A Restaurant Ready to Shine

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McDonald's (NYSE: MCD) has been on a resurgent path in the last seven years, returning an average annual 24% to shareholders in capital gains plus a few percentage points more with its ever-increasing dividend. But how long can it continue such outperformance? Let's take a look a McDonald's strengths and weaknesses as well as some potential opportunities for this fast food giant.

Super-size me
You say, "Recession." McDonald's says, "Super-size me!" Contrary to most restaurant chains, this company is weathering the economic downturn and serving up some tasty shareholder morsels. Why? It has one of the strongest brands around and a formidable level of operational excellence.

With 32,000-plus restaurants in more than 100 countries, McDonald's trounced analysts' projections with its recent earnings report. The chain still dominates the U.S. fast-food market, with runner-up Burger King (NYSE: BKC) a distant second, in what experts predict will be a $170 billion segment in 2010. During the third quarter, McDonald's global same-store sales jumped 3.8%, including the following performances:

• The U.S. up 2.5%
• Europe soaring 5.8%
• Asia/Pacific, Mid-East, and Africa up 2.2%

Brand, for McDonald's, is indeed golden. The company plans to add 1,000 new locations in 2010 while "re-imaging" an additional 2,300. It's banking on consumers continuing to trust its name and consistent customer experience, even with the addition of relatively upscale coffee bars in many locations. So far there's been no reason to doubt they will.

Operationally, McDonald's runs a tight ship. In its most recent quarter, operating income was up 6% over the prior year. In September it instituted a 10% increase over its previous quarterly dividend payout, bringing the quarterly cash dividend to $0.55 per share, or about $2.20/share a year. The company has been raising its shareholder dividend for more than 30 years (really!). That's impressive growth no matter how you slice it.

Something else to consider: During the last decade, McDonald's has been steadily buying back its own stock, reducing share count almost 18% since 2000. That's serious internal confidence.

Too many cooks?
Remember the old adage, "If you want something done right, do it yourself"? This had been a cornerstone of McDonald's business model for years. But today 80% of the company's restaurants worldwide are owned and operated by franchisees. That number is swelling as part of a three-year goal it set for 2007-2010 to refranchise an additional 1,000-1,500 company-operated restaurants. Notably, McDonald's also sold off about 1600 stores in several key international markets during the past two years.

While the move is likely to ultimately increase McDonald's return on assets, it does pull control away from command central. Does this mean your Big Mac's special sauce may taste different at different locations? Not likely. But it does leave a greater margin of error in carrying out the company's brand mission and seems to go against McDonald's internal "Plan to Win," which holds up consistency as a key cornerstone of its drive to be not only bigger, but better.

McDonald's could also begin suffering from too much of a good thing. With so many locations speckling our neighborhoods, the U.S. market is becoming saturated. Of the 1,000 stores the company committed to opening in 2010, only 150 will be in the States.

Additionally, McDonald's will up its capital expenditure in 2010 to $2.4 billion to foot the bill for all that upscale reimaging.

Know thine enemy
Sometimes a company's best advantage is a competitor's disadvantage. Today's more agile McDonald's is well primed to lure penny-pinchers. While erstwhile Starbucks (Nasdaq: SBUX) regulars are starting to say "no thanks" to a $4.50 latte, McDonald's is here to lure them with a new line of gourmet coffees and extended breakfast offerings. For the sophisticated foodie who can no longer afford his fix, McDonald's just introduced the Angus beef burger.

The menu is also getting healthier. McDonald's appears to have learned a thing or two about consumers' waistline obsession from its brief flirtation with Boston Market and Chipotle (NYSE: CMG) (NYSE: CMG-B). Though McDonald's disposed of those interests in 2006-2007 to refocus on delivering its own brands, it came away with a new emphasis on healthier offerings. If you can get past those addictive fries (is it the oil, the salt?), you'll notice a variety of salads and grilled entries on the menu. The divestitures also allowed McDonald's to expand its own menu. Witness the recent introduction of burrito-style products. It's no Yum! Brands- (NYSE: YUM) owned Taco Bell, but the variety is notable.

Healthy appetites
So what could threaten the McDonald's machine? Sure, there have been a few lawsuits about whether or not those fries and hash browns really do contain wheat and gluten (those of us without allergies, frankly, are just more concerned about the addiction). But the greater threat is the overall move toward healthy eating in the U.S., where the lion's share of McDonald's restaurants are located.

Despite some innovative marketing efforts, it's hard to claim good, clean eats now when you've built your dynasty on burgers and shakes. A salad is a salad is a salad? Not necessarily. No matter how fresh the lettuce, some people just can't get past feeling guilty -- and greasy -- when the salad's stamped with the golden arches. Might this be a place for fast casual joints such as Panera (Nasdaq: PNRA) to make further inroads into the McDonald's clientele? Changing McDonald's image is going to take continued some work for the house of Kroc.

Where's the company about to dominate? Where's it about to be crushed? Share your thoughts about the company's strengths, weaknesses, opportunities, and threats (and, sure, your favorite menu item, too) in the comments section below.