Executive Summary
McDonald’s plan to extend its operations to Kenya is a good move. The company should establish the best pricing method to use as well as come up with an appropriate budget for the anticipated expansion. The report recommends McDonald’s to price its products/services below the competition in order to survive the stiff competition that is present in restaurant industry. McDonald’s sales budget is approximately $ 2000000. This figure represents a variance of 5.7% that the researcher considers immaterial considering the huge budget that is associated with the anticipated expansion. In order for McDonald’s to operate within its budget, it should opt expanding to Kenya through a merger as it is the most economical as well as effective strategy the expansion.
Importance of Cost in Pricing Strategy
McDonald’s has greatly expanded since its foundation in 1948. McDonald’s is considered as the leading chain of restaurants worldwide. McDonald’s offers fast food such as hamburgers, fries and meat pie, as well as chips. The success of the McDonald’s is linked to its strategic pricing method that has ensured that it provides its products/services at affordable prices to its targeted markets. McDonald’s brand’s mission is tailored to illustrate customers’ favorite place to eat. McDonald’s is committed to five basic features that entail people, place, promotion, products and prices. McDonald’s uses different pricing for different market segments. For example, a McDonald’s restaurant that is located in a roadside or shopping mall of an exclusive neighborhood offers its menu at a higher price than a McDonald’s restaurant that is not located in an elite area. McDonald’s segments its customers by location. This strategy of pricing is considered as a very effective method of availing the same product at different prices in various market segments. In addition, McDonald’s has developed pricing policies that are tailored for prices increases, as well as for economic downturns. McDonald’s differentiates its prices by introducing cheaper menu such as cheese burgers, chicken burgers as well as drinks that are priced at $ 1 which target low income families. As a result of the recent economic recession that has been experienced since 2008, McDonald’s was able to realize profits and particularly in 2010 from the profits generated from the sale of Dollar Menu sales (Ghosh&Sidana 2012).
Many new business ventures fail for lacking adequate knowledge about strategic pricing methods. Some important marketplace factors in considering when determining prices for new products and services include market segment, distribution costs, as well as the level of competition. In order for business owners to succeed in selling goods and services, they should stay abreast of the factors that affect prices and respond swiftly. There are usually three factors that require to be considered in pricing. Price alone is considered very insignificant if it is not derived within the context of operating costs. One essential consideration in pricing is labor cost. Labor cost is the money that is used to pay for work done. Other essential considerations include material costs as well as overhead costs. Overhead costs are the expenses, which are not classifiable as either material, or labor costs. They include expenses such as advertisements. Overhead costs are variable or fixed. Another important factor to consider when pricing is the costs of goods sold. Cost of goods sold entail the business overall, costs for producing the products a company sells or the overall costs for purchasing products for sale. Delivery as well as fright charges are inclusive (Brodsky 2000).
Appropriate Costing System
Because of the high competition present in restaurant industry, McDonald’s should consider pricing its products/services below the competition. Through this pricing strategy, McDonald’s will be at a better position to compete healthy with other international fast food restaurants such as KFC. This pricing strategy will entail setting the prices for its products and services at a price below that of substitute products from its competitors. In order for business to be in a position to price their products/services below the competition, they should be in a position to save their costs per unit. One method McDonald’s can be able to adopt this pricing strategy is by keeping its operating costs down. This is because pricing below the competition reflect small profit margins. However, because of economies of scale companies are able to generate reasonable profits.
In order for McDonald’s to enjoy good profits, it should put a tight regulation on its inventory. For instance, although excess finished goods inventory offers cushion in an occasion of an unexpected demand, it is important to note that considerable costs accompany the goods. In addition, accounting management notes that excessive finished goods inventory is associated with high defects that can lower anticipated profits. Thus, McDonald’s should avoid excess inventory. In addition, it should maintain its rental as well as labor expenses down. Moreover, McDonald’s should borrow from its strategy it uses in other countries such as India of ensuring that most of its stock (over 90%) comes from within Kenya to be competitive. In addition, it should also adopt its long-term strategies of establishing long-term vendor suppliers, bulk buying, as well as ensuring efficiency in the manufacturing to enable it offer its products at a reduced price (Bhushan 2012). Apart from using its past strategies, McDonald’s should consider looking for economical suppliers to supply it with foodstuffs (Ghosh&Sidana2012).
