On the Margin
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McDonald’s is making a big bet on coffee

Blog: Chain bolsters its McCafe program as it targets Dunkin’, Starbucks

This post is part of the On the Margin blog. 

McDonald’s Corp. this week quietly added new espresso-based drinks to its McCafé menu, including Caramel Macchiato, French Vanilla Cappuccino and Americano. 

It’s a huge bet that consumers will flock to the chain’s stores for a better lineup of beverages. McDonald’s has some evidence that it can work.

Beverages have arguably fueled McDonald’s sales strength so far in 2017. The chain in the winter started selling coffee for $1 and McCafe drinks for $2. When the weather warmed it made soft drinks available for $1. 

McDonald’s U.S. same-store sales increased 3.9 percent in the quarter ended June 30, at least in part because of those beverage bargains.

By comparison, Dunkin’ Donuts same-store sales grew 0.8 percent, and Nigel Travis, CEO of parent company Dunkin’ Brands Inc., said at a conference in June that competition has been hurting the chain’s afternoon business.

Dunkin’ could face more challenges if consumers go to McDonald’s for the new espresso drinks, which a company spokeswoman said should be backed with an advertising push next week.

But the move certainly has its costs, and its risks.

Franchisees had to buy new machines to make the new drinks, at a cost of about $12,000 apiece. McDonald’s paid some of the cost for the machines.

This cost has come along with the price many franchisees are paying to upgrade their restaurants to the kiosk-based “Experience of the Future” design.

There’s also the issue of complexity, which can slow down service. McDonald’s operators deal with a still-massive menu. This year, the chain has added semi-customizable Signature Crafted Recipes sandwiches. And the chain is gearing up for the introduction of fresh beef in quarter-pound burgers that will be made to order.

Bigger menus can slow service, a key element for a chain considered “fast food” and aimed at the on-the-go consumer.

“McDonald’s is doing nothing to address the complexity in our kitchens,” one operator said in Nomura/Instinet Analyst Mark Kalinowski’s quarterly survey of the company’s franchisees. “It will be very challenging for the restaurants to handle new procedures such as fresh beef.”

Still, beverages could bolster a McDonald’s business that is still working to regain steam lost in recent years.

McDonald’s U.S. system sales increased 2.7 percent between 2014 and 2016, to $36.4 billion. Yet its share of the domestic, limited service burger market fell 2 percentage points over that period to 44.9 percent from 46.8 percent over that period, according to NRN Top 200 data. 

McDonald’s says it lost roughly 500 million transactions between 2012 and 2016.

The largest beverage-focused chains in the U.S. generated just more than $30 billion in system sales in their latest fiscal years, according to NRN Top 200 data. But the vast majority of this came at two chains, Starbucks Corp. and Dunkin’ Donuts. Those two combined represent 86 percent of the total beverage market.

Sales for those chains have increased 23 percent over the past two years, according to NRN data. By comparison, sales for the remaining chains on the Top 200 list increased 8.3 percent. 

Independent beverage concepts likely have a substantial amount of additional business. And convenience store chains have for years worked to bolster their own beverage lineups to go after those customers. 

Consumers might eat three meals a day, but beverages can drive even more frequency. They’re also more profitable.

With 14,000 domestic locations, McDonald’s already has the infrastructure to meet demand from convenience-oriented beverage customers. The chain has more locations than both Starbucks and Dunkin’. Those locations are often along traffic corridors that make it more accessible than other chains. 

As long as the complexity doesn’t hurt speed or cause other problems, McDonald’s is poised to take business in the beverage market. 

“Coffee remains a significant opportunity for us,” McDonald’s USA President Chris Kempczinski said in February. “There is so much more we can do with this.”

Jonathan Maze, Nation’s Restaurant News senior financial editor, does not directly own stock or interest in a restaurant company.

Contact Jonathan Maze at [email protected]

Follow him on Twitter at @jonathanmaze

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