麥當勞 (MCD) 2008 Q2 法說會逐字稿

Hello and welcome to McDonald's July 23, 2008 investor conference call.

At the request of McDonald's Corporation, this conference is being recorded.

Following today's presentation there will be a question-and-answer session for investors.

(OPERATOR INSTRUCTIONS)

I'd now like to turn the conference over to Ms.

Mary Kay Shaw, Vice President of Investor Relations for McDonald's Corporation.

Ms.

Shaw, you may begin.

Thank you.

Hello, everyone, and thank you for joining us.

With me on our call today are Chief Operating Officer, Ralph Alvarez, joining us via phone from New Zealand, and Chief Financial Officer, Pete Benson.

Today's conference call is being webcast live and recorded for replay via phone, webcast and Podcast.

Before I turn it over to Ralph, I want to remind everyone that, as always, the forward-looking statements in our earnings release and 8-K filing also apply to our comments today.

Both documents are available on www.investor.mcdonald's.com, as are reconciliations of any non-GAAP financial measures mentioned on today's call with their corresponding GAAP measures.

And now I'll turn the call over to Ralph.

Thank you, Mary Kay, and good afternoon, everyone.

We're pleased to report that our solid business performance continues and every area of the world is contributing to our growth.

In the second quarter comparable sales increased 6.1%.

Consolidated company operated and franchise margins grew for the tenth consecutive quarter and consolidated operating income, excluding the impact of the 2007 Latin America transaction, increased more than $240 million, or 17%.

That's 9% in constant currencies.

We'll start by talking about the strategies driving our momentum.

Then I'll share some highlights about the business in our primary segments, the US, Europe, and Asia-Pacific, Middle East and Africa, or APMEA, as we call it.

Pete will then go through the numbers in greater detail before we open it up for Q&A.

The entire McDonald's system is aligned and executing our Plan to Win.

Our ability to continue building our business in every area of the world is a direct result of our better, not just bigger strategy, and our capability to execute that locally.

Our momentum is driven by five factors that are contributing to our success in every market.

The first is branded affordability.

Every day predictable low prices are what customers expect from McDonald's.

We pride ourselves on being able to provide good value for the money at every price point.

Many [a] variety and beverage choice is a second driver.

Our food pipeline has never been richer.

We're developing products [our] customers want.

The third success factor is better restaurant operations.

An ongoing focus on the fundamentals has improved the customer experience and strengthened brand trust.

Convenience and day part expansion is a fourth factor.

We're serving customers when and where they want McDonald's.

With more than 31,000 restaurants located where people live, work and shop, it's easy to make us a part of your daily life.

And finally, ongoing reinvestment.

We strive to provide a relevant, modern restaurant experience, especially as our customers' needs continue to evolve.

And while we continue to make strides in each of these areas, we believe there are opportunities to do even more.

With that said, I'd like to share a few details on how each area of the world is contributing to our success today and position to drive results into the future.

In the US, we continue to deliver solid results by growing our customer base.

Comparable sales for the quarter were up 3.4%, of which 75% came from increased guest counts and operating income was nearly $800 million, an increase of 6% over last year.

We generated solid results despite a slowing economy, demonstrating McDonald's is well positioned to perform in these challenging environments.

Our three-tier pricing strategy contributes to that success and the dollar menu, which represents about 14% of sales, is an important part of this strategy.

Support for the dollar menu remains strong throughout the US system in spite of commodity and other cost pressures.

As we balance increasing costs with a need to provide value to our customers, we continue to test other options as we have since the dollar menu was first introduced over five years ago.

Although we expect our value offerings to evolve over time, any future changes will be guided by our thorough testing processes and, of course, mainly by the consumer.

And while value's an important part of our foundation, it is only one of the drivers of our business.

Our growth strategies of breakfast, chicken, beverages and convenience continue to deliver results.

During the second quarter we launched a southern-style chicken sandwich and a breakfast version on a biscuit.

Both products have proven popular with our customers.

And also, the chicken biscuit is a key contributor to breakfast sales, which remains our fastest growing day part.

Our second big driver during breakfast hours has been beverages, especially coffee.

Total coffee sales continue to increase, led by iced coffee, which is in 12,800 restaurants today.

We are very pleased by the growth and momentum of our premium drip and our specialty coffees.

Specialty coffees is just one element of the combined beverage business and is currently in more than 1600 restaurants.

Throughout 2009 we will add smoothies, frappes, bottled beverages and energy drinks.

The implementation of the entire line of beverages in these fast-growing categories will move us from providing drinks that compliment our food to becoming a beverage destination.

And the related optimization of the drive-through area of our kitchen will benefit operations and sales throughout the day.

Overall, we're very pleased with our results in the US and are optimistic about the opportunities ahead.

Now, let's turn to Europe where we also had another strong quarter.

Our top line sales and guest counts are strong and have increased across the segment.