Improvements to Existing Costing and Pricing Systems
McDonald’s should in addition, review its pricing model according. Whereas it is important for it to price its products and services below the competition, it should consider adjusting its prices above the competitions in instances of economic booming in order to enable it to enhance its profit realization to facilitate its subsequent expansions as well as enhance the shareholders wealth (Lucey2002). For instance, McDonald’s is famous in cutting down on its prices to enhance the sale of its products. For instance, recently McDonald’s cut down the costs of more than half of its menu in New Delhi to increase its sales. McDonald’s opted to cut down its prices when it realized that people were withholding spending because of unfavorable financial conditions. Thus, should use the same strategy in Kenya to lure customers to buy its products during economic downturn. Likewise, it should consider increasing its prices during the booming period to offset the low profits realized during economic crisis.
Forecasting Techniques to Make Cost and Revenue Decisions
Organizations that are able to succeed in their missions are those that are able in accurately project their future performances in order to lay appropriate foundations in advance. McDonald’s can opt to use either qualitative or quantitative techniques to forecast its future price changes accordingly. The use of qualitative methods entails gathering data from primary as well as secondary sources and attempting to predict the demand level in the future. Qualitative method of forecasting is mainly used to generate future prices of commodities and services through the use of creativity methods. This strategy is mainly employed by few people who are expertise and highly knowledgeable about the demand trends. The quantitative method is another strategy that is highly employed to project future prices of goods and services.
Quantitative methods are well known for analyzing future developments of numerical data. Econometrics as well as quantitative techniques explicitly employs simple models to generate future prices of goods and services by inputting the current and pasts demand in services and products. Trend projection method is a very effective quantitative method that can be used to project future prices of goods and services for McDonald’s. The method entails determining the trend depending on past consumption and project future consumption by extrapolating this trend. For example, the future price of a commodity can be gotten from the relationship Yt= a+ b t where Ytrepresents demand for year t, a and b represents constants. The use of quantitative method to forecast future prices for McDonald’s products and services is better than qualitative methods. This is because quantitative methods enable the manipulation of data in consistent and reproductive ways. This makes it more possible to compare data as well as study rates of changes than when qualitative methods such as data mapping are used (Lucey 2002).
Sources of Funds Available
McDonald’s aspires to extend its operations to Kenya. The decision to expand to Kenya lies in its expansion strategy meant to tap into the Kenya booming market. There are various methods that McDonald’s can use to source for the capital required for the expansion. McDonald’s can opt to use the money it generates from its sales to finance the expansion strategy instead of sharing it as dividends among its shareholders. This source of fund is very economical because there no interest attached. However, taking into consideration it is the period that the world economy is regaining from the aftermath of the recent economic downturn; there is a high probability that McDonald’s restaurants are not generating considerable revenue that it is enough to put into place a significant investment to attract the potential Kenya market (Ronald 2008). However, this process of raising capital has a shortcoming. For example, this process is associated with under capitalization where what a company owns is much less than what it has borrowed. On the other hand, a company may experience an over capitalization where shareholders raise more capital such that that its actual performance does not give a fair return on the amount of share capital. Another, alternative that McDonald’s can opt to consider in order funding its project is approaching financial institution and seeking for a loan. This method will be appropriate, as it will enable the company to get enough funds to finance the project. McDonald’s venture into Kenya is approximately equivalent to an asset of $ 23,000,000 and a liability and equity of the same amount.
However, this strategy has also some shortcomings. One of the shortcomings associated with borrowing money from a financial institution is the high interests that accompany the loan. Apart from paying the principle that the company will be awarded to finance the project, McDonald’s will be required to pay an extra on top as interest. However, the greatest challenge that is associated with borrowing funds from financial institutions is that if McDonald’s fails to raise the amount of money borrowed as agreed, the financial institution may sell the assets that McDonald’s have given as collateral in order to recover its money. In order for McDonald’s to be able to raise the money required to finance its project, it can also consider a merger or an acquisition. These processes will require McDonald’s to partnership with other traders that are doing similar businesses in order to raise the required capital required to carry out the expansion. Similarly, McDonald’s can opt to sell some of its shares in order to raise the required money for expansion. Selling of the shares as well as the use of mergers are the best options that McDonald’s should consider using to raise the amount of money required for it to extend its operations to Kenya. These processes are appropriate because they do not have additional costs that are associated with them. The McDonald’s venture in Kenya requires $ 100,000. The following is the financial statements, cash flow and income statements for the proposed venture.
