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Still lovin’ it?


After a period of phenomenal growth, Amit Jatia run-McDonald’s is now seeing testing times

swelling mass of people waited swelling on Bandra’s Linking Road to get a taste of what was on offer beneath the Golden Arches. The year was 1996 and McDonald’s master franchisee for the west and south of India, Amit Jatia run Hardcastle Restaurants Pvt Ltd (HRPL), had just opened the American burger chain’s first outlet in Mumbai. Today, 20 years on, McDonald’s has become a household name. Burgers, once alien to the Indian masses, are no longer strange and unfamiliar and neither is the concept of self-service. “McDonald’s created a market effectively from nothing,” says fellow restaurateur Jasper Reid, refer-ring to the western fast food quick service restaurant (QSR) category. Today, the QSR market in India is close to 212,000 crore and is growing at an annual rate of 18 per cent, according to PwC.

The Jatias’ journey has been eventful and exciting, but by no means easy. “Our initial research showed that of the 100 or so meals you have in a month, Indians were only eating three outside of their homes. So we actually found our-selves competing with housewives at that time,” exclaims Amit, 49. Moreover, the quality and specification of the ingredients McDonald’s needed for its burgers could not be found in India, and a cold chain too was non-existent. “We had to build everything from scratch,” he reminisces. “We knew this was a long-term business.” Long-term it was and so it continues to be: HRPL only started making profits in FY09 – 13 long years after it started operations. Thereafter, it rode the Indian QSR boom, amassing profits and popularity; up until FY13. McDonald’s has since seen difficult days – eight of the last 11 quarters saw same-store-sales growth tumble to negative territory – down from the high double digits registered during sunnier times. HRPL was forced to registration and the move appears to have worked. The last three quarters have seen a steady uptick in sales, with a healthy 8.4 per cent same-store-sales growth (SSSG) achieved in Q4FY16. “It’s heartening,” says Amit, with a hint of relief. But what went wrong over the last few years and what is McDonald’s now doing right?

The first struggle
The association with McDonald’s Corporation (USA) happened “by chance” for Amit. In the early 1990s a reorganization in his joint family business, spanning paper, textiles, chemicals, food processing and mining, led to his father B.L. Jatia retaining the chemicals business – Hard castle & Waud Mfg Co Ltd. The reshuffle also meant that Amit’s family was looking to invest in other avenues to grow their business again. A timely meeting with “dear friend” Walter Saldana, then MI) of, Chaitra Leo Burnett – the American Ad agency’s Indian arm – followed. Amit meant to discuss how he could advertise one of his chemical products so as to achieve scale, but Saldana instead brought up the idea of bringing McDonald’s into India. He knew that the company was looking for Indian partners since Leo Burnett happened to be the ad agency for McDonald’s (USA).

But the very thought of partnering with a company whose signature product is the Big Mac beef burger was unimaginable for Amit – a staunch vegetarian. So after his first meeting with the McDonald’s management in May 1994, Amit’s initial struggle began closer home. He had to convince his family that McDonald’s would respect Indian cultural norms; that beef and pork would not feature on the menu and segregated vegetarian and non-vegetarian kitchens would be put in place. “McDonald’s promised me that they would take care of this,” recalls Amit. Once his family was at ease, things moved rapidly. By March 1995, McDonald’s (USA) and Amit signed a 50:50 joint venture agreement to form Hardcastle Restaurants Pvt Ltd. “In a short span of nine months my life moved from running lubricants to starting the QSR journey in India,” smiles Amit. In 2010 the joint venture agreement was altered into a development licence when the Jatias took control of McDonald’s (USA) 50 per cent stake, in HRPL, in a friendly buyout. In 2012 HRPL was merged with the Bombay Stock Exchange listed Westlife Development.