Comp sales for the quarter were up 7.4% on top of a 7.8% increase for quarter two '07 and operating income increased 13% in constant currencies.

Europe's overarching strategies of upgrading the customer and employee experience, building brand transparency and enhancing local relevance continues to deliver results.

European customers are embracing our three-tier menu approach.

From the launch of the premium M Burger in France and Germany to expansion of the petite [plaziers] value platform to countries like Portugal, Switzerland and Italy, we are offering products that meet consumers' needs, regardless of how much is in their wallet.

We also expect convenience will continue to drive business.

More than 70% of our European restaurants offer some form of extended hours.

Comparable sales during these hours are outpacing the rest of the day and we continued to leverage this opportunity.

In addition, nearly half of our European restaurants now have drive-throughs and drive-throughs represent 45% of sales in those restaurants.

And given our track record in the US, we believe this business will continue to grow at accelerated rates.

Reimaging is another key component of our strategy.

Since the beginning of 2003, Europe has reimaged over 2000 restaurants to provide a more relevant and contemporary experience for customers.

Germany continues to make progress against its goal of reimaging all of its restaurants by the end of 2009.

Many of these include a McCafe, a separate upscale area that offers specialty coffee and desserts.

These contemporary additions are helping build our credibility as a coffee destination.

The U.K.

is also planning to reimage another 200 plus restaurants in 2008 and 2009 with an emphasis on our drive-through locations (inaudible).

It is important to note that our business in the U.K.

remains strong.

Even in spite of declining consumer confidence in the U.K., our sales, our guest counts and our margins continued to grow in second quarter and were a strong contributor to our overall results.

We are optimistic about the European business and especially our big three markets of France, Germany and the U.K., which represent two-thirds of our operating income in Europe.

At the same time, we will keep an eye towards Russia, Europe's high potential market, where we are in our fifth year of consecutive double-digit monthly comp sales growth.

With 143 million people, but only 195 McDonald's restaurants today, Russia remains a significant growth opportunity.

We are confident our emphasis on convenience, menu choice and value will continue to meet the changing and growing demands of the European consumer.

Now let's turn to APMEA.

We delivered an outstanding quarter with comparable sales up 8.8% on top of a 10.9% increase in second quarter last year, and operating income increased 22% in constant currencies.

Margins are up, income growth remains strong and returns have increased significantly during the last three years.

These results have been driven by strong performances in Australia and China and positive results in most other markets.

Australia continues to deliver impressive results.

Their recent introduction of crispy chicken across all price points has been very successful, exceeding our expectations.

This market success is also the result of our continued focus on operations improvement and momentum at breakfast, driven by espresso [ponte] coffee and a series of menu extensions.

And Australia is seeing the benefit of having reimaged nearly all of their restaurants, with the majority including a McCafe.

In Japan, sales and guest counts continue to grow despite a flat and formal eating out market.

We are taking market share.

The addition of several new items to the 100-yen menu, including premium roast coffee, chicken and desserts, is resonating with our customers.

And it's even easier for customers to go to McDonald's that's open when they want it.

More than 1300 restaurants in Japan are now open 24 hours.

Now turning to China, one of our high potential markets.

We are quickly scaling best practice initiatives, including extended hours, breakfast and value.

Today, nearly three quarters of China's restaurants are open 24 hours.

Comps continue to grow during these hours and we expect that trend to continue.

The benefit of extended hours can also be seen in our breakfast business, which has grown to 7% of China sales, a 50% increase since the launch in early 2007.

We expect this day part will continue to grow as customers discover the great taste and convenience of breakfast at McDonald's.

As we approach the Beijing Summer Olympics, excitement continues to build.

In addition to the four restaurants that we built to feed the athletes, media and many spectators, our 942 local restaurants are also sharing in the fun with games and food promotions.

The Olympics are a great opportunity to support the world's greatest athletes while celebrating our people and building our brand.

We're proud to be a part of it.

One last topic that is generating a great deal of interest is commodity costs.

Like everyone today, we're experiencing significant increases.

However, we believe we have a competitive advantage in both our ability to leverage economies of scale and our global supply chain.

Our menu is also very diversified.

No single commodity makes up more than 15% of our overall food bill, and our margins are among the highest in the industry and they bring significant dollars to the system.

Our globally diversified business is an unparalleled advantage.

It positions us to deliver in types of operating environments.

I am pleased that we've been sable to grow market share and maintain high margins in this environment.

Our strength continues as the global comparable sales trend is even stronger in July than in June and we're confident in our ability to continue to deliver results as we manage the business for the long-term.

And with that, I'd like to turn it over to our Chief Financial Officer, Pete Bensen.

Thank you, Ralph, and good afternoon, everyone.

Once again, our global business has delivered strong quarterly results.

Consolidated margins are up, we're controlling G&A, and earnings, as well as returns, are strong.

All in all, I'm very pleased with these results.

