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Rising costs pressure value menu strategies

Rising costs pressure value menu strategies

As rising labor costs, commodity inflation and energy-related expenses mount, major quick-service chains are taking steps to reverse dwindling profits from their popular value menus and low-priced offerings.

But McDonald’s is brewing a hot, new value menu tack that could offset strains its franchisees are feeling in the face of escalating overhead that’s burdening all quick-service competitors trying to make money on $1 food items.

Meanwhile, McDonald’s and its competitors have begun raising prices on their lowest-margin value items or made a strategic acceptance of them as loss leaders—all while keeping a cautious eye on price resistance among increasingly tight-fisted consumers.

Despite those pressures, prices of some value menu signatures at McDonald’s, Burger King and Wendy’s are creeping up from once-standard 99-cent and $1 price points at branches in select markets, especially in pricey urban areas.

Some McDonald’s Dollar Menu boards now read “Dollar Menu & More” and include recently raised prices on items such as the Double Cheeseburger. It, for instance, is now $1.29 in downtown Chicago and $1.99 in Manhattan.

Commodity prices that have been skyrocketing include those for cheese, which is forecast to be up 38 percent for the full year, according to analyst John Barone, president of Market Vision of Fairfield, N.J.

“U.S. consumers are facing the fastest-rising food prices in almost two decades,” Barone reported recently.

Yet despite the risk of further lowering margins and alarming stressed-out franchisees, some quick-service brands are introducing new value-priced items as consumers increasingly seek bargains and trade down from more expensive dining alternatives amid mounting economic stress. For example, Denver-based Quiznos is rolling out snack-size, flat-bread-based sandwiches called Sammies for $2, or $5.99 in a two-sandwich combo meal with a side and a drink.

But operators remain wary about the possibility that some bargain-hunting diners will selectively buy only small-ticket items and not the add-on orders that make the value menu fixtures such crucial lures. Other operators are addressing inflated food and operating costs by altering their definitions of value.

New York City McDonald’s franchisee Irwin Kruger said his Dollar Menu & More has been charging well above $1 for several items for quite some time, as have other Manhattan franchisees of the chain. Because of his city’s exceptionally high operating expenses, McDonald’s operators there must raise prices of value menu items to cover costs, Kruger explained.

However, if out-of-town customers balk at paying more than $1 for an item that they get for that price at home, Kruger’s crew members are authorized to charge them only $1, he said.

In other parts of the country, most McDonald’s franchisees continue to charge $1 for Dollar Menu items, even the Double Cheeseburger. Kansas City, Mo., franchisee John Jelinek, for instance, said his restaurants sell “a lot” of those burgers but make up for their low margin by training counter workers to do suggestive selling of add-on items.

McDonald’s Corp., for its part, says that while it “does not set menu prices for franchised restaurants, our franchisees overwhelmingly support the Dollar Menu as well as our overall value menu strategy.”

The segment leader’s bargain-pricing strategy now is taking aim at the lucrative espresso-beverage market dominated by Starbucks Coffee, which this month revealed an unprecedented sign of vulnerability by making its first-ever report of declining same-store customer traffic at U.S. coffeehouses for the September-ended fourth quarter.

McDonald’s, perhaps smelling blood as more consumers cinch up their belts in the face of declining home values and tightening credit, is poised to begin a rollout of $2-$3 cappuccinos and caffe lattes at its nearly 14,000 U.S. outlets.

Reports recently have indicated that Starbucks customers have begun economizing on their spending for specialty espresso beverages that often cost them $4 or more.

McDonald’s USA president Don Thompson this month told analysts that a systemwide roll-out of new specialty beverages is expected to take until the end of 2009 to complete, though his chain’s value-priced espresso drinks already are being sold in more than 800 U.S. branches.

The rollout also would include smoothies, frappes, bottled beverages and a greater variety of fountain drinks, signaling that chains like Jamba Juice also could feel the effects of McDonald’s value-pricing stance.

Starbucks, meanwhile, has lowered its forecasts for profit and sales as some analysts have concluded that the chain has driven away price-sensitive customers since it raised prices last July by an average 9 cents per beverage—to the benefit of such lower-priced competitors as McDonald’s and Dunkin’ Donuts.

As the McDonald’s-versus-Starbucks price battle is brewing, Burger King franchisees are struggling to find ways to contain costs on their BK Value Menu. Omaha, Neb.-based Burger King franchisee Michael Simmonds of Simmonds Restaurant Management, for instance, said he occasionally has to raise prices on core menu items to compensate for value-priced loss leaders. However, customers so far have not objected to those slight increases, he said.

Burger King operators are also finding increased cost savings through improved technologies, including new broilers that provide substantial energy savings, according to a spokesman for the Miami-based franchisor.

New Jersey franchisee Joseph Anghelone, chairman of Burger King’s National Franchise Association, said BK is committed to its value positioning, despite commodity inflation and other increases in operating overhead.

“As franchisees, we believe value menus are a part of our core menu,” he said. “Our customers can feel good, knowing when they walk into our Burger King restaurants, their favorite item is going to be there.”

A spot check of some Wendy’s units in various markets showed most still offer 14 items on that chain’s Super Value Menu, though a few are priced above $1. Those units now serving breakfast post big window signs touting 99-cent value menus in the morning.

Pricing on Wendy’s Super Value Menu varies by market, said franchisee Dave Norman, who leads the Wendy’s Old Fashioned Franchise Association.

“We all try to be price-sensitive to our markets and are competitive instead of adhering to a single price point,” he said. “We lose money selling almost anything at 99 cents but can hope that it’s a traffic driver. We hope they will buy other things so it will be a profitable transaction. If they buy one 99-cent item and ask for a cup of water, we lose 25 [percent] to 30 percent on that sale.”

Wendy’s operators are not legally bound to sell products for a particular price, Norman stressed, even if one is advertised.

“It says ‘at participating restaurants’ in the ads, so you have options,” he said. “You have two choices: You can price to the commodity cost or reduce your costs. We have been strongly pushing to raise prices rather than reduce portion sizes.”

However, Wendy’s has reduced portion sizes systemwide on its Super Value Menu over the years, spokesman Denny Lynch confirmed. The 99-cent burger, for instance, has been shrunk from its former dimensions and now is a junior-size bacon cheeseburger.

Norman claimed that some of Wendy’s food costs are higher than those of direct competitors because Wendy’s doesn’t use frozen beef and its chicken nuggets contain whole-muscle meat. His restaurants now charge $1.29 for the Junior Bacon Cheeseburger, which is slightly less than the $1.39 most Wendy’s branches on the East Coast and West Coast typically charge for that item.

One ploy used by a suburban Chicago McDonald’s appears aimed at discouraging customers from ordering from the Dollar Menu. In a practice that could be in use in scores of the chain’s restaurants, that branch has placed its bargain-menu board off to a far side of its L-shaped counter, where it’s harder to see.

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