McDonalds Innovations and the Big Mac Index

The Experience

Travelling with a child, you inevitably visit a number of McDonalds restaurants. Nowadays they tend to be laborious establishments with interactive ordering displays, playground areas, several seating sections and free Wi-Fi. Many of them now mimic the Starbucks model and encourage people to stay and work during off-peak hours, maybe ordering coffees and snack throughout the day.

In the past two weeks, I have been to at least five McDonalds restaurants in Fontviele in Monaco, Chalon-sur-Saône in eastern France, Wiesbaden in Germany, Värnamo and Hedemora in Sweden, and maybe one or two that I already forgot. I was almost lured into the one in Metzingen in southern Germany but then I managed to convince the child to go for schnitzel instead. Then, heresy, Tuesday morning I had breakfast in a Burger King. By the way, travel tip, I discovered Burger King in Hannover makes good cappuccino.

Today McDonald’s is the world’s largest chain of fast food restaurants, serving around 68 million customers daily in 121 countries across more than 35,000 locations, 14.267 being in United States and a whooping 1,800,000 employees. The corporation operates as a franchise, revenues come from the rent, royalties, and fees paid by the franchisees, as well as sales in company-operated restaurants. In 2012, McDonald’s Corporation had annual revenues of $27.5 billion, and profits of $5.5 billion.

How did McDonalds get so successful and how do they compete? We all know the story of the McDonalds brothers who started the company, and Ray Kroc who took it over and made it a global brand. However the real expansion and success has been in the past 20 years.

I recall visiting the restaurant on the Pushkin Square in Moscow about ten years ago. It was huge with more then 700 seats inside and 200 outside. In 1990 when it opened, Moscow McDonald’s set a world record. It served more than 30 thousand visitors in one day. People stood in line for over six hours, willing to get a taste of the unusual American food. The brand was fresh and unique for them. A taste of the attractive west. Needless to say, when I visited in 2003 I did not get in line.

Across the square is the Pushkin restaurant, located in a mansion meant to recall the days when the writer Pushkin strolled the 19th-century avenues of Moscow. The waiters are dressed like household servants, the menu resembles an old newspaper with letters no longer used in the Russian alphabet and the food is fit for a Tsar. All the classic Russian dishes can be found here, from blini, caviar, meat dumplings and beef stroganoff, and there’s a fine, if over-priced wine list.

Prices at the Pushkin restaurant ten year ago were moderate and the three-course business dinner was an excellent way to sample Pushkin’s food without breaking the bank, with extra coffee and cigar at the end. Overall the price of one meal was about the same as the price would have been for a Big Mac Meal at McDonalds across the square. Now the future of McDonalds in Russia is uncertain, as Russia´s consumer watchdog has opened an investigation into the quality of food products used at McD.

The Big Mac Index

As McDonalds hamburgers are a globally available product, The Economist, tongue-in-cheek, introduced the Big Mac Index in 1986 as a semi-humorous illustration of measuring the purchasing power parity (PPP) between two currencies and provide a test of the extent to which market exchange rates result in goods costing the same in different countries. As the newspaper said, It "seeks to make exchange-rate theory a bit more digestible".

As fellow Economists knows, the Purchasing Power Parity theorem says that in the long-run, a commonly available product would cost exactly the same number of, say, US dollars or euros across markets. One suggested method of predicting exchange rate movements is that the rate between two currencies should naturally adjust so that a sample basket of goods and services should cost the same in both currencies.

In the Big Mac Index, the basket in question is a single Big Mac burger. The Big Mac was chosen because it is available to a common specification in many countries around the world as local McDonald’s franchisees at least in theory have significant responsibility for negotiating input prices. For these reasons, the index enables a comparison between many countries’ currencies.

The Big Mac PPP exchange rate between two countries is obtained by dividing the price of a Big Mac in one country (in its currency) by the price of a Big Mac in another country (in its currency). This value is then compared with the actual exchange rate; if it is lower, then the first currency is under-valued (according to PPP theory) compared with the second, and conversely, if it is higher, then the first currency is over-valued.

The Big Mac Index has been published by The Economist annually in July since 1986. The latest ‘Big Mac index’ as of this month suggestsis that Norway’s krone, the Swiss franc, Brazil’s real and Canadian dollar are overvalued. See illustration below.

Then there are those currencies that are undervalued, with Russia, Indonesia, South Africa, India and Ukraine at the bottom of the recently-published list.

Burgernomics was never intended as a precise gauge of currency misalignment, merely a tool to make exchange-rate theory more digestible. Yet the Big Mac index has become a global standard, included in several economic textbooks and the subject of at least 20 academic studies.

McDonalds and Innovation

The success of McDonald’s is the business equivalent of the American Dream. While McDonald’s was not the first franchise business, it has possibly become the premier example of the business model. The franchising model allows McDonalds to innovate both on the global level and at the local franchise operator chains. A number of service innovations that we today take for granted has come from the company. Investopedia has documented some examples.

In 2010, Fast Company published a fascinating article about how much emphasis McDonald’s puts on innovation and design and how much effort it devotes to learning from its franchisees. McDonald’s product offerings have evolved over the years alongside the tastes of their customers thanks in part to some observant and innovative franchisees. A few examples of products that were introduced after being developed by McDonald’s franchisees are Filet-O-Fish, Big Mac, Hot Apple Pie, Egg McMuffin and McFlurry.

Over the past decade, McDonald’s has sharpened its innovation process. It has set clear success criteria: New globally launched products must taste good for all target markets, be inexpensive and be easy to prepare. Consumer panels in different markets provide feedback throughout the process, increasing the odds that McDonald’s launches winning products. McDonald’s approach helps to ensure that it introduces items that have a strong chance of resonating with consumers and generating attractive returns. After all, it does not do the company much good if it creates an idea that is not scaleable.

CNN reported today that McDonalds new nuggets in Japan are made of fish and tofu, and I am not sure how scalable that will be to non-Asian markets…

The Future of McDonalds?

Richard Branson wrote on his blog today that “I recently blogged on why I’ve stopped eating beef – now a new study has found giving up the meat could reduce carbon footprints more than giving up cars.” He continues by saying that a study in the Proceedings of the National Academy of Sciences has found beef production results in five times more climate-warming emissions than pork or chicken – and 11 times more than potatoes, wheat and rice. The beef production process also needs 28 times more land to produce than chicken or pork.

Branson asks a valid question and many people in McDonalds target groups of middle class urbanites are following his example. So how will McDonalds survive in a world where we increasingly go half or full vegetarian? It will be very interesting to see. How would the kid I mentioned at the start of this article do if there would be no red meat in McDonalds? Well, he would do surprisingly well. He only eats Chicken Nuggets, French fries and apples anyway.