I am pretty sure that after you watch The Founder you will hate him. May be it is just me, but I have to admit I do not like how Ray Kroc doing his business. He is unethically break the trust of Maurice “Mac” McDonald and Richard “Dick” McDonald. He seems to manipulate the two just because he likes the name of “McDonald.” Before the credit, it is clearly written that the original McDonald never get the royalty they deserve. I hope I am wrong but I think Ray Kroc is so egoist by letting the brothers die with nothing. I hope anyone of you do not do what Ray Kroc do in the past.
However, it is also very clear that the McDonald success is because of the vision of Ray Kroc. If Ray did not stop by in the store, McDonald will not as big as today. It will just a small successful hamburger store with with very fast serving time. No more than that. There will be no Big Mac outside the California and our belly will be suffered because of it. So, what makes a small hamburger store the largest restaurant chain not only in US but also in the world? The answer lies in the brilliant business model. I call it McDonald Business Model.
We are not technically in the food business. We are in the real estate business. The only reason we sell fifteen-cent hamburgers is because they are the greatest producer of revenue, from which our tenants can pay us our rent.
Those are the magic words. Those are said by the Former McDonald’s CFO, Harry J. Sonneborn. If you have watched The Founder, you will recognize him as the mastermind behind the new McDonald business model. Harry J. Sonneborn said that after he asked MBA students to tell him what business he was in.
Yes. Many people, including me, always think that McDonald make large chunk of money through selling Burger and French Fries. But, I am wrong about that. McDonald in not only in the business of food but also a real estate.
It initially shocks my head. I never think that McDonald owns every land and building with the Golden Arches. McDonald is a real estate? I just can’t believe it. My brain need to work harder to understand it.
So, what is actually the secret behind McDonald success story?
As what I have said before, McDonald are in real estate business. Their revenue stream is not only from selling burger of French Fries. Instead, The company is the landlord to its franchisees.
McDonald buy a property, the land as well as the property of the stores, and lease them to the franchisees. People who are willing to be franchisee have to rent the property (at large markup, usually up to 40%) and give the percentage (5%) of every gross sales made.
The franchisee usually have to pay as low as $950 as the down payment. Then, after the franchisee is ready to start the business, McDonald theoretically can sit back and collect the rent plus the royalty. However, it is not forbidden for the franchisee to purchase the property.
Before 2008, McDonald only owned and operated 15% of the location worldwide. But, the recession “pushed” the company to take over 45% of the land and 70% of the buildings at their 36,000+ locations (the rest is leased). It turns the Golden Arches into a cash flow powerhouse!
Is the business model always that good?
Unfortunately, it is a big NO. Business world is about compromising risk and return. And the case is clearer when talking about a big business.
McDonald basically rely on three stream of revenue; royalty, rent and fees and company owned store. In 2014, the McDonald’s corporation made $27.4 billion in revenues. It is a very big money but behind that, the profit margin is also tight. From that revenue, $9.2 billion came from franchised locations and the rest $18.2 billion was from company-operated restaurants. Those number reflect a big hidden risk under the hood.
First, the fact said the real estate price does not always go up. There are some condition when real estate performs worse than any other business (remember crisis in 2008?). Owning real estate sometimes means burning money out of your sight! Second, do not ever think that McDonald always purchase the real estate in cash. Instead, the company lease it from the real estate developers and sublease it to the franchisees. Business theory says Basic business theory says operating the store is way more costly than collecting the rent and royalty. Not to mention the risk from fluctuation of burger sales and franchise agreement termination.
To sum up, McDonald is still the largest restaurant chain in the world. It was build with persistence and determination from a so-so milkshake sales person. We still have to respect him because of that.
Thanks to Wall Street Survivor and Fool.com for the reference.