10 Core Stocks for Your Portfolio: McDonald's

This week and last, we're presenting 10 core stock ideas -- stocks our writers believe can serve as the foundation for a long-term-focused portfolio.

Many of the people reading this had a cup of coffee, ate a meal, tried a smoothie, or grabbed a snack at McDonald's (NYSE: MCD) today. At the pace reported last quarter, today's sales at the Golden Arches will total over $65 million across the globe.

Here's a business snapshot.

Source: Yahoo! Finance and Capital IQ.

The business
McDonald's has over 32,000 restaurants around the world, with about 26,000 franchised and the rest company-owned. Franchised restaurants contribute rent and royalties to McDonald's revenue.

The menu includes burgers, other sandwiches, fries, breakfast items and a variety of drinks with many items on the value-oriented Dollar Menu. Recently, the menu has been expanded to include coffee drinks, smoothies and Angus burgers to add higher-priced and higher-margin items.

Why it's a core stock
A core holding should have two key characteristics.

• A reasonable dividend yield with a track record of increasing the payout and good prospects for continuing those raises.
• A business model that works in any economic environment.

Others may have different investment needs and use different criteria to define a core stock, but those are mine and together they add up to a stock with a potential holding period of forever. So how does McDonald's stack up?

At the current price and dividend rate, McDonald's yields a little over 3.2%, well above the yield on a 10-year Treasury. In fact, it just announced a sizeable bump in its payout. The company has increased the dividend every year since 1976 when it first paid one. With a payout ratio -- the portion of earnings paid as dividends -- of less than 50% and projections of continued revenue and earnings growth, McDonald's has the ability to continue giving shareholders those nice annual raises.

McDonald's has proven it's an all-weather holding over the recent stock market roller coaster ride. Using the SPDR S&P 500 (NYSE: SPY) ETF as a benchmark for the stock market, here's how McDonald's stacks up with both securities adjusted for dividends over the last three years.

*Source: Yahoo! Finance and author's calculation.

McDonald's shareholders saw only a little of the market's slide from the highs of late 2007 through the lows of March 2009, but still captured much of the upside since the lows.

In addition to smoothing out the Mr. Market's wild ride, McDonald's adds stability with a truly global business model. The company generates well over half its revenue from outside the U.S. I'm not smart enough to know which of the world's economies will be the strongest over the next few years, but I do know McDonald's will be there.

Why McDonald's? There are a number of companies that meet the two criteria listed. Procter & Gamble (NYSE: PG) with its global consumer products business and long dividend history, fellow fast food operator and recent Motley Fool 11 O'clock stock Yum! Brands (NYSE: YUM) with great opportunities for growth in China, and global soft drink powerhouse Coca-Cola (NYSE: KO) all jump to mind as great core stock candidates.

McDonald's edges ahead of the pack with the way it has used its menu to drive revenue. It pushed the low-cost Dollar Menu to draw consumers when the economy looked weakest and has added higher-priced, higher-margin premium products to keep those value customers coming back and bring in new customers to try smoothies, coffee drinks and premium burgers.

Risks
Like any stock, an investment in McDonald's carries some risks.

• Governments occasionally talk about regulating or taxing the unhealthy menus common at fast food restaurants.
• Commodity cost increases are outside McDonald's control. There is no guarantee the company will be able to pass cost increases along to consumers.
• New product rollouts often have to go head-to-head with established players like Starbucks (Nasdaq: SBUX) coffee or Jamba (Nasdaq: JMBA) smoothies.
• The stock has recently been setting all-time highs and is priced at a premium to the market. I believe the premium valuation is justified, but the company needs to continue executing well to maintain that valuation. A recent monthly sales report spooked investors expecting better numbers and resulted in a one-day drop of over 2%.

In sum
No stock is risk-free or perfect for every investor, but McDonald's offers investors a good income stream that's likely to keep growing, some protection against market downturns and good prospects to capture a big bite of bull market gains. That makes it an ideal core stock pick for many investors and those are some of the reasons that my Foolish colleague Jim Royal has called the stock a dividend play for a lifetime.

Interested in reading more about McDonald's? Click here to add it to My Watchlist, and My Watchlist will find all of our Foolish analysis on this stock.