McDonald's: Global McMentum
Growing international operations give the Golden Arches the wherewithal to face a slower U.S. economy.
The U.S. consumer and Wall Street have kicked Ronald McDonald in his bright yellow pants as of late.
McDonald's stock fell 5.6% on January 29 after the company reported that sales at U.S. restaurants opened at least 13 months -- a key measure in fast-food industry -- were flat for December. The market's hostile reaction, however, makes this a good time to consider the shares of the world's largest restaurant chain.
After the pullback, McDonald's shares appear attractively priced. The stock (symbol MCD), which closed up 26 cents at $51.01 on January 30, is still off its 52-week high of $63.69, set on December 12, 2007. Shares trade at only 16 times the $3.18 per share analysts expect the company to earn in 2008.
The company attributed the lackluster sales performance to bad weather, but the U.S. stagnation masks gains the company has made in international operations. In December, sales grew 7.7% at restaurants in Europe and 12.6% in Asia, the Middle East and Africa.
"International momentum remains very strong, and adjusted for inclement weather, December U.S. sales were not as bad as most had assumed," says Lehman Brothers analyst Jeffrey Bernstein. U.S. sales make up only 35% of the $22.8 billion McDonald's generated in 2007.
McDonald's is trying to boost sales by implementing its popular Dollar Menu globally. Based on the company's success in France with a value menu, Bernstein expects McDonald's German equivalent, Ein Mal Eins (or one by one), will drive traffic to restaurants and improve sales in Germany.
Plus, the company wants to add 40 new restaurants in Russia this year. It's a country that has more than 200 Golden Arches and some of the most profitable restaurants in the system, Bernstein says.
McDonald's also plans to open 125 restaurants in China this year, according to The Wall Street Journal. That's an 18% increase over the number of restaurants it added there in 2007. Last year, the company partnered with Sinopec (SHI), China's largest gasoline retailer, to jointly develop drive-through restaurants at more than 30,000 new and existing gas stations.
The company will continue to improve its chicken options beyond the McNugget to attract more diners seeking healthier alternatives to hamburgers and French fries. McDonald's plans to launch a Southern-style chicken sandwich this spring and offer a chicken-biscuit breakfast sandwich later this year.
Last year, chicken-based product sales at McDonald's grew 14% compared with 2% sales growth of chicken dishes for the overall informal eating-out market, says Friedman Billings Ramsey analyst Howard Penney. McDonald's has focused on items made with chicken since 2003, when it launched a company-wide facelift of its restaurants and cuisine.
The company wants to remodel 1,500 locations (about 5% of its entire system) this year. It already has renovated more than 8,000 since 2003 in an effort to generate more sales.
McDonald's announced in January that it plans to install coffee bars in all of its 14,000 U.S. restaurants. The cafe rollout, which is expected to take up to two years to complete, is only the first round in its U.S. beverage strategy, says Bernstein. He expects offerings of espresso, iced coffee, smoothies, frappes and bottled water to enhance sales in 2009. "Over the next two years, McDonald's hopes to capture a bigger share of the $60 billion beverage category," Penney says.
Commodity prices could squeeze McDonald's profits. Although Bernstein thinks beef prices will remain flat, he sees chicken costs jumping at least 4% and diary prices possibly soaring by 8%. In the past, strong sales growth have offset commodity hikes and helped maintain profit margins.
Bernstein gives the stock an "overweight" rating and a 12-month-target price of $65. He says the stock currently trading at a discount to the price-to-earnings ratios of its peers, such as Burger King (BKC) and Yum! Brands (YUM), which owns Pizza Hut and Taco Bell.