McDonald's relies on operational improvements to raise profits, these are short-lived and give no growth
- McDonald's growth cycles, and investors forget long-term it isn't growing much at all
- You can't depend on recurring recessions to make your business look good
- Apple has shown how to create long-term revenue growth, and greater investor wealth, by developing new markets and solutions
- Investors in McDonald's are likely to be less pleased than investors in Apple
Subway is now #1 in size, as "McDonald's Loses World's Biggest Title to Subway" according to Crain's Chicago Business. The transition wasn't hard to predict, since Subway has been much larger in the USA for several years. Now Subway has gained on McDonald's internationally. What's striking about this is that McDonald's could see it coming, and really did nothing about it. While Subway keeps focused on growth, McDonald's has focused on preserving its historical business. And that bodes poorly for long-term investor performance.
For more than a decade McDonald's size has swung back and forth as it opened stores, then closed hundreds in an "operational improvement program," before opening another round of stores – to then repeat the cycle. McDonald's has not shown any US store growth for a long time, and has relied on expanding its traditional business offshore.
Even the menu remains almost unchanged, dominated by burgers, fries and soft drinks. "New" product rollouts have largely been repeats of decades old products, like McRib, which cycle on and off the menu. And the most "strategic" decision we hear about was executives spending countless hours, along with thousands of franchisees, trying to figure out whether or not to reduce the amount of cheese on a cheeseburger (which they did, saving billions of dollars.) Even though it spent almost a decade figuring out how to launch McCafe, the whole idea gets little atttention or promotion. There just isn't much energy put into innovation, or growth at McDonald's. Or even trying to be a leader in new marketing tools like social media, where chains like Papa John's have done much better.
Most people have forgotten that McDonald's acquired and funded the growth of Chipotle's, one of the fastest growing quick food chains. But in 2006 McDonald's leadership sold Chipotle's to raise cash to fund another one of those operational improvement rounds. The business that showed the most promise, that has much more growth opportunity than the tiring McDonald's brand, was sold off in order to Defend and Extend the known, but not so great, McDonald's.
Sort of like selling your patents in order to pay for maintenance and upgrades on the worn out plant tooling.
Soon after Chipotle's sale the "Great Recession" started. And people quit dining out – or went downmarket. Thousands of restaurants closed, and chains like Bennigan's declared bankruptcy. As people started eating a bit more frequently in McDonald's investors cheered. But, this was really more akin to the old phrase "even a stopped clock is right twice a day." McDonald's was the benefactor of an unanticipated economic event. And as the economy has improved McDonald's has cheered its improved oprations and higher profits. But, where is future growth? What will create long-term growth into 2015 and 2020? (To be honest, I'm not sure where this will be for Subway, either.)
This cycle of bust and repair – which will lead to another bust when a competitor or other external event challenges McDonald's unaltered success formula – is very different from what's happened at Apple. Rather than raising money to defend its historical business (the Macintosh business) Apple actually cut back its Mac products to fund development of new businesses – the big winner being iPod and iTunes. Then Apple focused on additional new markets, transforming smart phone growth with the iPhone and altering the direction of computing with the iPad. Rather than trying to Defend its past and Extend into new markets (like McDonald's international efforts) Apple has created, and led, new markets.
Performance at Apple has been much better than McDonald's. As we can see, only during the clock-stopped period at the height of the recession did investors lose faith in Apple's growth, while defaulting to defensiveness at McDonald's.
Steve Toback at bNet.com gives us insight into how Apple has driven its growth in "10 Ways to Think Different – Inside Apple's Cult-like Culture." These 10 points look nothing like the McDonald culture – or hardly any company that has growth problems. A quick scan gives insight to how any company can identify, develop and grow with new solutions in new markets:
- Empower employees to make a difference.
- Value what's important, not minutiae
- Love and cherish the innovators
- Do everything important internally
- Get marketing
- Control the message
- Little things make a big difference
- Don't make people do things, make them better at doing things
- When you find something that works, keep doing it
- Think different
What's most worrisome is that the protectionist culture we see at McDonald's, and frankly most U.S. companies, is the kind that led General Motors to years of faultering results and eventual bankruptcy. Recall that GM once bought Hughes Aircraft and EDS as growth devices (around 1980,) and opened the greenfield Saturn division to learn how to compete with offshore auto makers head-on. But the first two were sold, just like McDonald's sold Chipotle, to raise funds for propping up the poorly performing auto business. Saturn was gutted of its uniqueness in cost-saving programs to "align" it with the other auto divisions, and closed in the recent bankruptcy. (Read more detail on The Fall of GM in this short eBook.)
While McDonald's isn't at risk of immediate bankruptcy, investors need to understand that it's value is unlikely to rise much. Operational improvements are not the source of growth. They are short-term tactics to support historical behaviors which trade off short-term profit improvement for long-term new market development. In McDonald's case, this latest round of performance focus matched up with an economic downturn, unexpectedly benefitting McDonald's very quickly. But long-term value comes from creating new business opportunities that meet changing needs. And for that you need to not sell your innovations — instead, invest in them to drive growth.