Second quarter earnings per share from continuing operations were $1.04, a 44% increase after adjusting for the impact of the 2007 Latin America transaction.

These results included $160 million nonoperating gain, or $0.10 per share, from the previously announced sale of our minority interest in Pret A Manger, a U.K.-based quick service sandwich concept.

Strong comparable sales increases around the world helped drive total margin dollars to $2.2 billion in the second quarter, up 5% in constant currencies.

Franchise margins represented about two-thirds of this amount and accounted for nearly all of the increase.

As a percent of revenues, franchise margins increased 80 basis points to 82.3%.

This percentage benefit is from last year's Latin America transaction, but was partly offset by the impact of our refranchising strategy.

Let me clarify that last point.

Since a significant number of our locations around the world are situated on lease sites, as we refranchise restaurants, we are transferring more lease sites into our franchise restaurant portfolio.

This impacts margin percentages because lease expense and occupancy costs shifts from company-operated to franchise margins.

For owned sites, there is no corresponding operating expense for the land.

Accordingly, although our franchise margin dollars grow and the stability of our cash flow improves as a result of refranchising, our franchise margin percent is negatively impacted.

The impact on company-operated margins is just the opposite.

Company-operated margins as a percent of sales rose 10 basis points to 17.7%, driven primarily by strong sales growth worldwide offset by rising commodity and other costs.

Before going into company-operated margins by area of the world, let me discuss how we look to optimize margins over the long-term.

We use a multifaceted approach on both the sales and cost side of the margin equation.

On the sales side, we've been successful at driving customer visits and increasing market share as we balance price and product offerings.

Our strategic approach to menu price adjustments considers consumer sensitivity as well as the local competitive and economic environments.

And by offering a three-tiered menu featuring relevant value, core and premium products, with each chair receiving appropriate marketing support, we enhance sales and profits.

For example, in the US, our current national Big Mac promotion at regular price, I might add, compliments a local market focus on attractively priced beverages.

This balance helps drive traffic and delivers solid margin performance.

On the cost side, productivity and commodities are key areas of focus.

We continuously work to enhance the efficiency of our restaurant operations.

This includes leveraging new diagnostic tools to enhance restaurant profitability, breakfast and drive-through optimization efforts, and introducing new equipment such as a fryer that uses less oil and energy.

As for food, we manage our grocery bill like a portfolio seeking to achieve the best overall results.

Our goals here is to remain competitive and predictable.

Our comprehensive approach to restaurant profitability and margins incorporating price, product mix and cost management gives us flexibility to continue to optimize performance around the world.

This approach has proven successful as exemplified by the US, where we continue to deliver company-operated margins that are among the best in the industry.

US company-operated margins were strong at 19.1%, down 40 basis points from last year primarily due to cost headwinds that offset solid comparable sales and guest count growth.

For the quarter our beef costs in the US rose 2% and chicken was up 6%.

For the full-year, our outlook for chicken is to rise in that same 5 to 6% range and for beef to increase 8 to 9%.

We will continue to focus on driving customer visits while maximizing the benefit of strategic price adjustments to deliver strong margins and operator cash flow.

Moving on to Europe.

Strong comparable sales growth contributed to company-operated margins of 18%, the same high level as last year.

Our robust sales performance was offset by inflationary commodity and labor cost pressures throughout Europe.

For the second quarter these prices in Europe rose 6% and chicken increased 8%.

Our full-year '08 commodity outlook is for chicken to be up 7 to 8% and beef costs to rise 8 to 9%.

Despite growing unease over the European economy, we are confident we can continue to drive sales and traffic while effectively managing the cost side of the margin equation.

In APMEA, continued strong comparable sales in virtually every country contributed to the company-operated margins rising 140 basis points.

Australia led this performance with its new chicken offerings and longer operating hours, helping to extend its string of double-digit comp sales increases to 12 months.

China also performed well in the quarter with double-digit comparable sales increases and margin expansion.

Breakfast, extended hours and relevant promotions contributed to this result.

G&A control continues to be an area of focus across the entire organization.

In the second quarter G&A was up 1%, but declined 3% in constant currencies as lower expenses in Latin America offset costs related to our biannual worldwide owner operator convention.

And we continue to generate a significant amount of cash and repurchased nearly $800 million of stock and paid a dividend of $420 million in the quarter.

On a final note, we continue to make progress toward our goal of refranchising 1,000 to 1500 restaurants over the next few years.

In the first half of this year, nearly 300 company-operated restaurants were franchised, bringing the worldwide percentage of franchise restaurants to 79%.

As we continue to become more heavily franchised, combined operating margins becomes a more appropriate measure of our overall business profitability.

Not surprisingly, this improved significantly, rising 320 basis points, excluding impairments and other charges, to 26.7% in the first half of 2008.

This quarter's strong results are a testament to our global strategy, the Plan to Win, and its ability to deliver long-term sustainable growth.

The Plan to Win grounds us in what matters most to our customers and creates a framework nimble enough to adapt to their ever-changing needs and preferences.

