Ticker: MCD
Sector:
Consumer Services
Industry: Restaurants and Bars
Recommendation:
HOLD
Data:
Price
52-wk high
52-wk low
$54.23 (14-Sept-09)
$65.47 (19-Sept-08)
$45.79 (10-Oct-08)
Market cap
Total assets
Trading Vol
$59.18B
$28.461 B
9.08M
EPS (Q2 2009)
EPS (2008)
EPS (2007)
EPS (2006)
P/E (ttm)
Div Yield
$1.85
$3.84
$3.70
$3.55
14.38
2.0%
ROA (ttm)
ROE (ttm)
13.05%
30.50%
Report by Jake Schanzmeyer
14-Sept-09
McDonalds Corporations is one of the largest and most globally
recognizable brands and serves nearly 47 million customers
daily. MCD operates in more than 118 countries and as of
yearend 2008 had over 31,000 locations worldwide.
McDonalds operates the majority of the restaurants through
franchising agreements and in 2008 only 6,502 were ran by the
corporation. MCD is headquarter in Oak Brook, IL and employs
over 400,000 people worldwide.
McDonalds was founded in 1948 by Dick and Mac McDonald.
The first McDonalds franchise was purchased in 1955 by Ray
Kroc who later purchased the McDonald brothers equity in the
company and led its worldwide expansion. MCD Corporations
revenues come from rent, royalties, and fees paid by
McDonald’s franchises as well as sales from the company
operated restaurants. MCD has two types of franchise
arrangements. In the conventional franchise arrangement,
franchisees provide a portion of the required capital and MCD
owns the land and building or secures long term leases for
sites. Under the developmental license arrangement, licensees
provide capital for the entire business, including the real estate,
while MCD generally has no capital invested.
MCD Corporation has seen significant changes in recent history
and has seen substantial long term growth. Some of the most
recent changes have been to promote new products and meals
for the health conscious consumer. Some of the new menu
items include salads, fruits, and wraps. McDonalds continues
to invest in its growth and development by continually
enhancing the quality of the service, food, and restaurants.
One of the most recent initiatives for MCD is the push to
compete in the premium coffee business with companies such
as Starbucks and Dunkin Donuts.
Financials – Quarter end 30-June-09
Last month MCD released it second quarter financial statement for 2009 with some good signs
for the corporation. As economy continues to be hit hard and consumers continue to decrease
spending MCD continues to push the “Plan to Win” strategy. The company posted higher
revenues, operating income, and earnings per share compared with the prior year. Some of the
key aspects of the report issued by MCD are:
Figure 1
McDonald's reported the following second quarter highlights:
-- Global comparable sales increased 4.8% with the U.S. up 3.5%, Europe
up 6.9% and Asia/Pacific, Middle East and Africa up 4.4%
-- Consolidated operating income increased 2% (11% in constant
currencies)
-- Earnings per share were $0.98, including $0.09 per share of negative
impact from foreign currency translation and $0.01 per share of
incremental income related primarily to the sale of Redbox Automated
Retail, LLC and also related to the developmental license transaction
in Indonesia. Second quarter 2008 earnings of $1.04 per share
included a $0.10 per share gain from the Company's sale of its
minority interest in Pret A Manger
-- Approximately $1.4 billion returned to shareholders through share
repurchases and dividends
-- On July 22, McDonald's Board of Directors declared a quarterly cash
dividend of $0.50 per share of common stock, payable on September 15,
2009 to shareholders of record at the close of business on September
1, 2009
Source: McDonald’s Corporation
As consumers continue to be more cost conscious, the value, quality, and convenience
McDonald’s continues to offer is a driving force behind its continued success and growth. The
highlights from the second quarter reports give a sign of life for MCD despite bleak first quarter
2009 financials. As consumer spending increases there are good signs that MCD will continue
to see increases in revenues, operating income, and earnings per share. For July and August
MCD continues to see increases in sales of 4.3 and 2.2% respectively. The most significant
increases continue to be in Europe. Another bright spot of the quarterly report is the cash
dividend of $.50 per share of common stock.
The business operations of MCD are primarily distinguished by four geographic segments: US,
Europe (EU), Asia Pacific Middle East and Africa (APMEA), and Other Countries and Corporate.
The US accounted for 28.9% of company operated sales and 52.6% of franchise revenues and
36.2% of total revenues for the quarter ending 30-June-2009. EU, APMEA, and other countries
accounted for 40.1, 18.6, and 5.1% respectively. The report shows MCD’s continued increase in
revenue in Europe and the continued importance of the European market on the future success
of MCD.
Figure 2
With the strong brand name and dominate presence globally analyst continue to predict
significant growth for MCD in the future. Despite poor predictions for the restaurant industry
sector, MCD is still predicted to grow by 4.8% this quarter and 6% for the year. Analyst also
predict EPS for the year at $3.89 which is up from last year.
Figure 3
Source: Yahoo Finance
Competition
MCD major competitors include Burger King and Yum Brands, the holding company for fast
food chains Pizza Hut, KFC, and Taco Bell. As a whole fast food chains have remained less
effected by the down economy in relation to the restaurant industry and full service
restaurants. With the increase push for healthier alternatives, competitions among fast food
restaurants to adapt and change their menus, continues to be at the forefront of discussions.