Today, Westlife operates 236 McDonald’s outlets across western and southern India, serving roughly 180 million customers annually through standalone restaurants, drive throughs, 24×7 restaurants and kiosks at major transit points. Brand extensions such as McCafe, which serves barista-made coffee and other beverages, McDelivery, and all day breakfast menus, are also part of the mix. Plus 2750 crore has been ear-marked to roll out another 175-250 outlets by 2020. McDonald’s (USA) currently charges a 4 per cent royalty, which will escalate to 8 per cent by 2020. However, for the first 10 years the company didn’t extract any royalties from its Indian counterpart. “Their objective was brand building. Everything was plugged back into the business,” recalls Amit. On the other hand, McDonald’s (USA) joint venture agreement with Vikram Bakshi for the north and east of India, signed at the same time as that of Amit’s, is mired in a bitter legal battle, derailing the burger giant’s over-all growth plans in India.

Building the ecosystem
A few years before McDonald’s (USA) partnered with Amit, they had already begun working towards a sustainable supply chain in India. Quality and consistency is key to McDonald’s success. From the crunchiness of the lettuce leaves on their burgers to the length of their McFries — every ingredient has to be of a certain specification. But India didn’t offer what they needed. Lettuce of the right quality, for instance, wasn’t available — most people used cabbage as an alternative. “We took every component of our burger and backward integrated it to the farm level in India,,” explains Amit. Local “progressive farmers” were identified and teamed with global expert agriculturists to produce the fresh out-put McDonald’s needed. The lack of a cold chain in the country was also a massive hurdle. “The minute lettuce is harvested at 32 degrees Celsius, it needs to go into two degree temperatures, so as to maintain its integrity. We set up freezers and chillers at the farm itself and through temperature controlled vehicles had the produce delivered to our processing facilities,” he says, boasting the global standards adopted in India.

An important player in McDonald’s cold chain is Navi Mumbai-based Vista Processed Foods (osi group) — a supplier of patties, fresh produce and eggs. The company was established in 1996, primarily to cater to McDonald’s. Illinois-based osi Industries Inc, a global supplier to McDonald’s, was brought in to provide technical and financial sup-port to Vista. “051-Vista worked with local poultry suppliers and shared best practices to improve bird feed and growing conditions, which enhanced the average bird weight,” explains Vista’s CEO Bhupinder Singh. This improved the yields, while the world-class temperature controlled halls that were built prolonged shelf life of the chilled poultry. In this manner, six years, 2100 crore of investment and 40 suppliers later, the McDonald’s cold chain today forms the backbone of its business, allowing for consistency, high food and safety standards, as well as economies of scale. “We were making in India even before it became a national priority,” Amit points out. In fact, many of McDonald’s competitors in the country including Burger King, LUC, Carl’s Jr and even the indigenous Jumbo King, get their supplies from the same vendors McDonald’s helped set up. But Amit is unperturbed. Contrary to it eroding HRPCs competitive advantage, he believes that as his suppliers’ volumes will improve, prices will go down and everybody will benefit, as is common in other markets too.

McDonald’s had to work equally hard on localizing its menu to suit the Indian palette. As early as 1997-98, McAloo Tikki, Chicken McGrill and pizza puffs were introduced, with strong Indian flavors dominating. “Even so, we found that customers felt intimidated by our fancy new restaurants because they had never seen anything like it. The price too was a concern,” says Smita Jatia, 46, Amit’s wife, who serves as managing director of Westlife Development. The company responded by launching advertisements highlighting the warm and friendly atmosphere at McDonald’s, and introduced the “Happy Price” menu. Top treats including the McA loo Tikki could be had for a mere Z20 — creating a strong “value for money” proposition. Volumes grew considerably as a result, but margins were still under pressure as fixed costs were high. So HRPL took to improving its “unit economics.” Equipment, fabrication and other components of the cost of setting up a restaurant were localized. By 2003, these changes saw the capital expenditure per store fall by almost 60 per cent, while the operating expenditure fell by 20-30 per cent. “That’s when we had a model that was ready to expand across India,” Amit says. Up until then HRPL had set up 18 restaurants, mostly in western India. But between FY03 and FY12, McDonald’s rolled out 112 restaurants on the back of its sustainable cost structure. According to Amit, during this nine-year period, same-store-sales grew by a whopping 80 per cent, driven by menu innovations such as all-day breakfast offerings, nuggets, spicy variations and McFlurry milk-shakes that had been introduced. In FY09 HRPL hit profitability for the first time, which steadily increased year-on-year, as India’s middle class expanded and disposable incomes grew. Customers were clearly “lovin’ it”.