I'm confident that as we continue to execute against this framework, our customers, the system and our investors will continue to benefit.

Thank you.

Now I'll turn it over to Mary Kay to begin our Q&A.

Thanks, Pete.

I will now open the call for questions.

(OPERATOR INSTRUCTIONS) The first question is from Steve West, Stifel Nicolaus.

Hey, guys.

I just had a quick question on maybe clarification on the commodities.

You're talking about the commodities being up about 2% as far as the beef in the second quarter.

On your outlook for '09, or '08, you talked about the beef in US being up about 8 to 9%, but last quarter you talked about it being up about flat.

Can you talk about what the big difference is that happened in the quarter that made you change your outlook so much?

Thanks.

Yes, Steve, we've seen a lot of volatility in the beef market.

Some of it we think is short-term, but there's been a spike.

Recently we've seen Russia ban exports from Latin America.

That's causing Russia to buy more US beef and generally we're seeing a lot more activity with the weaker dollar in countries wanting to buy US beef so it's putting a lot more pressure.

We expected Russia to come into the US market some time next year, but this has happened a little bit sooner.

So it's a few things that have hit us relatively recently and beef is 15% of our mix in the US and we feel confident our supply chain will mitigate the impact as best they can.

Thank you.

The next question is from Dave Palmer at UBS.

Hey, guys.

Congratulations on the first half of the year.

I wanted to, you know, ask you about your earnings algorithm, so to speak.

You signaled something, maybe it was a year ago when you first started telling us to focus on overall profit margin in dollars.

And for our modeling purposes, I know internally you think pretty far out.

Should we think that there is a change in your earnings algorithm going forward where your company restaurant margins are relatively stable, even as you execute the game plan in the US and Europe, and you're really left leveraging the overhead to drive earnings?

Is that what's kind of broadly going on here?

Pete, do you want to take a stab at that one?

Yes, David.

Yes, I think essentially when last November we shifted toward a view of the combined operating margin, essentially it was an acknowledgement that as we have fewer and fewer company-operated restaurants, those margins become less and less a driver of our profitability, and that as you indicated, as we're rebalancing the portfolio and shifting toward a more franchised organization, looking at the impact of our total operating income, which also includes our focus on controlling G&A spending, is probably the best way to look at it.

So I think that's a fair way to say it.

Okay.

The next question is from Steven Kron at Goldman.

Great.

Thanks.

Hi, guys.

I was wondering if we could just drill down a little bit more into Europe.

Given the very strong 7.4% same store sales for the quarter, margins at the Company level flat year-over-year, I was wondering if you could just drill down a talk little bit about how did traffic develop in the same store sales?

Was there a negative year-over-year mix shift, maybe a little bit more on the value menu which pressured margins, and is there a disparity between the Company same store sales and the franchise same store sales which may be pressuring, or keeping the Company margins at bay?

Ralph, do you want to take that one?

Yes, Steven, we were very aggressive in Europe this year making sure that we continued to drive traffic, so traffic's about half of the sales and that's where we want it.

The margins being flat, we had slightly more impact on the commodity costs in Europe in second quarter than we did in the US, but the other thing you have in Europe is labor rates change as inflation goes up.

Many of those mandated by government.

And so you had -- and it's in our comments, both labor and cost pressures that increase those.

And we saw a little bit more of that even in our market in Russia, which is all company.

So still very strong margins, but our goal actually for the quarter was to try to be at about flat margins because of the amount of market share we're taking.

Our company restaurant sales versus franchise are pretty close.

That's not the reason for any kind of difference.

Thank you.

The next question is from Joe Buckley, Banc of America.

Thank you.

I wanted to go back to the commodity comments again.

If beef is going to be up 8 to 9% full-year in both the US and Europe, what is implied for the second half?

And maybe in conjunction with if you'd talk about pricing in, well, I guess in the US, because Europe might be too complicated across so many markets.

Yes, Joe, you know, obviously you hit it that the beef costs will be higher the second half of the year than we experienced in the first half and, again, we have a lot of confidence that our supply chain folks will help to mitigate the impact as best they can, but the reality that we're all dealing with is that we expect them to be higher in the second half of the year.

You know, in terms of pricing in the US, we look to that Food-Away-From-Home index as kind of a guiding point to not exceed when we're doing menu price increases, and we use a strategic pricing tool to tell us which items we can do and which are going to have the least amount of impact on transactions and traffic growth.

So for the, you know, through June, our pricing in the US has been up a little over 4% and that is below the Food-Away-From-Home index in the US

As you mentioned Europe, it gets a little harder with 40 countries, but with the exception of Russia, where Ralph indicated inflation's maybe a little bit higher there, we're in the 2 to 4% range around the major countries around Europe.

Just to add on the pricing there, Joe, there's no doubt, you know, we see that Food-Away-From-Home number continues to grow because of what's going on with the grocery bill.

