Fast food giants McDonald's (NYSE: MCD ) and Burger King (NYSE: BKW ) both reported earnings last week. Unfortunately for shareholders of both companies they each reported poor North American comparable sales, and blamed the rough winter (in part) for the result. This begs the question: Were the results due to the weather or is the real reason that fast casual competitors like Chipotle (NYSE: CMG ) eating into their core business?
Burger King and McDonald's first quarter earnings were both largely "in-line" with expectations. Burger King's sales grew 6.9%, and same store sales rose 2%; McDonald's fared slightly worse with same-store sales growth of 0.5%, revenue growth of just 1%, and a 1% decline in operating income. The results ranged between sluggish (Burger King) and sour (McDonald's), especially in North America, and both management teams are blaming the winter weather for the results.
Weather related performance
Considering Burger King posted North American sales growth of just 0.1%, and McDonald's actually saw a decline of 1.7%, the winter weather may be the culprit. When you take into account both companies actually saw growth in their overseas operations, it gives that argument more footing. Critics however, point to Chipotle's staggering 13.4% same-store sales growth in the quarter, despite its heavy U.S. footprint, and say the results are due to changing consumer tastes. Such a change would mean that Burger King and McDonald's "slump" could be part of a bigger decline, as consumers move toward healthier fast options. Aiding that argument is Chipotle's revenue growth beyond the past wintery quarter, which has far exceeded McDonald's.
It's quite difficult to decide if these fast food giants are going through a slump, or a decline. One could easily say they have a larger base, therefore top-line growth is a challenge, but their comparable sales have struggled as well. For the purpose of this single argument, however, I believe it is fair to blame the weather, and not just because North American locations lagged.
Burger King and McDonald's serve a different market than Chipotle. Since fast casual restaurants are bringing tremendous growth to the market right now, they incorrectly are used as a standard for all restaurants. On its earnings call, Chipotle's management mentioned that fans were happy to brave rough weather to get to a Chipotle, but McDonald's and Burger King don't expect customers to go "out of their way." Through their thousands of locations, all equipped with a drive-thru, they offer customers convenience first and foremost. In other words, Burger King and McDonald's aren't expecting you to go out of your way for your hash browns and coffee, they're just a ritual on your way to work or soccer practice.
If you skip a trip to McDonald's because work or school are cancelled, you're not going to buy two breakfasts the next day. That's what gives fast food chains a bit of a free pass for the weather as opposed to, say, a grocery store chain. So why has Chipotle, along with a few other premium restaurant brands, defied this trend? Because customers love the food; Chipotle is not a commodity, fast food is.
For the fifth straight year, fast casual lead restaurant growth as the fastest growing subcategory in the highly diverse restaurant industry. The only other segment that fared nearly as well was fine dining simply because both options have food that customers go out of their way for. Fast food stocks were probably affected by the weather which illustrates how little customer loyalty they have. With that in mind, fast food stocks could make sense in a portfolio, but only at a cheap valuation. Any investor valuing restaurant stocks should be considering these growth trends, and the dichotomy in customer loyalty, in their valuation. McDonald's trades at a forward P/E of 16, Burger King at 23, and Chipotle at 31. With a forward P/E at half of Chipotle's, and a plus 3% dividend yield, McDonald's looks fairly valued (given its slow growth), while Burger King seems a little pricey. As always Foolish investors should do their own research before making any investment decisions.
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