Increasing competitive pressures

The success prompted the Jatias to buy out McDonald’s (USA) stake in HRPL and consolidate its operations with Westlife in FY12. By this time, Noida based Jubilant Foodworks, which had been a Dominos master franchisee since 1996, had already become a public entity. However in FY13, the good times came to a screeching halt. Customer footfalls fell, same-store-sales growth declined and profits tumbled. In FY15, Westlife Development reported a net loss of about 229 crore (FY14: 2.0.95 crore profit) on sales of 1764 crore. (2.740 crore). The macro-economic environment had deteriorated, with GDP hit-ting a decade low of 5 per cent. “QSR is often about what happens to the economy,” explains Reid – the fellow restaurateur, who is also the founder and CEO of International Marketing Management, a London-based company that specialists in setting up consumer brands in emerging economies. Most recently, Reid partnered with Delhi-based businessman Sanjay Chhabra to bring US burger chain Wendy’s into India. “All of the major QSR brands’, including Wendy’s, verdict on the macro is that consumer spends are not increasing appreciably, and if it is increasing, it is getting tough through the many demands the customer has in the modern world,” he adds. So while the demand side of the business is faltering, the supply side too is giving way. In 1996 when McDonald’s first entered the country, the only other western fast food chain in the market was Domino’s, which set up shop in the. same year, through Jubilant Foodworks. Today, however, a number of players jostle for a share of the consumer’s wallet.

Yum! Brands for instance, oper-ates around 800 Pizza Hut, KFC and Taco Bell restaurants in India, with Ravi Jaipuria-owned Devyani Inter-national running the franchisee operations in the north and east, and Samara Capital in the western and southern regions. However, KFC India’s sales declined by 1 per cent in the quarter ended March 2016, while that of Pizza Hut in the coun-try declined by 6 per cent year-on-year, as noted in Yum! Brands Inc’s (USA) financial results. Everstone Capital owned-Burger King, a late entrant into the Indian market in November 2014, today operates 48 stores in India. Johnny Rockets runs five outlets, while Wendy’s and Carl’s Jr run two each. Jubilant too brought in Dunkin Donuts if(2012 to add to its Domino’s portfolio and today operates a total of 990 outlets across India, but like McDonald’s faces muted same-store-sales growth. Even so, Reid believes that the market isn’t overcrowded. “In the short term there’s a little bit of oversupply, how-ever in the medium and long terms India is – in relative terms – a very under penetrated market,” he says.

However, competition, as Anurag Mathur, partner at PwC India notes, is not only in the form of other western fast food outlets. “Unlike most of the markets globally, especially the developed markets where QSR is actually QSR, in India, for the most part, it’s almost a bit of fine dine. If you look at McDonalds specifically, people go there to have a family meal, which would not be the case in the west,” he explains. This means that QSR chains like McDonald’s compete not only against other quick service rANCs, but also casual dining restaurants. According to PwC estimates, while the QSR market in India is pegged at 211,740 crore (18 per cent CAGR), the casual dining market, at 237,150 crore, is worth more than three times that. It’s also growing at 18 per cent. Together, casual din-ing and the QSR segment account for a whopping 72 per cent share of the Indian food services market.