Yum Brands continues to be MCD’s biggest competition and the comparison below shows that
they have consistently outperformed MCD over the past 6 months.
Figure 4
Source: Google Finance
In comparison to the industry as a whole, MCD continues to show bright signs and continuing
improvement off its 52 week low last October. The size of MCD in relation to the industry
allows it to remain stable and absorb market fluctuations and changes much easier than its
much smaller competitors. MCD also compares very well with its competitors when you look at
both debt to equity and debt to asset as well.
Figure 5
Source: Google Finance
SWOT Analysis
Strengths
The biggest strength of McDonald’s is its brand name. McDonalds is a brand that is recognized
by men, women, and children all over the world and continues to be the staple for service and
value in the fast food industry. In 2008 McDonald’s was ranked 8th in the business week top
100 global brands and valued the brand name at over $31 Billion. Another major strength of
McDonald’s is its huge economies of scale. With revenues of nearly 10 times that of its
competitors Wendy’s and Burger King, McDonalds has a significant advantage entering new
markets and selecting restaurant locations. McDonalds can be found almost anywhere,
including neighborhoods, shopping malls, airports, and Wal-Marts. These huge economies of
scale also give MCD significant advantages with supplier negotiations and pricing. Another
major strength of MCD is their diversified geographic presence. This allows them to reduce
risks and capitalize on different markets in order to maintain stable revenue growth.
Weaknesses
One of the major weaknesses of MCD is its continued increase in litigation around the world.
MCD continues to be part in many lawsuits such as violation of state consumer fraud acts,
unfair competition or deceptive trade, practices acts, strict liability, failure to warn, negligence,
breach of express and implied warranties, fraud and fraudulent concealment, negligent
misrepresentation and concealment, unjust enrichment, and false advertisement. Litigation
continues to be a significant unnecessary cost for MCD.
Opportunities
The growth of franchisee operated restaurants is one of the major opportunities for MCD both
in the US and globally. MCD has seen increase income from franchises over the past years and
wants to continue that growth into the future. There have been many changes in order to
maximize long term brand performance and returns. In 2007 MCD completed the transition of
over 1500 franchises in Latin America to 20 year master franchise agreements. The continuing
push to transition company operated restaurants to franchisees and development licenses is
likes to increase the overall profitability of McDonalds.
The growth of the hot beverage market also looks to be a promising opportunity for MCD in the
near future. The hot drinks market in predicted to increase by nearly 13.1% over the next 3
years with coffee accounting for 54.7% of the total market. In order to take advantage of this
increase MCD has began rolling out espresso based hot and cold specialty coffee drinks. This
new venture is expected to grow MCD’s presence in the beverage industry and offer great
opportunities for expanding its revenue base.
Threats
The major threat to MCD is the affect of the economic downturn on consumer spending. As
personal finances continue to be hit and consumers continue to be more cautious of unnessary
spending. All major western regions, including the US and UK are in a recession and are
forecasted to remain so through 2009. Even key emerging markets economies such as China
are experiencing downturns which have affected MCD. MCD is highly dependent on customer
traffic and with decrease in consumer spending could put some short term pressure on the
company’s margins.
Valuation
For the valuation of McDonald’s Corporation I will be using the Warren Buffet Owner Earnings
Model. Using this model I will look at three important factors to determine the overall intrinsic
value of MCD. The model will also allow for the valuation to be compared to different values
related to growth rates, market returns, and Discount rates.
Discount Rate
In order to calculate a discount rate we must look at the risk free rate, beta, and the equity
market risk premium. Using an average beta of .66 and risk free rate of .127% and a market
return of 12% we can calculate a discount rate of:
With the current state of the economy and the normal market return of 10-11%, I have decided
to add 5% to the discount rate.
Growth Rates
I used growth rates from averages of Google Finance, and Yahoo we estimated growth of 6%
for 2009, 9.8% for 2010, and 9% five years following. I also used a 3% second stage growth
rate. The estimate reflect conservative assumptions and averages in order to not overvalue
the long term growth. With a company as strong as McDonalds we would expect to see steady
long term success.
Intrinsic Value and Recommendations
Using the DCF, or “Warren Buffet Way Owners’ Earning Discount Model”, I was able to calculate
that McDonald’s has an intrinsic value of $53.20. This is very close to the current price and
shows that it is valued fairly. Also investors such as JP Morgan and Citi have MCD listed as a
steady performer and a hold or buy in their recommendations. I believe moving forward MCD
will continue to be a steady performer and maintain a strong position despite an uncertain
economy because of its large size relative to the industry. MCD also has a diversified
geographic presence which will also allow it to accommodate uncertain and changing
economies.
Figure 6
References:
Charts News and Statistical Numbers
http://www.google.com/finance?q=NYSE:MCD
Financial Statements
http://www.google.com/finance?q=NYSE:MCD&fstype=ii
SWOT Analysis
http://mulibraries.missouri.edu/search/databases/default.aspx?title=B - Business Source
Premier
Charts News and Statistical Numbers
http://finance.yahoo.com/q?s=mcd