Over the past several years, global fast food giant McDonald’s (NYSE:MCD) has reinvented itself on two critical fronts that have propelled significant out-performance in MCD stock. Over the past five years, while the S&P 500 is up roughly 52%, MCD stock is up more than double that, rallying nearly 125% over that same stretch.Which two reinventions have been the fuel behind this big rally? First, McDonald’s reinvented itself on the technology front, transforming from an old school fast food chain with outdated stores, to a modern fast food chain with technology and data at the core of its operations. Second, McDonald’s reinvented itself on the menu front, pivoting from selling junk food at low prices, to selling healthier foods at low prices.
These two critical transformations, against the backdrop of industry-low prices, has turned McDonald’s into a shining star in the quick service restaurant category. McDonald’s has rattled off big comparable sales growth quarter after big comparable sales growth quarter. Margins have moved higher thanks to re-franchising initiatives. The long-term profit growth trajectory has improved.
Above all else, MCD stock has more than doubled over the past five years.
This big multi-year rally in McDonald’s stock price should continue in late July. The company is set to report second quarter earnings on Friday, July 26. Most data points indicate that those numbers will be really good — good enough to keep MCD stock on its longer term uptrend.
Second Quarter Numbers Should Be Good
Most data points indicate that McDonald’s second quarter earnings report will be very good.
For starter’s, U.S. retail sales growth accelerated from 2.9% in the first quarter, to 3.4% in the second quarter, while food service sales growth accelerated from 4.4% to 4.6%. Thus, the restaurant backdrop became more favorable in Q2. That makes sense. During the second quarter, unemployment rates remained low, wage gains continued, rates dropped, and the broader consumer economic backdrop improved.
Further, McDonald’s continued to push forward on the technology and menu innovation fronts in the quarter. Specifically, McDonald’s rapidly expanded its digital delivery business in the second quarter, and not coincidentally, Domino’s (NYSE:DPZ) blamed its poor second quarter numbers on “turbulence” from the expansion of delivery services. Also, McDonald’s opened up a hyper-modern new Times Square flagship store and continued to leverage Big Data to improve operational efficiency.
Meanwhile, on the menu innovation front, McDonald’s doubled down on fresh beef Quarter Pounders in Q2 (which have been a huge success over the past year) and rolled out its Worldwide Favorites menu in the quarter.
Because of the positive internals and externals, many analysts are reporting positive second quarter channel checks. In May, Cleveland Research said that U.S. traffic trends were doing well and running ahead of consensus expectations. In mid-July, Cowen sounded a similarly bullish tone on U.S. traffic trends.
Broadly, it appears that McDonald’s is set to report strong second quarter numbers at the end of July.
McDonald’s Stock Should Rally in Response
Although MCD stock is trading at a premium valuation ahead of the Q2 print, favorable second quarter numbers should be enough to keep this stock on its long-term winning trajectory.
MCD stock presently trades at about 24-times forward earnings. That’s a huge multiple for this stock. Over the past five years, MCD stock’s average forward earnings multiple has hovered around 20. This is the highest MCD stock’s forward earnings multiple has been this decade. Consequently, it’s fair to say that a lot of good news is already priced into McDonald’s stock.
But, not all of it. The premium valuation underlying MCD stock is warranted by strengthening fundamentals and a favorable market backdrop, as the company is firing on all cylinders as rates plunge to new lows. This combination means that MCD stock’s multiple should be substantially above-average today.
All in all, while valuation is a concern here, it isn’t a big enough concern to wipe out the fact that the company is performing at its peak. So long as the company continues to do so — and so long as rates remain low — MCD stock should stay on a healthy uptrend.
Bottom Line on MCD Stock
McDonald’s has been firing on all cylinders for several years now. Most data points indicate that this company continued to fire on all cylinders in the second quarter of 2019. As such, Q2 numbers should be pretty good — good enough to support recent strength in MCD stock.
As of this writing, Luke Lango was long MCD.