Perhaps what will account for a growing share of that market in time to come is food tech businesses like Swiggy and Scootsy. “The number of start ups in the food tech space has bloomed. All of that number is actually what is going away from the QSR market. So it’s not that QSR as a business is not growing. It is just that these guys have been nimble enough with their offerings. You can get delivery anytime, plus you can get healthier options,” says Mathur, touching on consumers’ increasing preference for food that is wholesome. Reid concurs: “Consumers have become quality conscious. Health, all of a sudden, is a key concern, and QSRs must re-balance the equation,” he says, or risk losing customers. Wendy’s, for instance, operates in the “QSR plus” space, where the focus is on better ingredients, better service and a better environment.

Moreover, Indian fast food out-lets, such as Haldirams and Bikanervala, which were once pure play sweet shops, are now wellestablished QSR players. For instance, privately run Bikanervala has a network of 48 restaurants and 64 chat cafes that are both company-owned as well as franchised. Largely focused in the north of India, the chain has on offer everything from chaats to Chinese and Continental food, as well as the regular north and south Indian fare. “Undoubtedly we are above par to give stiff competition to western fast food companies. We not only offer snacks but main meals too, which are also nutritious. Moreover, we have consistently invested in our infrastructure,” says CEO Suresh Goel, who Oar to open a manufacturing facility in Telangana to cater to the south of India. The company posted revenues of approximately 2445 crore in FY15 and claims to achieve same-store-sales growth of “10-15 per cent” annually.

Moreover, competitive pressures have led western fast food outlets to compete on price, with each offering deep discounts to lure in visitors. For instance, Dunkin Donuts previously charged 2129 for an entry-level burger, but has now slashed it to !49. KFC too, aggressively cut prices, charging Z29 for an entry-level burger, the same as McDonald’s. Burger King, with a Z35 entry price, has responded by offering a range of treats starting at Z29.

Navigating tough times

Instead of retaliating with price cuts, Amit took a step back. “We zoomed out and looked at the category. Big changes had happened in eating out,” he says. The frequency of eating out had gone up from three month to eight times a month. Plus, by FY12, McDonald’s had become a household name, having operated in the country for the last 15-plus years. “So there was a whole generation of people who had grown up on western fast food. They were as comfort-able with burgers and pizzas, as they were with idli and dosa.” Putting all of this together, Amit realized that instead of holding back because of eroding profits, this was actually the time to accelerate.

But before doing so, Amit questioned: “If we were to enter India today, how would we set up our cost structure?” The dynamics had changed, inflation had taken a toll and store economics clearly needed reworking. So by localizing even more equipment, optimizing kitchen capacity and using solar and LED lighting to bring down utilities, slowly over a period of two years, the company reduced its capex by 20 per cent to Z2.3-2.5 crore for a 3,000-4,000 sq ft restaurant. Capex too, came down by 25 per cent. Then, from 130 restaurants in FY12, Westlife built another 100-plus outlets in a short span of four years, taking their current store count to 236.

Moreover, while top-line generating value products still feature on the menu and brand extensions such as dessert kiosks have been put into place to drive impulse purchases, especially from low-income consumers, strategies that would help improve the bottom line were also adopted. McCafe, another store-in-store brand extension serving barista-made coffees, frappes and iced teas, was launched in FY14. A low investment of ’20-25 lakh per store enabled its quick roll out across key metro cities in west and south India. Increased footfalls followed because people now had a reason to visit McDonald’s between meal times. Margins too, on beverages are higher in general — the growth in restaurant operating margins, with the addition of a McCafe is 200-250 bps, according to the company. Amit also sees McDelivery as a key growth driver of the business going forward, as the convenience of delivery becomes “top of mind” for consumers given the proliferation of food tech companies.
Amit’s offensive strategy has worked: after several quarters of negative growth, same-store-sales have picked up over the last three quarters, touching a healthy 8.4 per cent in Q4FY16. “I call it play to win. Not plan not to lose,” he says matter-of factually. While challenges to the business naturally remain, including the availability of quality real estate and trained manpower, the Jatias’_ burger empire looks set to ride the next wave of growth.

Source: Economic Times

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