Balance Sheet.
Income Statement.
Cash Flow Statement.
Forecasting Techniques to Select Appropriate Budgetary Targets
McDonald’s will require a mastery budget for the expansion project. A mastery budget is considered as summary of an organization plans that set sales target, production, distribution as well as financing activities. It consists of budget income statement, cash budget and budget balance sheet. It usually encompasses future management plans as well as how these plans are to be realized. The budget selected for McDonald’s is important, as it will indicate where McDonald’s aspires to be as well as what it requires to do in order to be there. The mastery budget will also be important as it will allow McDonald’s to genuinely project future cash flows that will enable it to get certain types of financing (Davidson 2009).
Creation of a Master Budget.
Calculating Budget Variances
The Variance = (Sales Budget –actual budget)/ Actual budget.
The variance = ($100,000- 97,000)/ 97,000 X 100 = 3.1%
McDonald’s has a sales budget of $100,000; however, its actual expenditure is 97,000. Considering the huge capitals that accompany the expansion strategy, an overrun of 3.1% is not considered as material for McDonald’s. The 3.1% overrun may have been caused by less administrative costs that were associated with the expansion since expansion through merger will result in the company recording increased performance and efficiency in human capita in its new venture as the employees of the existing company are conversant with the environment (Saren& Brownlie1983).
Variance for law Material = The Variance = (Raw material Budget –actual budget)/ Actual budget = 80,000-78,000/78,000=2.6%
Variance for labor= (Labor Budget –actual budget)/ Actual budget=15,000-14,500/14500=3.4%
Limitations of Budget Variances
Multinational corporations that are vulnerable to unpredictable events use flexible budgeting to mitigate the effects. This is because flexible budgeting has an overrun, which is readily available for swiftly mitigating the market demand. However, static budgeting does not respond to changing business conditions and is mainly appropriate for businesses that are not greatly affected unpredictable events. McDonald’s operates with a flexible budgeting because of the various unpredictable factors that affect its operations. The presence a budget variance is essential in helping the restaurant respond to the market demand swiftly. Organizations including McDonald’s have essential instruments for appraisal purposes. The assessment of the budget is important to ensure that the companies run within their budgets. In addition, the budget performance appraisal encourages creativity, which results to development of better means of achieving objectives. This is possible through adoption of more efficient personnel or technologies. McDonald’s personnel monitor the budget variance to determine the realistic of its budgets. The major potential competitors such as Safari park hotel and Hilton hotel who offer similar services have higher overheads. For instance, a venture of the same magnitude should cost them a high capital than the anticipated budget. This is because of the high costs that are associated with their raw materials, manufacturing process and wages.
Conclusion
In conclusion, the decision for McDonald’s to extend its operation to Kenya is superb. However, the company should require coming up with an appropriate strategy it will use to price its products. The researcher recommends the company to adopt the pricing strategy that entail pricing its products/services below the competition in order to enable it to compete healthy with other international and local brands. McDonald’s venture into Kenyan market is likely to perform very well owing to its strategic pricing, process, as well as its great experience in fast food industry that has enabled it establish very effective competing strategies of looking for cheaper supplies and use of efficient manufacturing processes that help the industry to offer its products at a discounted prices. McDonald’s great experience and competent strategies will enable it propagate the Kenya market and displace the leading players such as Hilton hotel and Safari park.
References
Bhushan, R 2012, McDonald’s to drop prices by 6-15% as sales growth plummets, Web.
Brodsky, N 2000, Street Smarts: Raising Prices, Prentice Hall, New York.
Davidson, I 2009, Budgetary Control in Modern Organization: The role and impact of management style, corporate culture and management policies, Prentice Hall, New York.
Ghosh, R &Sidana, D 2012, McDonald’s Customer Acquisition and Retention, Web.
Lucey, T 2002, Costing, Prentice Hall, New York.
Ronald H 2008, Managerial Accounting, McGraw-Hill-Irwin.
Saren, M &Brownlie, D 1983,A review of technology forecasting techniques and their application. Cambridge University Press, Cambridge.