McDonald’s Stock Remains Far From Golden

by Jonathan Berr | July 24, 2013 11:53 am

After yet another mediocre earnings report, I almost threw in the towel on McDonald’s (MCD[1]).

Its performance in the last quarter lagged Wall Street’s already-low expectations and those of its rivals. Net income went from $1.4 billion, or $1.38 a share, from $1.35 billion, or $1.32 per share a year ago. Revenue only jumped 2.4% while they ever-important metric of same-store sales gained a meager 1%.

Compare that to Chipotle Mexican Grill (CMG[2]) or Wendy’s (WEN[3]) and the difference is clear. CMG reported a 5.5% gain in comparable sales in the current quarter, while Wendy’s has forecast a 2% to 3% gain in same-store sales this year thanks to the huge demand for its new Bacon Pretzel Burger.  Both also posted better-than-expected quarterly results.

McDonald’s, on the other hand, missed and then gave a downbeat forecast for the rest of the year … all while its excuses are wearing thin.

CEO Don Thompson said that “economic uncertainty is pressuring consumer spending.” While that’s true and the strength of the dollar is a factor, that doesn’t tell the whole story. Instead, rivals such as Wendy’s and Burger King (BKW[4]) have been eating McDonald’s lunch for a while.

For one, McDonald’s spends roughly $1 billion on advertising across all types of media — and a good chunk of that goes toward hyping its Value Menu. On the one hand, this makes sense since people with limited means tend to patronize fast food restaurants even more than consumers that are more flush with cash.

Unfortunately, McDonald’s has taken this too far. By endlessly drumming the message that its food is inexpensive, consumers to think its “cheap” and not good. Over the long-term, that perception winds up eroding confidence in the brand.

And whenever I hear someone discuss “innovation” at McDonald’s, I have to laugh. People forget that this is a restaurant business whose profits are dependent on making food that people think is tasty. Market research has shown that consumers prefer its rivals such as Wendy’s by a wide margin.

If McDonald’s were a movie studio, it would have been shuttered years ago because its new menu items have “bombed at the box office” — Angus Select burgers, Fish McBytes and its line-up of salads come to mind. The few times a month I go to the golden arches, I don’t remember ever seeing anyone ordering a salad.

Media reports have also pointed out that fast food restaurants are flooding the market with new offerings that will freak out most nutritionists such as Carl’s Jr. Pop-Tart ice cream sandwiches. McDonald’s new Quarter Pounders seem dull by comparison.

Last but not least, McDonald’s has a serious customer service problem. My orders are screwed up on a regular basis, and what little service that you get is given with a sneer or indifference. In fact, The Wall Street Journal noted in April that complaints from the public about rude employees are on the rise. The company was even forced to admit that “service was broken.”

It doesn’t have to be that way. Customers at Chick-fil-A are treated exceedingly well. Not only are employees polite and friendly but they are helpful as well — carrying food to your tables, giving you free refills on sodas and when time permits even removing your trash.

The only thing that has kept me from selling now is that McDonald’s still has value. The stock trades at a trailing price-to-earnings multiple of 17, which is below its five-year-high of 19. Meanwhile, its forward P/E is far lower than rivals. Analysts have an average 52-week price target on $105.27, representing a 9% upside over where it recently traded.  Plus, it pays a dividend with a fat yield of 3.2%.

I wouldn’t recommend people put new money into McDonald’s, though. Investors in the stock should wait another quarter to see if fortunes improve at the House of Ronald, since even a tiny improvement could send the stock soaring.

But if the chain’s performance still continues to be lackluster, you should by all means sell.

As of this writing, Jonathan Berr was still long MCD … for now. Follow him on Twitter@jdberr.

  1. MCD:
  2. CMG:
  3. WEN:
  4. BKW:

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