Still, Food-Away-From-Home is significantly below what the cost of groceries are in the grocery store and thus that provides price elasticity and we've been able to take that on a pretty regular basis.

And so I think you'll see a little bit more of that.

The other piece we've done in the US is if you look at our marketing calendar here the last three, four months, it's been full margin chicken sandwiches and full margin Big Macs, while still having the strong value underpinning but making sure that we do that also as we go through.

Thank you.

The next question is from Jeff Bernstein at Lehman Brothers.

Great.

Thank you.

Shifting gears to the coffee program rollout, which we've gotten a lot of attention of late, I think, Ralph, you mentioned being pleased with both the premium drip and the specialty coffee thus far.

Just wondering if you can give a little more color in terms of perhaps the best and the worst markets.

I know it's still early on, but kind of high level, perhaps a discussion on what it would actually take to breakeven.

I know you gave certain sales expectations, perhaps some franchisee thoughts, just kind of get a feel for how the program's going, perhaps the pace of growth over the next 12 months.

Thanks.

Yes, Jeff, again, it's gotten more press than it deserves, to tell you the truth.

We're in 1600 restaurants on the specialty coffee side.

That is only one piece of the combined beverage business, is why we call it that.

There's sweet iced tea, there's the iced coffee, there's smoothies, there are frappes, there's bottled drinks, you know, and some other pieces to that that make us a destination for beverages and that's really what we're after.

And then within that is a complete change to our drive-through booth and operations so that we can deliver our current menu better, which has grown a lot, and this beverage menu and in a labor-efficient way.

So that's really the whole piece and as far as the specialty coffee items, you know, right now we're tracking ahead of what we projected in the test markets that we're in.

Specialty coffees, the hot specialty coffees are seasonal so in the summer you're not going to sell as much as you do in the winter.

So if you had our sales now and you see what we're selling in sweet tea and iced coffee and the cold beverages, of course, that's part of what's driving our business and that's the balance that we're looking for as we go forward.

So, you know, we're very excited about this whole piece as a combination to everything else we do, but coffee's only one piece of that and specialty coffee's only one piece of the coffee equation.

Okay.

Thank you.

The next question is from John Glass at Morgan Stanley.

I heard a couple of times your advantage of the size of your supply chain in keeping costs lower than peers.

Can you give some specific examples of that?

Are you just pushing more of your costs back to your suppliers, or are you able to source globally, for example, for the US?

What is it other than just scale that makes your supply chain different maybe than your peers?

John, I can -- I'll give you a little perspective, for example, from last year.

The basket of goods that we buy for our restaurants, the Producer Price Index where that basket was up 8.5% and we experienced back door increases of less than 4% to our restaurants.

And so how does this supply chain accomplish that?

Well, it's a variety of things.

It's working with suppliers to strategically hedge certain items.

It's locking into some fixed cost contracts that can help preserve the costs.

It's working with suppliers to maybe rationalize and consolidate facilities.

It's looking at opportunities to purchase in different parts of the world where we maybe before were just purchasing something locally.

So it's a variety.

It's, a lot of these suppliers have been suppliers to McDonald's for several years and leveraging those relationships in these various ways is a very effective way and is a primary way that our supply chain accomplishes this.

Thank you.

The next question is from Larry Miller at RBC.

Yes, hi.

If I could just follow-up on that question and then ask a question.

What I'm particularly interested in is how you guys buy beef and chicken, and if you can remind me how you do that.

And is there any kind of step functionality with corn because corn seems to be rolling over a little bit.

And the second part of that question is that, you had given us guidance on what it would take in terms of comps in the US and Europe to run flat margins.

Can you kind of update that given the increase in commodity costs?

Thanks.

You know, Larry, I'll answer the comp piece first and then maybe Ralph will give you some more texture on how we buy beef around the world.

But, you know, we used to say 2 to 3% was about the comp that we needed to hold margins, or grow margins, and that was in a normal commodity environment, which obviously we're not in.

And so, you know, we're probably double that amount now in terms of our need to grow comps.

But, you know, we're confident that with our ability to go to the menu board and the price elasticity we have and our supply chain that's working on controlling those costs, that we'll continue to look at this and balance the equation as best we can.

Yes, Larry, on the beef and chicken, you know, we do do it differently in different places, but those are both commodities that we more and more have become vertically integrated with suppliers that take it from basically from farm to final processing.

We also aggregate our commodity cost buys from different countries, and then our processing suppliers take advantage of that combined buy that we did for the system as a whole.

You know, these are our two most important proteins that we buy and we have really gone to consolidating processing plants, consolidating, you know, all the way back in the food chain and we believe that's a significant strength for our system.

Thanks.

The next question is from Jason West from Deutsche Bank.

Yes.

Thanks.

I believe you touched on it a bit, Ralph, just on the value menu outlook for the US I got to think that with the price increases going on across the restaurant landscape that the value menu's got to be more and more attractive and I would imagine you're seeing some mix down to that.

