Fast-food players must find their place in China's new context

More than three decades ago, in the midst of China’s economic reform, many of the household names in the fast-food industry saw the potential of the budding economy and jumped at the chance to enter the Chinese market. KFC opened its first location in 1987 in Beijing and McDonald’s and Pizza Hut followed closely behind, entering China three years later in 1990. Today, KFC has over 5,000 locations in the country, followed by McDonald’s with 2,500 and Pizza Hut’s 1,900.

But the QSR (quick-service restaurant) market in China is slowing down, with an expected CAGR of just 2% from 2018 through 2022. With changing consumer preferences and habits in China, as well as the rise of local Chinese brands, many of the first-mover brands are no longer as aspirational and are fighting hard to keep their initial cachet. In this article, we will discuss the emerging trends in China’s fast-food market, and what foreign brands need to do to stay relevant.

Initial successes: The localisation of foreign brands

For KFC, McDonald’s or Pizza Hut, the direct ‘copy and paste’ from the US has hardly been the strategy. Instead, localisation has been an essential part of the growth story. Of all the global brands, KFC remains the most notable success story in China—the country houses the most KFC locations worldwide and accounts for 27% of global KFC sales.

Part of the reason why KFC has enjoyed so much success in China is due to its 'Go global, act local' expansion strategy, which mainly focused on tweaking its menu items to become compatible with the Chinese diet and appeal to local tastes. While fried chicken is still a staple, offerings like rice porridge, milk tea, soybean milk, “sushirritos” and egg tarts add a Chinese flair to the menu. Other chains like McDonald’s and Pizza Hut have similarly adapted their menus with localized flavor and offerings.

Not only do menus need to be localized, but foreign brands also need to rethink their retail experience in China. For many, fast-food restaurants are the “third place”—an environment where consumers can relax, be comfortable and socialize with others. Therefore, Haagen Dazs Ice Cream, for many years, primarily operated its own parlors in China to drive and meet the consumer desire to express and experience status and sophistication. Similarly, Starbucks’ average store is 40% larger than the average format in the US, with the goal of becoming the favorite destination of new generation of upscale professionals.

While this localization strategy has initially worked out pretty well for these brands, it is no longer enough to keep them competitive.

The new China context

The same trends that are shaping and sparking new growth of many categories in China can also be observed in the fast food category: premiumization, personalization, hyper-convenience and the prevalence of mobile-first and online-to-offline (O2O) total experience. The combination of these factors is increasingly crowding out the QSR market and making it harder for household names to stay relevant.

Changing Consumer Preferences and Habits

With the increased sophistication of the Chinese middle class, consumers are expecting more exploration and diversity in their food choices. They are also looking more ‘craft’ to their dining experience and are demanding more authentic and fresh cuisine, even in the context of fast food.

Taco Bell, which re-entered China in 2017, is a good example of this. In addition to introducing staple Mexican food items such as burritos, quesadillas, nachos and tacos to the mainstream, the chain is also pushing for a healthy and fresh positioning. Most of the menu combos come with salads and juices, and customers can also see their food being prepared by employees behind a window near the checkout counter. Taco Bell’s prices are also more in line with casual restaurant dining rather than quick-service restaurants, reflecting the consumer’s desire for higher-quality fast food. Yum China, the exclusive franchisor of Taco Bell as well as KFC and Pizza Hut, plans to open 1,000 Taco Bell locations across the country by 2022.

In addition, millennials and Gen Zs in China now seek “Instagrammable” moments and actively search for food and restaurants that are aesthetically pleasing. They also place more emphasis on the exploration and discovery of new taste and concepts and desire exclusive brand experiences of what is hot and trendy in not just China, but San Francisco, New York, Seoul, Berlin or Paris. This presents a huge opportunity for niche brands to enter the more premium side of the QSR market. For example, Shake Shack brings the US east-coast burger experience to China, but maintains a higher price point and provides a unique store design that elevates the restaurant environment. With the right balance of exclusivity and novelty, brands can capitalize on the social currency they provide to consumers.

The rise of local brands

When China first opened its economy to the world, many western brands were perceived to be more trustworthy compared to their Chinese counterparts. Novelty aside, foreign brands became a kind of exclusive experience. Largely limited to affluent, middle-class citizens who resided in Tier 1 cities at the time, foreign brands became a status symbol. While parts of this sentiment still remain in the public consciousness, homegrown brands are growing in their reputation and credibility.

For the first time ever, the majority of the top 50 most relevant brands in all categories were Chinese in Prophet’s latest Brand Relevance Index 2018. This is not only a reflection of Chinese consumers’ increasing preference for Chinese brands, but also the result of many Chinese brands being increasingly better at delivering on the four fundamental dimensions of brand relevance, which we call customer obsessed, distinctively inspired, ruthlessly pragmatic, and pervasively innovative.

With food delivery apps like Eleme and Meituan Waimai, Chinese consumers are expecting their dining experiences to merge seamlessly from O2O. From payments to menu selection, in-store ordering and pickup, home delivery to loyalty programs and coupons, consumers expect to exert minimal effort while reaping maximum gains on their dining experiences. Luckin Coffee is a perfect example of an agile, trendy and millennial-focused local Chinese brand. Orders are placed only via its app, and consumers either pick up their coffee at one of the many Luckin Coffee locations, or have their orders delivered by the premium courier company SF Express. Frequent promotions and coupons are also sent directly to consumers' Luckin accounts. The brand not only masters the O2O offering, but also directly addresses the major weak points of foreign coffee retail chains like Starbucks: high prices and inconvenience.

Final thoughts

The big players in fast food can no longer rely on the novelty factor. To stay competitive in the ever-evolving Chinese market requires more than just localizing menus. This is especially true when homegrown brands in China are ahead of the curve when it comes to offering a better digital, O2O experience to their customers.

To succeed as a local player or international brand entering or at play in China, use data and the power of observation to know and adapt to fast-changing consumers’ taste and expectations. Create and enable total experiences that go beyond product and retail—integrating O2O to deliver personalization, hyper-convenience and self-expression. Be restless, always-on, and experimental to keep up with the China market pace.

Benoit Garbe is senior partner at Prophet in Shanghai.