Times have caught up with McDonald’s Corporation (NYSE:MCD). The world seems to be passing MCD by, leaving it with sorrowful revenue declines and ugly comps.
Let’s take a look at McDonald’s earnings, suss out what’s going on, what MCD can do, and what you should do about McDonald’s stock.
Adjusted earnings were $1.01 per share having declined 16.5% year-over-year. That “adjusted” number backs out charges related to strategic moves MCD has been making.
That earnings drop came on a rather ugly revenue decline of 11% to $5.96 billion, and every geographic sector contributed to the drop. Operating income fell 28%. Really. It’s hard to believe that number for McDonald’s earnings.
Franchisees had things a little better, in the sense that their revenues only fell 7.5% to $2.04 billion, while the company-owned stores took it on the chin, falling 13%.
Same-store sales were down 2.3% globally, of which the US contributed a 2.6% decline, Europe a 0.6% decline, and 8.3% declines from the rest of the world. All of these were worse than last quarter, so things are headed quickly in the wrong direction.
Now, MCD claims the drop is from less customer traffic, which is obvious. However, they blame it on “soft consumer spending”, which I think is nonsense. When people are saving money they go to McDonald’s, not run away from it.
McDonald’s Stock Has a Lot to Worry About
I’ll tell you what the problems are for McDonald’s stock, and there are a lot of them.
MCD has been resting on its laurels, believing that its brand name is unassailable and that people will always eat Big Macs. However, the restaurant world has changed. First came the health food craze. People have been moving towards healthier eating for years. MCD has tried to improve the menu a little, by adding salads and things like grilled chicken. But adding apple slices to Happy Meals really isn’t going to make a difference.
McDonald’s has a huge image problem. No matter what moves it makes, like not using chickens raised with antibiotics, MCD will always be associated with the term “fast food”, which connotes to “unhealthy.”
Therein lies its biggest problem.
Things have gotten worse even worse, because restaurants like Chipotle Mexican Grill Inc. (NYSE:CMG) can prove that fast food can actually be a little bit healthier. Other regional chains are popping up that offer organic food and healthy food in a rapid-serve environment.
For McDonald’s stock to see improvement, it is going to have to undergo a complete overhaul. That’s probably scary to a company that has been around so long. It will be expensive. It will require vision. But rather than use the band-aid approach its been taking, things are going to have to change in a very big way.
On a traditional valuation scale, McDonald’s stock is trading at 20x FY15 EPS of $4.91. Yet 5-year EPS growth plus a 3.5% yield gives us a fair value P/E ratio of only 8. I give 10% premiums for great free cash flow, and its brand name. Beyond that, it’s difficult to justify more than $50 per share — almost half of the current MCD stock price.
I wouldn’t buy MCD stock here, but selling isn’t an obvious win, either. If you own it with the fear of a huge capital gains for selling, then you may just want to hold.
Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance. As of this writing, he did not hold a position in any of the aforementioned securities. He has 20 years’ experience in the stock market, and has written more than 1,200 articles on investing. He is the Manager of the forthcoming Liberty Portfolio. He can be reached at TheLibertyPortfolio@gmail.com.
