The company’s enormous margins compared to its fast-food competition gives McDonald’s an edge that investors can sink their teeth into, writes MoneyShow’s Jim Jubak, also of Jubak’s Picks.
Take a tour of a your neighborhood McDonald’s (MCD), and then of a Burger King and a Wendy’s. I think you’ll see that McDonald’s has separated itself from the competition.
Yes, it’s still the place to go for a Big Mac, but the company now sells premium coffee, smoothies, and salads (and yes, I’ve actually seen someone order and eat a McDonald’s salad.) A good number of the McDonald’s I’ve visited lately (research, research, research) have been refreshed (the high-tech mix your own soda flavors machine is a blast).
The company has found a mix that keeps the best of the old (I saw two teenagers order Happy Meals at lunch today) while adding the new (Iced Caramel Mocha, for example).
I think Wendy’s is still a great basic burger experience. And, yes, the burgers at a specialized chain like Five Guys are better. But for variety of menu (I’ve never seen anyone order a hot dog at Five Guys), price, and considering in a soft global economy, I think I’d bet on McDonald’s in that competition, even over middle-market purveyors like Starbucks (SBUX).
What’s been most impressive to me about McDonald’s performance during the slow post-financial crisis economy has been the company’s ability to deliver value pricing and yet keep margins high, even with commodity prices climbing. Operating margins were 31.6% in 2011 (compare that to 3.9% at Wendy’s and 14.4% at Yum! Brands (YUM)).
Standard & Poor’s calculates that operating margins at company-operated restaurants were 18.9% in 2011, and will fall to 18.5% in 2012 due to higher commodity prices. But that small decline will still keep McDonald’s well ahead of competitors.
Companies that are as big and dominant as McDonald’s can find it hard to profitably reinvest earnings. But McDonald’s does have one major market to conquer: China, where the company trails Yum! Brands’ Pizza Hut and KFC chains.
McDonalds now has 1,400 restaurants in China (compared to 4,500 for Yum! Brands). McDonald’s plans to open 250 new restaurants in China in 2012, up from 200 in 2011, but that leaves the company with plenty of overhead room.
I added McDonald’s to my Jubak’s Picks 12-18 month portfolio on in my post on May 18. As of May 23, I’m putting a one-year target price of $109 on these shares.
I know this is a tough market in which to buy anything. But here’s how I think of this buy: McDonald’s currently pays a 3.1% dividend yield—more than a ten-year Treasury, and certainly more than any CD you’ll find.
The price of the stock will, of course, vacillate, and in the short-term you could lose money on these shares. But I think the chance of a permanent impairment of capital here is very small. (That is, I don’t think these shares will go down and stay down.)
So, I think this is a way to earn a better return than a ten-year Treasury, and to eventually see an attractive capital gain.