Just wondering what your thoughts are there, I mean how close you guys may be to changing the pricing on that and if you see that as a major pressure point as you move forward here?

Yes, Jason, you know, for sure the surprising piece is we have not had, the value menu has not, the percentage of sales has not grown significantly, but the cost implications of having that value menu have when you see what's going on with beef and chicken.

And so we've been out there testing.

There's more elasticity, you know.

The way dollar menu looks today won't be the way it's going to look next year and in this current environment, we've got to make sure we're pricing smart, not just pricing low.

But we've got numerous tests out there with franchisees.

We've got consumer research and we'll make the move at some point when we know how to make that move in a way that continues to drive traffic, you know, and during these times, the continuing to grow traffic is the most important piece and so that's what we're focused on.

But you'll see some -- there'll be some type of change in what that looks like and our US team is hard at work on that.

You know, we have a lot of experience with this around the world because we have more, other places that are much more inflationary and so we've got a pretty good understanding on how to move from our experiences in Asia, Europe and Latin America.

Thank you.

Next question is from John Ivankoe, JPMorgan.

Hi.

Thanks.

Most of my questions have been asked and answered, but did have a question on bridge specifically and (Europe) bridge operating platform.

Just an update in terms of where that is in the rollout that's nearing completion and, you know, just in terms of company stores, I mean if there's any margin benefit that might be possible from that system as we move in '08 and '09.

Ralph?

Hi, John.

The bridge operating platform is the kitchen platform that we're doing in Europe, we're 70, 75% completed and the major countries will be done by mid '09.

Some of them, some of the countries are almost completely done.

The biggest benefit to the bridge operating platform is not labor efficiency, but it's the ability to handle more menu complexity.

And so the chicken strategies that we've been so successful with, along with some of the beef products that we're working, if you go to Europe now, in some cases, we can only do those promotional because we can't sustain that complex a menu in our old kitchen.

And so that's the biggest benefit that we get, are the operational improvements and the flexibility to continue to have a more diverse menu.

Thank you.

The next question is from Tom Fort from Telsey Advisory Group.

Hi.

Thank you.

Can you talk a little bit about the pricing environment as far as the competition goes?

I know for example in the QSR space, someone rolled out a lower price point value menu.

In addition, I feel like there's a lot more promotions going on that involve free product.

So can you talk a little about the competition there and how that may or may not affect your efforts?

Yes, you know, we look at having balance of attractive pricing throughout the menu.

You know, if you look, we do limited one-time discounts and have been for the last six years and that's why we believe so strongly in one of our drivers being a branded affordability, everyday predictable low prices is a key.

You know, others are jumping in and out of discounts and we prefer to have something that our regular customers get to experience every day and it's working, and it's working and we see it in our trend lines and in our guest count growth.

Thank you.

The next question is from Matt Difrisco from Oppenheimer.

Can you guys hear me?

Yes.

Okay.

My question's with respect to the US comp.

I'm a little confused.

I think you said earlier in the call that 75% of the same store sales gain was traffic-driven, yet pricing is around 4%.

So I guess there must be a negative mix shift going on in there but you're not seeing a significant move in percent of sales towards the value meal, or towards the dollar meal?

Yes, there's a few factors that work in there, Matt.

One is, our breakfast business is growing faster than our rest of day and breakfast is a lower average check than rest of day.

Second is, our growth in beverages, which has been a big focus for us, is also a lower average check because in some cases, those beverages don't come with a full meal depending on what time of day it is.

And so that also gives a little depression.

And lastly, you know, in general, even with our full-price menu items that we've been advertising, we have not been focused on our most expensive items during these economic times.

So all those items create a little bit of a shift down even if it isn't a significant move up on dollar menu, and we think that's been healthy.

We've taken the price increases, as we mentioned, in that 4% range, and that helps the margins, but not necessarily do we want our average check go up by that during these times.

And, Matt, just to clarify one point, Ralph talked about the 75% coming from traffic, that was the quarter.

For the year-to-date it's about 60% of the comp was driven by traffic.

So 60% year-to-date is more in line with the 4% price increase.

Thank you.

The next question is from Rachael Rothman at Merrill.

Hi.

Can you guys talk a little bit about the structural changes that you're making to the drive-through and how that will help you improve your speed of service or, as you said, run the restaurant more efficiently?

Maybe are there opportunities for you to do more extended hours, or what specifically are the changes to the drive-through and how will they impact your business?

Thanks.

Sure, Rachel.

As our drive-through business has grown over the years, it really is one of the places we have not done a lot of change in the actual drive-through booth.

So our changes are about making the booth almost self-sustaining to be able to deliver the products that are there.

Today, in many cases, you got to walk 10, 15 steps to go get a different type of drink, you know, a salad, because we don't have refrigeration right there, we have it on the front counter.

