This Restaurant Stock Is Holding Up Despite Rising Inflation. Is It Still A Buy?

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MCD: McDonald's logo
MCD
McDonald's

After only a 3% decline over the last six months, at the current price of around $248 per share, we believe McDonald’s (NYSE: MCD), the world’s largest restaurant chain, consisting of more than 40,000 mostly franchised stores  – could see gains. MCD stock has declined from around $256 to $248 in the last six months, largely outperforming the broader indices, with the S&P falling about 11% over the same period. MCD’s stock declines can be attributed to investors’ concern about rising costs and their effects on the company’s bottom line. It should be noted that MCD shares are still trading at a premium valuation of 27x forward price to earnings ratio, despite the recent sell-off. This compares to a P/E ratio of 22x for Yum! Brands (NYSE: YUM) and 21x for Starbucks (NYSE: SBUX). McDonald’s premium is justified by its rising revenue and profitability growth, driven by popular menu items and an aggressive push into the digital and home-delivery niches, in addition to higher cash in hand. Its upside is based on the company’s ability to perform in challenging economic environments and maintain culturally relevant menus around the world (e.g. India).

In Q1, McDonald’s revenue grew 11% y-o-y to $5.7 billion, on the back of a 12% growth in global comparable sales. Gains were strong internationally, helping lift a somewhat modest rise in U.S. sales of 3.5%. However, McDonald’s bottom line dropped 28% y-o-y to $1.48, due to one-time charges related to taxes and suspended operations in Russia and Ukraine. After accounting for these factors, adjusted earnings of $2.28 per share grew 19% from year-ago levels. It should be noted that Russia accounts for nearly 9% of the company’s total revenue.

In the fiercely competitive restaurant industry, how does McDonald’s stand out?

  • Digital sales, which include mobile orders, in-store kiosk orders, and delivery, now account for 30% of total sales, a 60% gain y-o-y in Q1. The percent of McDonald’s restaurants offering delivery rose from 65% in Q1 2019 to 80% as of Q1 2022. Additionally, McDonald’s top six markets’ digital sales comprised more than 30% of system-wide sales, up from 20% in 2020.
  • Price hikes accounted for most of the comp gains in Q1, which averaged 8% for the period – a large increase in normal times, but a relatively modest jump when considering the 8.5% and 8.3% jump in Consumer Price Index in the months of March and April, respectively.
  • McDonald’s has been able to weather the economic storm in part by keeping its customer loyalty program, MyMcDonald’s Rewards, going strong since it relaunched it last year and saw membership grow to 26 million. McDonald’s has long had a loyal customer base, but its digital initiatives have helped it drive more repeat business.
  • During the pandemic, the company accumulated cash reserves to prepare for recessions, going from cash holdings of $898 million in 2019 to $4.7 billion cash on hand by 2021. The company invested much of that cash in the drive-thru and delivery services and still has plenty of cash sitting at $2.3 billion as of March 2022.
  • McDonald’s franchises typically don’t own the building. These franchises agree to rent their stores from the parent company, giving it an extra income in addition to franchise fees and other royalties.
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We have updated our model following the Q1 release. We forecast McDonald’s Revenues to be $23.6 billion for the fiscal year 2022, up 2% y-o-y. Looking at the bottom line, we now forecast EPS to come in at 9.91. Given the changes to our revenues and earnings forecast, we have revised our McDonald’s Valuation to $264 per share, based on $9.91 expected EPS and a 26.7x P/E multiple for the fiscal year 2022 – almost 6% higher than the current market price. That said, the company’s stock appears cheap at the current price.

The fast-food giant doesn’t provide short-term growth forecasts, and the next few quarters might show high volatility given the current macroeconomic situation. Going forward, if the present inflationary pressures continue to persist, it is likely that the broader markets may see lower levels in the near term. And, a further dip in MCD stock can be used as a buying opportunity for better gains in the long run.

Here you’ll find our previous coverage of MCD stock where you can track our view over time.

While MCD stock looks poised for more gains in the future, it is helpful to see how its peers stack up. Check out how McDonald’s Peers fare on metrics that matter. You will find other valuable comparisons for companies across industries at Peer Comparisons.

What if you’re looking for a more balanced portfolio instead? Our high-quality portfolio and multi-strategy portfolio have beaten the market consistently since the end of 2016.

Returns Jun 2022
MTD [1]
2022
YTD [1]
2017-22
Total [2]
 MCD Return -2% -7% 104%
 S&P 500 Return -1% -14% 84%
 Trefis Multi-Strategy Portfolio 1% -18% 224%

[1] Month-to-date and year-to-date as of 6/6/2022
[2] Cumulative total returns since the end of 2016

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