Should You Be Worried about McDonald's Closings in Japan?

Should You Be Worried about McDonald's Closings in Japan?

McDonald's of Japan is going on a bit of a diet and trimming some fat. In an announcement on Dec. 19, McDonald's Holdings Co. Japan stated that it is closing 74 of its restaurants in the island country. These types of announcements are rarely signs of impending good news, and this announcement may have a material negative effect on the overall performance of its mother chain. How does its international operations in the Asia region compare to those of peers like Yum! Brands ?

The announcement
McDonald's Japan sliced its own full-year profit forecast by more than half. Japan may not seem like a big country geographically, but it's the second-largest market for McDonald's with 3,170 restaurants. The 74 closings only represent 2.3% of the Japan locations, but that means there are 3,096 more to worry about.

McDonald's Japan stated that the closings come after five straight months of falling sales through November, "well below the company's expectations," according to the company. It doesn't sound like December is faring any better.

Clues from the parent company
Back on the July conference call, things didn't seem so bad. CEO Don Thompson pointed out that Japan same-store sales were positive for May and June though he did caution that consumers there were "extremely price sensitive." Still, he seemed optimistic when he stated, "We continue to grow share by leveraging limited time offerings like the Chicken Teritama and sharing options such as the Mega Potato to keep customers coming back to our restaurants and to build our average check." Apparently something went very wrong since then.

McDonald's monthly same-store sales reports began blaming Japan for driving down the Asia region in August. In October, the company stated that this was due to the "ongoing challenging environment." October and November same-store sales for Asia got crushed 2.8% and 2.3% respectively, and again the company blamed this on Japan each time.

In the conference calls beginning in September, more clues of trouble began to emerge. COO Tim Fenton mentioned the relaunch of the quarter pounder and a "strong push on breakfast." It didn't work. He explained, "Well folks aren't going to breakfast in markets from China, to Japan to the UK and Germany where breakfast as a percentage of total sales historically has been well below the U.S. breakfast business which represents about 25% of total sales."

In McDonald's most recent conference call, Thompson warned:

Japan's negative comparable sales and traffic trends persist. We're committed to making improvements to our value platform in the near term in an effort to appeal to consumers who remain extremely price sensitive in this deflationary environment. At the same time, we're introducing new products and promotions to create excitement and attract customers into our restaurants.

It doesn't look like the new products and promotions are working either. Later in the same call, Thompson mentioned "some leadership changes in Japan." He didn't go into details, but this suggests that the problems in Japan may involve more than just the economy.

KFC and Pizza Hut in Japan
It's not to say things are easy for other restaurants in Japan either. Yum! Brands reported that Yum! Brands International grew by 1% last quarter, but this was below what the company expected. CFO Pat Grismer blamed this in part on Japan by stating, "This was softer than we would have liked, as continued weak performance in Japan." In the third quarter, Yum! Brands saw an 8% decline in same-store sales for Japan compared to a 5% decline in the second quarter.

Foolish final thoughts
Things are going from bad to worse in Japan for McDonald's. The environment isn't helping either, as evidenced by Yum! Brands also struggling in the country. With McDonald's having trouble posting meaningful overall growth, declines in Japan could cause the company as a whole to start posting material overall declines. While it's difficult to bet against McDonald's and its multiple decades of success, Fools looking to make long-term investments in McDonald's may want to stay on the sidelines and wait for a better entry.

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Nickey Friedman has no position in any stocks mentioned. The Motley Fool recommends McDonald's. The Motley Fool owns shares of McDonald's. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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Originally published