You know, all those items, and then as you add these new beverages, the only space we would normally have would have been to put those behind the front counter and, again, it's not efficient for drive-through.

So what we do is we take the drive-through, we call it, we optimize it.

We put in drink systems on the carbonated side that make drinks automatically right off the register when it's rung up and then for the rest of the items, literally somebody only has to move a step or two to make every beverage we have or to pick up a sandwich or to pick up french fries.

And so it's that efficiency that will give us both productivity and order accuracy improvements as we go forward.

So that's the piece we're doing.

As far as to be open extended hours, et cetera, it's not a benefit that way other than, you know, productivity-wise.

Again, we end up being much more efficient with a much more tighter space to work in.

Thank you.

The next question is from Mitch Speiser from Buckingham.

Thanks very much.

First, on commodities, couple -- the last quarter and previous to that, you did mention cheese.

Can you give us an update on your cheese cost outlook?

Sure, Mitch.

In the US for the year, we think cheese is going to be up about 21% and in Europe, we think about 25%.

Thanks.

The next question is from Keith Siegner from Credit Suisse.

Hi.

This is actually Karen [Holthaus] on the call for Keith.

Looking at the southern-style chicken, it seemed that there was a pretty significant marketing push behind that in May and we were just curious how sales have trended since that marketing has tapered off?

Ralph?

Yes, Karen.

You know, we did, again, this was a product rollout that was both for breakfast and lunch and so it got even more of a significant push, especially the breakfast side of the equation, where chicken and breakfast is something that was not as common in two-thirds of the country.

And so the performance of both sandwiches have exceeded our expectations and our sales trends are strong.

Thanks.

The next question is from Paul Westra at Cowen.

Good afternoon.

Most questions asked and answered, but if I can, Pete, if you can clarify your comments on the PPI inflation rate of some of the products and what your spread is for your back of the house actual costs.

My question is your guidance for beef about 8 to 9 or so here, is that the commodity costs or is that your back of the house expectation?

And then relatedly, given the double-digit spike we expect here, I guess you're implying in the second half, is that going -- is it safe to assume that's going to lead you to take probably more pricing than you would have normally?

Paul, just to clarify, that 8 to 9 I was talking about is our expectation of our back door costs right now, but, again, this is a volatile market and hopefully that won't all come true, but that's what we see right now.

And as Ralph mentioned, you know, this is a component of everybody's grocery bills going up and in that environment, there's probably a little more price elasticity, but at the end of the day, beef is 15% of our product mix.

So while it's at issue and it's something that we'll watch after, it's not -- there's a whole other part of the business that's not impacted by that, our breakfast business, our chicken business, et cetera.

Thank you.

The next question is from Jeff Omohundro at Wachovia.

Thanks.

Just wondered if you could give un update on the China development outlook and in particular, perhaps, an update on Sino [pack] and how they're contributing.

Thanks.

Sure, Jeff.

Our China development's going well.

As we had said earlier in the year, that we would open 125 restaurants this year, we will hit that number, probably exceed it.

The first half of the year, we have much more balanced number of openings coming across.

We opened 18 restaurants in June, as an example.

And so, you know, that -- it's contributing well.

Sino [pack] continues to be a piece of our development, but it's not a significant piece of all those openings that we're doing because those deals take longer to work out, you know, both companies having to develop the site and getting the drive-through permits and so forth.

Thank you.

The next question is from Howard Penney at Research Edge.

Thanks very much.

It wasn't too long ago that expectations from McDonald's senior management was for 2 to 3% comp growth and, Pete, you allude to earlier that you needed 5 to maintain margins.

Is that a number that you can maintain, that 5% comp growth?

And then secondly, just on the discounting in coupons, there was a fairly healthy drop of coupons, I think you called it a Crave and Save here in the Northeast, where you're giving two for one -- buy one get one free Big Mac and a few other products.

Was that a national thing or was that just local here in the north?

Thanks.

Howard, the coupons are definitely a local thing.

So as you know, 60% or so of our advertising in the US is done in our local advertising co-ops and they use various techniques to respond to local competitive and economic situations.

So, and really because we're 85% franchised in the US, a lot of those co-ops, decisions are made bit franchisees.

Regarding comps, you know, we have given our long-term outlook as to grow sales 3 to 5% with half of that being from comps and, again, that's a long-term look over time.

That doesn't contemplate the commodity environment and the inflationary environments that we're finding ourselves in in certain of these markets.

So to the extent that, and we still think that's the right model for us to look at and the right targets to be looking at, but certainly in times when all costs are going up significantly, you know, I think our expectations will increase as the costs are increasing significantly.

So it's really not '08 guidance, it's not a specific year's guidance, but it's just a longer-term look at how we think about the business.

Thank you.

The next question's from David Palmer at UBS.

Thanks.

Some other global consumer companies have seen some slowing in consumption in places like Eastern Europe, and one would expect to see in places like the U.K.

and Germany some changes in consumer patterns.

