Is McDonald's Still a Golden Stock?
After a stellar year as the Dow's top performer in 2011, McDonald's (NYS: MCD) stock wasn't doing too hot after its most recent sales report, though shares have been picking up this week. The company's February sales report came as a disappointment to analysts, with comparable sales growth falling short of expectations. And now, with a new CEO planned, the company's prospects for future growth are open to question.
New Big Mac in charge
The company announced last Thursday that Chief Operating Officer Don Thompson will be taking over as CEO after Jim Skinner retires at the end of June. Skinner, who has been CEO since November 2004, took the reins at a particularly difficult time for the company. His predecessors departed under unfavorable circumstances, and the stock, affected by substantial negative publicity, remained depressed during the earlier part of the decade. Skinner helped change all that. During his tenure, the company's stock price more than tripled and its free cash flow almost doubled. The fast-food powerhouse recently reported 106 consecutive months of positive same-store sales growth. The question on investors' minds is whether Thompson, a 22-year veteran of the company, can continue to lead the Golden Arches forward.
Given the company's long-term fundamentals and the quality of its succession planning process, I think the answer is an unequivocal yes. McDonald's succession pipeline grooms the future CEO through instruction by the executive team, as well as outside experts. Thompson, as head of McDonald's USA from 2006 to 2010, was responsible for the strategy and business results of more than 14,000 U.S. stores. He also played a major role in the rollout of the highly profitable McCafe beverage line in 2008. Critics citing Thompson's "lack of international exposure" should note that, as the company's COO, he was in charge of global strategy and operations and traveled to nearly every country in which McDonald's has a presence. In an interview with CNBC, Skinner expressed confidence that McDonald's growth will continue under Thompson's watch. Looking past the CEO switch-up, an inspection of the company's fundamentals is even more promising.
A track record of excellence
Between 2002 and 2011, McDonald's increased average annual sales by 6.4% and more than doubled its operating margins -- quite a remarkable feat for a fast-food company. The company boasts a five-year average operating margin of 27.4%, trouncing that of its closest competitor, Yum! Brands (NYS: YUM) , by a whopping 13.2%. Smaller competitors Wendy's (NAS: WEN) and Jack in the Box (NAS: JACK) are even further behind, with average operating margins of 5.3% and 7.7%, respectively.
As far as dividends go, McDonald's has paid uninterrupted dividends since 1976, with an impressive current yield of 2.9%. To shareholders' delight, dividend payments have increased by a remarkable 20% per year over the past five years. However, the company's FCF payout ratios have been trending upward, from 48% in 2008 to roughly 59% in 2011. Using conservative assumptions about future growth in revenue and earnings, this pattern suggests that the 20% growth in dividends cannot continue forever. Still, this is no reason for alarm -- simply a consideration for investors who may expect the 20% dividend growth to continue indefinitely.
Lastly, one oft-overlooked aspect of Mickey D's is its value as a real estate play. Unbeknownst to its millions of patrons, McDonald's effectively serves as a real estate holding company, owning thousands of prime commercial properties throughout the world. Through its heavily franchised business model, the company receives a steady stream of revenue in the form of rent and royalty income, which continues to improve cash from operations. Today, a little more than 80% of the company's 33,000-plus restaurant locations are franchised, while the rest are company-operated stores.
The road ahead
While McDonald's still faces some headwinds this year in the form of commodity cost increases and a strengthening dollar, the company is well positioned to overcome these challenges with its diverse menu, competitive prices, and an unrivaled marketing budget. Despite long-standing criticisms regarding the nutritional content of its products, McDonald's has quickly and effectively adapted to changing consumer demands, having introduced a host of healthier options such as salads and snack wraps. In addition, with the introduction of its wildly successful McCafe line in 2008, the company offers a host of lower-cost, higher-margin beverages to better serve price sensitive customers in search of value. Under Thompson's watch, beverages should remain a fundamental driver of growth.
In the year ahead, the company will continue its reimaging plan and also intends to invest $2.9 billion to open an additional 1,300 stores around the world, including 250 in China -- a market that offers significant room for additional growth. With its newer, more upscale image and continued dedication to the consumer experience, McDonald's is making all the right moves to sustain its position as top dog in the quick-service restaurant space. This iconic and universally appealing brand continues to be one of the best defensive dividend-paying stocks you can buy today.
These are just a few of the reasons McDonald's has not only been called The Greatest Dividend Stock on the Dow but has also been highlighted as one of the 3 American Companies Set to Dominate the World. You can learn about the other two right here.
At the time this
article was published Fool contributorArjun Sreekumarowns no shares of McDonald's.Motley Fool newsletter serviceshave recommended buying shares of Yum! Brands and McDonald's. The Motley Fool has adisclosure policy.
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