3 Big Problems Facing McDonald’s New Change Agent

 In this photo illustration, customers order food from a McDonald's restaurant on October 24, 2013 in Des Plaines, Illinois. McDonald's has announced it will make changes to its low-priced Dollar Menu, which includes items like coffee, small fries, hamburgers and apple pies. The new menu, dubbed the Dollar Menu and More, will offer some higher priced options such as the grilled Onion Cheddar Burger and a McChicken sandwich. (Photo Illustration by Scott Olson/Getty Images)

(Photo Illustration by Scott Olson/Getty Images)

Steve Easterbrook, McDonald’s new CEO, does not get to set the agenda in his new job; It has already been set by the market.

Easterbrook takes over the restaurant giant in challenging times. The company is beset by a number of problems, ranging from changed consumer preferences, to new competition such as Shake Shack and Panera eating its market share, to declining revenues. That last bit has been especially problematic: Last quarter, it reported simultaneous declines in income and revenues, an occurrence that last happened back in 1981.

But, Easterbrook — a self-styled “change agent” — may be the right person to manage the company’s turnaround. Easterbrook, who first joined McDonalds as a financial reporting manager in 1993, has been with company for the majority of his career. He orchestrated a turnaround at McDonald’s U.K. through a combination of smart branding and strategic innovations. So, he might just be up to the task of tackling these three major problems on a global scale.

1. Perceptions matter

For starters, there is the perception problem. The restaurant chain became popular with consumers during a fast food era. The convenience of fast food fit perfectly into a post-industrial society, where time was a premium commodity.

But, the Oakbrook, Ill.-based company seems to have missed the memo about changing consumer preferences. Even as competitors gained popularity with millennials with their fast casual food, the McDonald’s menu remained unchanged and, to a certain extent, quaintly unhealthy and old-fashioned.

For McDonald’s, the emphasis on fresh and locally sourced ingredients and artisan sandwiches is a radical paradigm shift in operations. This is because, much like any other large organization, the company’s supply chain is complex and depends on mass production and supply. Changing it overnight would disrupt entire product economies.

Source: McDonald's

Steve Esterbrook, McDonald’s CEO | Source: McDonald’s

Then, there is the criticism. A barrage of negative publicity has followed the corporation for most of the last two decades in the form of books and documentaries critical of its food and sourcing practices.

Easterbrook is not a stranger to these criticisms.

In a courageous step back in 2006, he met these criticisms head-on, when he debated the merits and demerits of McDonalds food with Eric Schlosser, author of Fast Food Nation. During the program, Easterbrook did not waste time fudging facts about the health value of a burger. Instead, he took the opposite tack and met his critics halfway, “The average customer comes to McDonald’s 3 to 4 times a month. I am absolutely convinced that can fit in very comfortably into a balanced diet. Everybody likes a burger now and then.”

The appearance proved to be a successful one.

In addition to this, Easterbrook implemented measures to change the restaurant’s perception amongst customers such as composting practices, reducing salt content in foods, and introducing options for fruit and carrot sticks in the menu. The turnaround resulted in a 10% increase in restaurant sales in the U.K.

2. The baggage of operational complexity

Like most other large organizations, McDonald’s has collected a large amount of baggage over the years. That baggage ranges from an overly complex menu that confuses customers, to a clamorous set of investors intent on unlocking value from its real estate holdings.

The rapid growth of fast casual eating places (such as Panera and Chipotle) happened recently; but, McDonalds has been wary of alienating its core customer constituency. So, it adopted a middle path by catering to multiple customer segments simultaneously; the result is a complex menu that dissuades rather than encourages customers from ordering items. The transition has also resulted in internal operational issues and increased wait times.

There are other operational issues outside the restaurant. For example, last year, the restaurant chain was embroiled in a food safety scandal in China. The company also had to cut down its supply of fries to Japan after a labor dispute at the Port of Los Angeles.

While the incidents may seem like isolated instances, they represent the problems of managing complex operations. As the company transitions to a new demographic (and toward new geographic markets), the size and scope of such problems can make a significant impact to its bottom line.

Source: Justin Sullivan/Getty Images

Source: Justin Sullivan/Getty Images

3. The real estate problem

Truth be told, this is a nice problem to have. Over the years, McDonalds has faced down activist investors intent on spinning off its real estate holdings into a separate entity. Their enthusiasm to generate profits from the company’s real estate holdings is understandable: McDonalds is a real estate behemoth with property holdings worth at least $39 billion reported in the last quarter.

But, they are locked in complex financial engineering.Back in 2005, activist investor Bill Ackman’s Pershing Capital acquired a stake in McDonalds and lobbied the restaurant chain to close down its corporate (or, company-owned) stores, which have historically under-performed. The argument makes sense when you consider that franchisees, who rent their locations from the company and also pay 5% of their sales in lieu of rent if they are doing well, have greater incentive to increase footfalls at their stores.

The company, however, has not relented so far. At that time, the company said that Pershing’s proposal entailed an exercise in financial engineering and does not take into account McDonald’s unique business model. This time around, though, the timing may just be right for such a transaction. On the back of low interest rates last year, REITs outperformed the stock market and notched their biggest gains in a decade. In addition to unlocking value for shareholders, a real estate investment trust will also provide the company with extra cash to experiment and transition to a new brand identity and operational culture.

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