You Deserve a Better Break Today

McDonald's ad-and-discount strategy leaves investors cold

The last time Sherri Danner went to McDonald's (MCD ), she got cold fries and not so much as an apology. It was the final insult for the Claremont (Calif.) tech-support worker. "I haven't gone there since," Danner says. Now, she eats at rival burger joint Carl's Jr.

McDonald's is ticking off a lot of diners these days, as the company's unappetizing earnings amply demonstrate. On Sept. 17, CEO Jack M. Greenberg cut earnings expectations for the third quarter. Now, Lehman Brothers Inc. analyst Mitchell Speiser estimates that net income will be just $509 million on revenues of $3.97 billion--a 7% drop from the $545 million it booked a year earlier. While global sales remain weak, the company's biggest problems are at home. Faced with fierce rivalry from Wendy's (WEN ) and Burger King (DEO ), as well as from such "fast-casual" outlets as Panera Bread (PNRA ) and Cosi, McDonald's has been unable to boost the quality of its service and food fast enough to hang on to its customers.

Greenberg's answer: discount, advertise, refurbish. McDonald's plans a November rollout of a dollar menu backed by a $20 million ad campaign. The company also says it will spend up to $400 million to remodel its older U.S. restaurants.

Will it work? Investors don't think so. On Sept. 18, McDonald's stock closed at $18.16--a seven-year low. For starters, McDonald's, with its new dollar menu, is merely playing catch-up with Wendy's and Burger King. More important, investors fear that the remodeling effort could distract the company from its most crucial task: improving its worsening service. For the first time this year, McDonald's conceded that long wait times and surly employees were hurting sales. Says McDonald's U.S. President Michael Roberts: "We've got to have the right number of crew on the floor, well-trained and committed to deliver a great McDonald's experience."

To tackle the problem, Greenberg unveiled a major drive to improve service back in February. McDonald's executives dispatched field staff and "mystery shoppers"--a.k.a. spies--to evaluate food quality, cleanliness, and service. But there are few concrete signs of progress. Surveys of restaurants nationwide found that they met internal speed-of-service standards just 46% of the time. Improving service will mean resolving the company's problem-plagued Made For You kitchen configuration. Introduced by Greenberg three years ago, the new computerized kitchens allow McDonald's to make its sandwiches fresh, rather than keeping batches warming under lamps. They were also supposed to simplify new product launches.

Problem is, better food came at the cost of speedy service. It simply takes longer to cook individual orders. Moreover, the kitchen snafus have exacerbated tensions between McDonald's and its franchisees, who own 85% of its restaurants. While McDonald's says that franchisees who don't use the kitchens properly are to blame for the problems, franchisees complain that the kitchens are poorly designed. And they aren't much happier with the company's solution: Execs want store owners to train crews better and hire more people to keep up with orders. To that end, McDonald's is urging franchisees to staff up at lunch hour, something few are eager to do because it would cut into their already-slim profit margins. But until McDonald's execs and franchisees agree on how to address the poor service, customers will go elsewhere for their 99 cents hamburgers.

By Julie Forster in Chicago

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