Question

What would a McDonald's restaurant stock performance look like, internationally and domestically?

Answer 1

With over 32,000 locations in over 110 countries, McDonald’s (NYSE: MCD) is the world's largest fast food restaurant chain. McDonald's operates its own restaurants and franchises its brand to local businesspeople (about 70% of the world's McDonald's restaurants are franchised. The company experienced a dramatic turnaround in 2003, driven by a two-pronged strategy. In the U.S., McDonald's focused on increasing sales at existing locations by renovating stores, expanding menu options and extending store hours. Internationally, McDonald's expanded aggressively, opting to franchise rather than operate its new locations, providing new income with little overhead.

Both strategies have paid dividends - despite its size, sales have grown by a third since 2003^[2]. Domestically, McDonald's continues to perform well despite a pullback in consumer spending and is even benefiting as consumers trade down from more expensive eating options. At the same time, international operations are driving profit growth. A growing global middle class, particularly in emerging markets like China, India, and Latin America, represents a massive opportunity for McDonald's. McDonald's aggressive efforts to expand its global presence - most notably at the 2008 Beijing Summer Olympics - have produced strong comparable sales and profit growth.

Business Model- McDonald's makes money by operating its own restaurants and franchising to third parties. Of its 32,278 restaurants around the world as of September 30, 2009, 25,975 (80%) were franchises and 6,303 (20%) were company-operated. Franchises provide the initial capital required to build the restaurant and maintain it through reinvestment reinvestment, whereas direct restaurant operation is more capital-intensive relative to franchising and results in lower restaurant margins as a percent of revenues.

McDonald’s revenues come from sales by its company-operated restaurants as well as fees from its franchise restaurants. Revenues from conventional franchised restaurants include rent and royalties based on a percent of sales along with minimum rent payments, and initial fees. Revenues from restaurants licensed to affiliates and developmental licensees include royalties based on a percent of sales, and generally include initial fees.

In the last few years, however, McDonald’s has sought to shift toward franchises. In 2007, it sold its businesses in Brazil, Argentina, Mexico, Puerto Rico, Venezuela and 13 other Latin American/Caribbean countries to one franchisee

Business Strategies- McDonald’s has pursued two strategies since 2003. To keep up with rapidly changing consumer preferences, demographics, and spending patterns, McDonald's has introduced new items (Premium Chicken sandwiches and the Angus Beef Burger) and campaigns to create more healthy foods (Premium Salads). The strategy reflects the philosophy that novelty, as opposed to loyalty to traditional products, is the key determinant of sales in the fast food industry.

International Expansion-

McDonald’s is well-established in Europe, Asia/Pacific Islands, the Middle East, and Africa. Its growth in Europe is mainly driven by France, Germany and the United Kingdom. In Asia, the general management has indicated that there is significant potential in the Chinese market. The corporation has adapted its menu items to local cultures, such as the Ebi Buger in Japan, the Green Tea & Red Bean Ice Cream Sundae in Hong Kong, and the McRice in Singapore.

In neighboring China, McDonald’s has been selected as the Official Restaurant of the Beijing 2008 Olympic Games- an honor that will further bolster its global reputation.

McDonald's International Revenues

US- 35%

France, Gremany, UK- 21%

Rest of Europe- 14%

Australia, China, Japan- 8%

Rest Of Asia, The Middle East, Africa- 8%

Current Financials-

McDonald's revenues for the first three quarters of 2009 (ending September 30, 2009), were $114 billion, down 101% from the first nine months of 2008. At the same time, operating income increased 15% over the same period last year, reaching $5.0 billion. The declines in revenue were offset by larger declines in operating cost.

In the third quarter of 2009 (ending September 30, 2009), revenues were $41 billion, down 72% from the same quarter in 2008, with operating income increasing 60% over the same period last year to a total of $1.9 billion.

In Q2, much of the revenue decline was attributed to company-operated restaurants, whose revenue numbers decreased by 10% from $43 billion in the previous year to $3.8 billion. Revenue from franchised restaurants, on the other hand, actually increased 1% from $1.78 to $1.80 billion. Since the margins on franchised restaurants are higher than those of company-oparated restaurants, the higher contribution from franchised restaurants in the revenue mix positively impacted McDonald's operating margins (from 27.2% to 29.8%).

McDonald’s chalked up its success in the third quarter to the success of its new Angus burgers and McCafé coffees, as well as the appeal of its value items. In August 2009, McDonald's reported sales growth of 2.2% for existing restaurants, with 1.7% growth in the United States and 3.5% growth in Europe. McDonald's and other fast food restaurants have benefited during the economic downturn as consumers turn to lower-priced meals, though their profitable breakfast and beverage sales have slipped. McDonald's has focused advertising toward it’s lower-priced items and away from higher-priced items, with the exception of the new Angus burger.

Strong International Growth is Driving Sales

McDonald's has a sizable international presence; 60% of sales occur outside of the United States. In addition to developed markets like the U.K., Canada, South Korea and Australia, McDonald's operates in fast growing emerging markets like China, India, Russia and Eastern Europe. By tapping into a growing global middle class, the company's international operations have consistently posted strong same-store sales growth. China is a particularly promising opportunity. In FY 2007, McDonald's launched the breakfast menu, extended store hours to 24 hours in major cities, and implemented drive-thru in China in its efforts to capitalize on this huge market.

Market Share- The major players in the fast-food market, which generates around $120B in annual revenues, are: Domino's, Inc. Burger King Corporation, Wendy's International, Inc., Jack in the Box, Inc., Yum! Brands, Inc., Doctor's Associates, Inc., and McDonald's Corporation. As can be seen, the fast food industry is somewhat fragmented. The seven major competitors only account for 45% of total revenues.

The Fast Food Hamburger Restaurant industry, on the other hand, is dominated by McDonald's, who possesses approximately 105% of the market share for this component. The FFHR is a $67 billion segment. Burger King is second behind McDonalds with a 4% share of the segment. The QSR segment and FFHR category are extremely competitive because each FFHR restaurant offers similar menus and prices.