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Value Ideas Contest: The World of McDonald’s (MCD)

Company Profile:

The McDonald’s Corporation (MCD) is the world’s greatest fast food operator and franchisor with 32,805 restaurants in 117 countries word wide as of March 31, 2011. These restaurants serve a varied, limited, value-priced menu that includes hamburgers and cheeseburgers, Big Mac, Quarter Pounder with Cheese, Filet-O-Fish, several chicken sandwiches, Chicken McNuggets, Chicken Selects, Snack Wraps, french fries, salads, shakes, McFlurry desserts, sundaes, soft serve cones, pies and cookies. The company owns the land and building or secures long-term leases for both company-operated and conventional franchised restaurant sites. 1.7 million employees serve 60 million daily customers.

As of the end of first quarter 2011, 26,398 restaurants were licensed to franchisees, 3,529 licensed to developmental licensees, 3,563 licensed to foreign affiliates and 6,407 restaurants were operated by the company. Conventional franchisees contribute to the company's revenue stream through the payment of rent and royalties based upon a percent of sales and typically last 20 years.

In total, MCD accounted properties, plants and equipments in an amount of USD $22.6 billion as of first quarter 2011. This represents 70 percent of the company’s balance sheet. The strength of the alignment among the company, its franchisees and suppliers (collectively referred to as the system) has been the key to McDonald's success. McDonald’s has an estimated market share in franchised restaurants around the world of roughly 80 percent.

Business Diversification:

McDonald’s Company is a one brand store company with operations in 117 countries. The brand, which has an estimated value of USD $80 billion (accordance to BrandZ), is internationally well established. Roughly 69 percent of the sales and 57 percent of the operating income came from abroad as of first quarter 2011. Biggest market was Europe (40% of sales and 37% of operating income). Strongest growth over the past years came from the emerging market regions Asian Pasic Middle East and Africa (APMEA) which contributed 23 percent of sales and 19 percent of the operating margin.





Management:

Jim Skinner — vice chairman and chief executive officer became CEO in 2004 and joined the company in 1992. He was one of the three architects of McDonald’s worldwide revitalization plan launched in 2003 that turned the company around and re-focused it on customer strategies, business disciplines and close global alignment.

Don Thompson — president and chief operating officer. He joined the company in 1990 as an electrical engineer.

McDonald’s has 14 additional executives. The bios could be read here: http://www.aboutmcdonalds.com/mcd/our_company/bios.html

Valuation of the Company:

Dividend yield: 2.86 Percent

Payout Ratio: 49.34 Percent

Five-Year dividend growth: 36.59 percent

Market capitalization: $88.7 billion

Cash and short-term investments: $1.94 billion

Long-term debt: $10.52 billion

Cash flow from operations: 6.34 billion

CAPEX: $2.14 billion

EBITDA: $8.58 billion



MCD valuation figure price to earnings ratio decreased in total over the past decade by 14.6 percent. Other ratios like the price to cash flow ratio increased slightly (in total 9.3 percent) over the past 10 years. Significantly higher was the increase of the price to sales ratio which increased by 60 percent and the price to book ratio. This ratio went up by 72.2 percent.

Long-Term Fundamentals and Dividends:

Sales of McDonald’s increased by 61.9 percent over the past decade. EBIT tripled within the same period from USD $2.3 billion to USD $7 billion. Earnings per share increased due to share buy backs and better financial results by 266 percent.



MCD paid dividends since 1976. The company raised dividends for 34 consecutive years. The Ex-Div. date was on May 27, 2011. Payments will be received on July 15, 2011. The upcoming dividend is the third quarter dividend at the same rate (USD $0.61).



*2000-2007 Full Year Dividends




Competitors:
The list of competitors is very long. Nearly every listed restaurant (53 listed restaurant stocks) is fighting against daily meals of McDonald’s. In addition, manufacturers of processed foods and food companies in general compete against MCD’s revenues. However, I stay focused on the biggest restaurant stocks which are Starbucks (SBUX), Yum Brands (YUM), Chipotle Mexican Grill (CMG), Wendy’s Arby’s (WEN), Darden Restaurants (DRI), Tim Hortons (THI), Brinker International (EAT) and Cheesecake Factory (CAKE). Here is a fiscal and valuation overview of biggest listed competitors:



Risks and Opportunities:

One of the big opportunities of the company is the internationally growth. The company has proven it’s international acceptance and could double sales from abroad. MCD is a play for China growth. In addition, the company could grow through innovation in its menu, introduction of different drinks as well as using its dollar menu items. Since 2003 the company has focused its strategy mostly on internal growth through maximizing existing restaurant’s profitability. This could be realized by spending money on redesigning of its existing locations.

In addition, MCD has focused on its stores profitability by disposing of non-core assets. One of the big fears is the competition as well as new eating behavior — such as from fast to slow food or from fat to healthy. In the past, we have seen some changes within the eating behavior of the people. People like to eat more healthy food with low fat, more green stuff and fewer meat products.

Subway, a sandwich franchise concept with 34,828 stores in 98 countries benefited from this “eat fresh” trend. The company prepares fresh salads and light meat on different sandwich baguettes. Every customer could decide everything he likes. This is a concept that MCD did not copy. MCD decided to fight on another business market via rebuilding of McDonald’s restaurants into McDonald’s restaurants with integrated McCafés, a blow against Starbucks (SBUX).

One of the main risks related to the changing eating trends and trials of unhealthy food is the food inflation itself. Most of McDonald’s processing food increased over the past years. This leads to a pressure on the gross margin which is, at 39.95 percent, one of the best figures in the market. The company was very successful in rolling over these costs to customers and has realized additional cost savings.