Are you seeing anything that has you standing more vigilant these days in markets like this, any change in buying patterns?

And to the degree that you are maintaining traffic growth, what do you think is working for you these days?

Thanks.

Yes, David, we have not seen a slowdown, but a very vigilantly look and (inaudible) because economic conditions effect business.

Our business is strong in the U.K.

and Eastern Europe, and I believe it's a combination of the fact that we have put in strong, predictable, branded affordability and we have good mix of promotions across different price ranges.

Plus in those different marketplaces, we significantly improve the quality of our restaurants and our operations, and that's given our brand -- if you look at our brand scores in the U.K., they've gone up significantly and that's definitely changed the trajectory of our sales trend line.

Thanks.

Another question from Larry Miller at RBC.

Yes, Ralph, can you talk about how the franchisees might feel, you know, they're clearly getting pinched from some of the same cost issues that everyone and that you're talking about on this call.

How do they feel about getting behind some of these larger program to drive sales over the next year to two years?

What are they telling you?

Well, you know, they're concerned and rightly so.

We're seeing commodity cost increases at, you know, we haven't seen in a lot of years.

So the balance of being able to take price increases on a more regular basis, but still below what's happening out there and doing that well is something that, luckily, we've gotten pretty good at over the last two or three years.

From a promotional point of view, you know, we've got to be much more careful on balancing driving traffic while maintaining margins.

And that's the work that we're doing with the franchisees and then eventually still having a very strong branded affordability menu, but what sits on that menu will look different than now because it has to be profitability.

I would -- the number one metric we look at for health of the system is individual restaurant guest count growth and profitability, because as a franchisor with 80% of your restaurants franchised, those two things have to be growing for the brand to be doing well and for your franchisees to continue to invest.

Thanks.

Question from Tom Fort from Telsey.

Yes, hi.

Thanks for taking my second question.

You said before that the challenging economic environment in the US, that in past times this meant perhaps a drag of comps of 100 to 200 basis points.

I wanted to know if there was anything different about the current weakness that would suggest that maybe the drag is higher than 200 basis points.

On what, Tom?

I'm sorry, drag on our comp sales?

I think what he's talking about is what we said in, I think it was the year-end call.

Maybe we said we thought the economy might hurt us by 1 to 2 points.

Right.

No, let me answer that.

I think what's different in these for now and the current situation is unemployment is still not a big number and that's one of the most important things for the economy.

So people are employed, yes.

There's other issues of inflationary pressures and some of the other items that are effecting disposable income, but in general, we're pretty close to full employment and because we are such a strong price value combined with, you know, for us dealing with the gas price piece, the fact that we're very close to our customers with our distribution, we're not seeing the impact that we would have seen in previous years during times, I guess, when you would have had a higher unemployment and maybe not the ability to pass on cost increases.

Thank you.

Another question from Jason West at Deutsche.

Yes, thanks.

Just want to follow-up again on the beef question.

You know, just given the magnitude of the change in the outlook there, how fluid is that number given that corn's come back a lot.

I think some of the spot beef pricing has come down a bit.

Could that number come back down pretty significantly over the next few months, or is that now more of a locked-in number for the rest of the year?

That's, Jason, that is not a locked-in number for the rest of the year.

You know, we constantly get updates on these costs and they move as the markets move in some of these cases.

So like I said, I'm hopeful maybe they'll come back but the reality is sitting here today, this is our best look at what we think for the rest of the year.

Okay.

We have one last question, another repeat from Mitch Speiser.

Great.

Hello?

Yes, go ahead, Mitch.

Yes, just yet another question on food costs.

Any thoughts about the '09 cost outlook?

Several, or a few restaurant companies out there have said, you know, expect more of the same in '09.

Are you seeing the same thing?

And if I could just slip in a second question.

With that 4% pricing in the US, is that just the company-owned stores, any comments on what maybe generally franchisee pricing is?

Is it above that level or below?

Thank you.

In terms of '09 costs, Mitch, you know, we aren't ready to predict what's going to happen to pricing in '09.

Things are pretty volatile, but I would say that I think after going through a long period of relatively stable food costs, that our expectation is that this higher level of commodity and food costs is probably with us for the foreseeable future.

A good part of this is being driven by global supply and demand that'll take a little while to settle out.

I know there is some, you know, there are some financial speculators that are in some of these markets, but a good part of this is the overall global supply and demand that'll probably be with us for a little bit.

Pricing, the number we quote is system, both company and franchise and our price increases between the two of us are pretty comparable actually.

Okay.

Thanks.

We are out of questions and about out of time.

So I'll go ahead and turn it over to Ralph for a few closing comments.

Okay.

Thanks again for joining us this afternoon.

As we said, we're pleased with our strong performance for the second quarter and remain optimistic about our ability to deliver results for the remainder of 2008 and beyond.

Thank you, and have a great day.

Thanks a lot.

Bye.