How Much Is McDonald's Worth?

The only time you'll usually find me eating fast food is when I'm on a road trip or stuck longer than I like at an airport. So I can hardly call myself any sort of fast food connoisseur who can say for sure that McDonald's (NYSE: MCD  ) is hands-down the best place to grab quick eats.

I do like to think of myself as a bit of a stock connoisseur, though, and as an investment McDonald's has a heck of a lot going for it. Though the company had a bit of a dip earlier in the decade, it's come back with a vengeance and is seriously delivering for its shareholders lately. And right now, with a 3% dividend, McDonald's stock is one of the many blue chips that's yielding more than 10-year Treasuries.

Shares of McDonald's currently change hands at just less than $75 per share. Is that a good deal? Well, first we need to get an idea of what McDonald's shares are really worth.

It's a beautiful day in the neighborhood
One way to get an idea of what a stock might be worth is to check out how similar companies are valued. So let's take a look at how McDonald's stacks up.

Company

Total Enterprise Value /
Trailing Revenue

Price / Forward Earnings

Price / Book Value

Trailing PEG

McDonald's

3.8

16.1

6.1

1.7

Chipotle
(NYSE: CMG  )

3.0

30.5

7.1

1.8

Darden
(NYSE: DRI  )

1.1

13.8

3.4

1.3

Jack in the Box
(Nasdaq: JACK  )

0.7

11.6

2.2

0.9

Starbucks
(Nasdaq: SBUX  )

1.8

18.6

5.4

1.5

Wendy's/Arby's Group
(NYSE: WEN  )

0.9

35.1

0.9

NM

Yum! Brands
(NYSE: YUM  )

2.2

17.9

18.7

1.7

Average

1.6

21.3

6.3

1.4

Source: Capital IQ, a Standard & Poor's company, and Yahoo! Finance. Average excludes McDonald's.

Using each of those averages to back into a stock price for McDonald's, and then taking the average across those results, we can come up with an estimated price-per-share of right around $66. This would suggest that McDonald's shares are a bit pricey right now.

A comparable company analysis like this can sometimes raise as many questions as it answers. For instance, is the entire industry properly valued? A supposedly fairly valued stock in an undervalued industry may actually be an undervalued stock.

Additionally, while these companies are comparable they're certainly not all the same. Starbucks, for instance, does not franchise its coffeehouse concept whereas about a third of McDonald's revenue is highly profitable franchise revenue. Chipotle -- which was actually spun off from McDonald's -- is a much smaller and faster-growing business. Wendy's/Arby's, meanwhile, is in the exact opposite situation of being a company badly in need of a turnaround.

So with all that in mind, it's best to combine comparable company analysis with another valuation technique.

Collecting the cash flow
An alternate way to value a stock is to do what's known as a discounted cash flow (DCF) analysis. Basically, this method projects free cash flow over the next ten years and discounts the tally from each of those years back to what it would be worth today (since a dollar tomorrow is worth less to us than a dollar today).

Because a DCF is based largely on estimates (aka guesses) and it attempts to predict the future, it can be a fickle beast and so its results are best used as guideposts rather than written-in-stone answers sent down from Mount Olympus.

For McDonald's DCF, I used the following assumptions:

2011 Unlevered Free Cash Flow

$4.4 billion

FCF Growth 2010-2014

10.2%

FCF Growth 2014-2019

5.1%

Terminal Growth

3%

Market Equity as a Percentage of Total Capitalization

89%

Cost of Equity

12%

Cost of Debt

4.3%

Weighted Average Cost of Capital

11%

Source: Capital IQ, a Standard & Poor's company, Yahoo! Finance, author's estimates.

While most of this is pretty standard fare when it comes to DCFs, the academically inclined would probably balk at the way I set the cost of equity. In a "classic" DCF, the cost of equity is set based on an equation that uses beta -- a measure of how volatile a stock is versus the rest of the market -- and a few other numbers that I tend to thumb my nose at.

But when you get right down to it, the cost of equity is the rate of return that investors demand to invest in the equity of that company. So I generally set the cost of equity equal to the rate of return that I'd like to see from that stock.

Based on the assumptions above, a simple DCF model spits out a per-share value of $64 for McDonald's stock. This seems to confirm what we found above -- that McDonald's stock is fairly expensive right now.

Do we have a winner?
The valuations that we've done here are pretty simple and, particularly when it comes to the DCF, investors would be well advised to play with the numbers further before making a final decision on McDonald's stock.

That said, the range of $64 to $66 that we got from the two valuation methods seems to say that McDonald's stock is likely overvalued right now. At the midpoint between the two estimates we get $65 -- 13% below today's stock price.

Speaking as a Mickey D's shareholder myself, I don't have a burning desire to sell my shares. It's a solid company that produces attractive returns on its equity, has a very valuable brand, and a strong global presence. Plus, McDonald's is a member of Standard & Poor's "dividend aristocrats" and I can continue to collect that 3% dividend the company is kicking out to me.

Of course, I am always careful to not fall in love with any stock, so as much as I like McDonald's, if the stock continues to run I will start to consider taking advantage of the high valuation and finding a better home for my money.

Do you agree that McDonald's stock is overvalued? Head down to the comments section and share your thoughts.

Even though McDonald's looks a bit overvalued, it's not a scary stock. These, however, might be another story.

Chipotle is a Motley Fool Rule Breakers choice. Starbucks is a Motley Fool Stock Advisor selection. Chipotle is a Motley Fool Hidden Gems selection. Motley Fool Options has recommended writing puts on Jack in the Box. Motley Fool Options has recommended a bull call spread position on Yum! Brands. The Fool owns shares of Chipotle and Yum! Brands. Try any of our Foolish newsletter services free for 30 days.

True to its name, The Motley Fool is made up of a motley assortment of writers and analysts, each with a unique perspective; sometimes we agree, sometimes we disagree, but we all believe in the power of learning from each other through our Foolish community.

Fool contributor Matt Koppenheffer owns shares of McDonald's, but does not own shares of any of the other companies mentioned. You can check out what Matt is keeping an eye on by visiting his CAPS portfolio, or you can follow Matt on Twitter @KoppTheFool or on his RSS feed. The Fool's disclosure policy assures you no Wookiees were harmed in the making of this article.


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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On September 16, 2010, at 2:29 PM, Gonzhouse wrote:

    I agree that the run-up seems a little overdone but I'm not selling: given a choice of a stock that sways between (1) under-valued to fair-valued and (2) fair-valued to over-valued, I'll take the later. I plan to hold a LONG time and a future exit point will be at an over-valued point.

  • Report this Comment On September 17, 2010, at 4:55 PM, TMFKopp wrote:

    @Gonzhouse

    I'm with you. I'm holding onto my MCD shares for now. However, I probably won't add any more shares unless we get a decent-sized sell-off and I could see myself selling if the price runs up too far.

    Matt

  • Report this Comment On September 20, 2010, at 1:10 AM, OlimDives wrote:

    Hey Matt - I have something I would like to discuss with you. Can you email me at bhubbard@olimdives.com. I enjoy your articles and would like to discuss some opportunities with you if you would like to and have time. Hope to hear from you.

    Ben Hubbard

    Founder - Olimdives

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