On the other hand, decreasing commodity costs could boost earnings of the company.

However, MCD expects an increase in commodity costs of the 10 biggest commodities in an amount of 4-4.5 percent for the full year 2011.

Current Developments:

In the first quarter 2011 in the US segment, comparable sales were up 2.9% and driven by beverages, including the McCafé line. Sales in Europe increased 5.7 in comparable units for the first quarter. The APMEA segment realized a comparable growth of 3.2 percent. In total the whole company’s comparable sales increased by 4.2 percent, operating income by 9 percent and earnings per share finally by 15 percent (12 percent at constant currencies).

An outlook for the full year sales was not announced. The company expects that one percentage point comparable sales growth should boost earnings per share by about 3 cent, if the cost structure did not change. This could mean that if the company grows by 4.2 percent for 2011, earnings per share should increase by 12.6 cents or 5.57 percent.

Valuation:

The current price to earnings ratio of MCD amounts to 18.1. Analysts expect a full year earnings per share of USD 5.11 for fiscal 2011 and USD 5.61 for 2012. This represents an increase of 11.38 percent for 2011 and 9.63 percent for fiscal 2012. The forward price to earnings ratio should come down to 15.2. The current initial dividend yield should jump to around 3 percent at year end if the fourth quarter dividend will be increased. All in all, if the robust growth of MCD holds on, the investment should double in 8.9 years after the PEG payback ratio — this represents a yearly return of 8.1 percent plus annual dividend yield.



Consensus Developments:

In accordance to Reuters, 25 analysts covered MCD and submitted an outperform rating with a mean target price of USD $87.95 as of July 12, 2011. This value represents an upside of 3.48 percent compared to the close end price of June 12, 2011. The mean target price estimate increased over the past 18 month by 29.56 percent.

Conclusions:

Well, at first blush MCD did not look like a cheap value or dividend stock, especially if you look at the growth in China which was below the growth of Europe and US and the rising commodity costs. From this point of view, I would not recommend the company.

The other view is that the company has a very strong brand and huge marketing budgets (more than USD $2 billion) to keep this brand and future growth alive. As we have seen with the McCafé expansion, the brand is transferable to other concepts and new customer groups. I don’t fear a changing eating behavior in the long-run. With the next dividend increase, which is expected at year-rend, the initial yield should rise to three percent. In relation to the robust growth model of MCD, the stock is not expensive. It is the best value pick in the industry.

Related Stock Ticker Symbols:

SBUX, YUM, THI, CMG, WEN, DRI, EAT, CAKE, MCD

Full Disclosure:

Long MCD. Not intended to buy any stocks or obligations of the company within the next 72 hours. I don’t receive any compensation by the company.

Disclaimer: The presented data and material is for informational purposes only. Despite careful researches, we cannot guarantee the truth of the figures. The past operational performance as well as the stock performance and dividend developments do not guarantee a positive future performance. Please, before you buy or sell any stocks, you should do your own research and reach your own conclusion.

About the author:

Dividend
I am a private full time investor searching for investments and investment ideas.

Visit Dividend 's Website


Rating: 3.2/5 (33 votes)

Comments

Dividend
Dividend premium member - 2 years ago

Yum posts profit beat, raises 2011 estimate

"Based on strength in China and other international markets, Yum raised its full-year earnings per share growth forecast to at least 12 percent from at least 10 percent previously."

Source: Reuters _http://www.reuters.com/article/2011/07/13/us-yum-idUSTRE76C6LD20110713

Quarter results of rival Yum Brands were good. Especially the Chinese market was strong despite ongoing inflation.
Dividend
Dividend premium member - 2 years ago
Everybody agrees? No objections?
Dividend
Dividend premium member - 2 years ago
Wonderful Quarter Results from MCD:

The Company reported the following highlights for the quarter:

Global comparable sales increased 5.6%, with the U.S. up 4.5%, Europe up 5.9% and Asia/Pacific, Middle East and Africa up 5.2%

Consolidated operating income increased 19% (11% in constant currencies)

Diluted earnings per share of $1.35, up 19% (11% in constant currencies)

Read more: MCD Quarter Results As of June 30, 2011

tonyg34
Tonyg34 - 2 years ago
McD's always makes me think of KO. Both companies operate in a business with no switching costs, they make a commoditized product, there are never ending waves of new competitors that make almost indistinguishable products, they both make a mid-level quality "value" product (as in their are both generic "white castle/sam's club" and high end "organic" categories). Yes, they both have an advantage in terms of distribution efficiencies and ad spending, but on the surface neither of these companies should have anywhere near the total domination of their respective industries that they consistently maintain. I guess that's the difference b/t a "wide" moat and a "valuable" moat.
TheBourqueReport
TheBourqueReport - 2 years ago
Value investment with a double in 9 years?

No offense, but value investments are ones that are purchased at half off today, that is, if they doubled today, they would be at a fair value to grow 10% a year for the next 10 years. Or, as other investors like to frame it, a value investment is one that, with conservative calculations that reflect reality, are trading at a reasonable margin of safety to earn 15% a year in the forseeable future.

As you've obviously noticed, it's pretty damn difficult to get that close to an educated guess let alone a conservative calculation with mcdonald's. Now, if it was at EV/Owner Earnings of 10x, I would probably take a closer look at it, but you still have the extreme difficulty of expressing consumer tastes in the next 10 or 20 years. Sure, they have a diversified customer base in different parts of the world, but I wouldn't even look at MCD until it had a market cap of, at the very maximum, about 60 billion. Feel free to discuss this with me online or offline, as I love value investing and I will speak my mind.

Chris Bourque

TheBourqueReport@gmail.com

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