Is McDonald's Turning Into Jack In The Box?

Oct. 1.13 | About: McDonald's Corporation (MCD)

As McDonald's (NYSE:MCD) expands its menu, it's starting to remind me more and more of its smaller rival Jack in the Box (NASDAQ:JACK). Jack has one of the most complex, eye-sore-looking menus among the fast food chains. It is so overwhelming it almost reads like a legal disclaimer for Apple's new operating system. It's difficult to question any moves that a company like McDonald's makes since it has been successfully paying and raising its dividend every year since 1976. One reason for its success has always been fast service due to a simple menu requiring a simple kitchen. As the number of items grows I have to question if there's a point of diminishing returns. Its US same-store sales in August were up an anemic 0.2%. I fear any unsuccessful bold moves could easily tip it backwards.

My gut instinct (paranoia) heard about McDonald's introducing its own version of Buffalo wings ("Mighty Wings") was wondering if Mickey D's has finally jumped the shark. Buffalo wings at the French fry king, symbolized by its golden arches? Michael Kelter of Goldman Sachs echoed my concern in the most recent presentation:

And maybe another angle at this is on the one hand Mighty Wings is the first unique product platform in a while and should help drive traffic if successful. And on the other hand, it does add complexity. And some people are concerned that with the continual product introductions that it's become more difficult for the franchisees to operate. Do you feel like the wing platform is going to be more difficult, slow down, throughput in any way or is it not an issue at in Mighty Wings or any product is not an issue in the current system?

Company responses confessed:

The one thing that -- you're right, the one thing is there is a longer cook time on the wings, but we've got ample cabinets and storage.

Okay I guess for now. But:

Well, we've got a lot going in beverage with our McCafé line, we've got some products coming out this fall, we've got some new products that we're bringing out next year.

It seems McDonald's is attempting to go a million different directions at once. I was on board with the Angus burgers, adding breakfast, late night snacking, the wraps, and even McDonald's adding a mini Starbucks (NASDAQ:SBUX) with its McCafes. Fine. I've tried not to notice from my anecdotal experience the longer and longer wait times just to place an order (while customers have an ever-growing menu to decide from instead of the "just pick a number from 1 to 12" game it used to have to place an order). I've tried not to notice the service time to actually get my food is getting as long as Jack in the Box. But new menu items just recently launched, more Starbucks-like drinks coming, more menu items this fall, more menu items next year. Wow, when will it end? That's a lot of change and fast for what I used to know as my simple consistent fast-food restaurant that seems to want to take on Starbucks, Buffalo Wild Wings (NASDAQ:BWLD), Burger King (BKW), and the rest of the world. Add on top of that:

In 2013, we plan to reimage over 1,600 restaurants globally.

This seems like a big gamble. Big gambles could pay off big, but they could also backfire big. Though it's seemed like it for decades, McDonald's is not invincible. For the most part, with a few notable exceptions, doubting just about any move McDonald's makes hasn't been very wise. Then again part of its past success has been consistency and slow introduction of new menu items usually one by one spaced out over substantial periods of time, sometimes years. At some point I have to wonder if the new introductions will slow down service and tarnish its impeccable reputation. New menu items may start to simply cannibalize the old ones. I'm not convinced enough new customers will be won over to make up for the shortfall.

Why try to fix what isn't broken? McDonald's has been wildly successful for decades. As of last quarter, McDonald's is earning record net income of $1.4 billion, up 4% from last year. Sales were at $7.1 billion, up 2%. The growth is far from impressive, but at least McDonald's is able to continue to rake in cash and pay a steadily growing dividend. Chief Executive Don Thompson said "the informal eating out market remains challenging and economic uncertainty is pressuring consumer spending." Okay, I understand that, but that's a macro problem McDonald's can't fix and has never needed to fix. McDonald's has done just fine waiting out past economic storms rather than trying to go against the current.

The way I see it, McDonald's is positioning itself in make-or-break territory. If one or more of these new menu items proves to be a smash hit, then it's possible for investors to see its stock back in high growth sales mode instead of just a boring up 2% last quarter (which is expected from inflation alone). High growth would of course lead to higher multiples in the stock price and even higher possible dividend increases. If the new menu items fail to live up to the promise, McDonald's could start to see negative growth, and the stock would suffer. The good news is any items that prove to be a failure could simply be pulled with little harm done to the operations. The bad news is the potential long term risk of sacrificing customer experience. Investors should stay laser-focused watching the same-store sales trends to get an edge to learn if the new menu items are having their desired effects.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.