The death of the American middle class and rising costs have forced fast-food chains like McDonald’s and Taco Bell to try new strategies in their quest to win over budget shoppers (MCD, YUM)

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America is seeing an economic "bifurcation," with many people being left behind even as the economy thrives, according to Greg Creed, the CEO of Taco Bell, KFC, and Pizza Hut parent company Yum Brands.
As a result, chains like Taco Bell and KFC are doubling down on value to win over budget shoppers who still can’t afford to spend much on food.
Meanwhile, rising costs are forcing chains such as McDonald’s to ditch massive discounts and raise prices.
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Even as the American economy seems to be thriving, many people are still struggling to make ends meet.

This state of affairs creates an opportunity for fast-food chains — known for selling the cheapest meals around — but also sparks problems as chains battle rising costs.

"Obviously the US economy is in pretty good shape," Greg Creed, CEO of Taco Bell, KFC, and Pizza Hut parent company Yum Brands said in a call with investors on Wednesday.

"But, I also do think that there is some sort of bifurcation going on in the marketplace," Creed said.

"There are certainly people making a lot of money, there are certainly people for whom value will remain incredibly important."

This bifurcation has resulted in many Americans being stuck without any money to spare. In late 2018, Moody’s said in a report that "income gains have been unevenly distributed," meaning that rising interest and other costs will prevent many households from spending more.

In the case of Yum Brands, Creed said that the company is balancing meeting the needs of customers — including Americans who may not be benefiting from the improved economy — with franchisee economics, which requires making sure that the menu is profitable for restaurants. As noted by UBS analyst Dennis Geiger, who asked Creed about value, Yum has emphasized value as other chains have pulled back on massive discounts and deals.

Taco Bell in particular has emphasized its dollar menu, making it one of the few chains that regularly debuts new menu items at the $1 price point. KFC, meanwhile, has been testing new value strategies, with options like the 2 for $6 Mix and Match providing more options at lower price points than more expensive buckets.

Other chains, as Geiger referenced, are ditching these massive discounts.

Hollis Johnson

McDonald’s, for example, has backed away from its $1 $2 $3 menu, meant to replace its iconic Dollar Menu that was killed in 2013. Instead, the chain is emphasizing the 2 for $5 Mix and Match deal and initiatives that convince customers to pay more, like delivery and ordering via kiosk.

More generally, prices are rising in the restaurant industry as labor costs increase with higher minimum wages and a more competitive labor market. McDonald’s, Starbucks, and Chipotle all mentioned raising prices in the most recent quarter during calls with investors.

In essence, fast-food chains are caught between two magnets, drawing them in opposite directions. On one hand is profitability, as inexpensive items that draw in budget shoppers can tank profitability and spark a franchisee revolt. On the other is meeting the needs of their target customers, who tend to be lower-income Americans who have been excluded from rising economic prosperity.

The shrinking American middle class complicates these issues, as chains try simultaneously to put out higher-quality products while keeping prices dirt cheap.

Only 52% of American adults were classified as middle-income in 2016, compared to 61% in 1971, according to Pew Research Center data. Pew defines the American middle class as households earning two-thirds to twice the median household income.

And, while median US income is on the rise, growth for top earners is significantly outpacing the increase in earnings for lower-income households. In 2017, the top 5% of households saw average income rise to be 8.7% higher than pre-recession levels. Among the bottom fifth of the population, average income grew but remained 2.7% below pre-recession figures.

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Source: Business Insider – ktaylor@businessinsider.com (Kate Taylor)