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Is McDonald's Corp. a Buy?

By Jeremy Bowman - Updated May 8, 2018 at 3:03PM

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The fast-food giant has crushed the market over the last few years. Can it keep outrunning expectations?

There's no question that McDonald's has delivered for investors in recent years. The stock is up 71% over the past three years, since CEO Steve Easterbrook took over, easily outperforming the S&P 500's increase of 26% during that time. Factoring in McDonald's current dividend of 2.6%, shares have returned 87% over the last three years. 

At a time when other U.S. restaurant chains have suffered from the "restaurant recession," the Golden Arches has put up consistently strong results, and it just capped off its 11th straight quarter with positive global comparable and its fifth straight of positive guest counts. Thanks to initiatives like all-day breakfast, eliminating antibiotics in its chicken, and using fresh beef in Quarter Pounders, the chain is resonating with customers, and sales are steadily growing. Meanwhile, its decision to refranchise restaurants in places like China has helped improve operating margins and boosted the bottom line, as earnings per share are up 33% over the last two years.

Still, past success is no guarantee the future will be the same. Let's take a closer look at McDonald's position today to determine whether the stock is a buy.

The exterior of a McDonald's restaurant during the day.

Image source: McDonald's.

The Velocity Growth Plan

When Easterbrook announced in 2015 that McDonald's would finally give the people what they wanted and sell breakfast all day, many analysts cheered the move. However, some (including myself, to my chagrin) questioned the ability of such an initiative to deliver long-term growth. Three years later, Easterbrook has proved himself to be much more than a one-trick pony as he has continued to pioneer improvements to the brand and menu to make the chain a "modern, progressive burger company," as he likes to put it. 

A year ago, the company introduced its Velocity Growth Plan, which focuses on delivering the brand's simple promise of "hot, delicious food served quickly -- with an overall experience and value for their (customers') money that meets their rising expectations."

Specifically, the plan focuses on retaining current customers, regaining former patrons, and increasing visits from casual customers. Management sees more growth opportunities in the digital realm, with things like its mobile app and ordering kiosks, delivery by partnering with third-party services like UberEats, and the "Experience of the Future" in the U.S., which is based on restaurant remodeling. McDonald's has offered to pay 55% of the cost for franchisees to make renovations such as adding self-order kiosks, improved dessert counters, and a system to help employees bring food to customers' tables. 

Based on the company's comparable sales increase of 5.5% globally in the first quarter, the plan appears to be a success as comps were up by 2.9% or more in all four of its regions, and  Easterbrook noted improved customer satisfactions scores around the world. At home, the new $1, $2, $3 value menu also seems to be popular. Easterbrook referenced the Velocity Growth Plan multiple times on the recent earnings call, and the company looks to be on the right track as it implements the next elements from its guiding strategy.

Is the price right? 

Like the most stocks with improving prospects, McDonald's has gotten more expensive since Easterbrook took the helm as its P/E ratio has increased from about 21 to 26.2 today. However, that expansion has tracked with the broader market, which has also gotten more expensive in recent years.

The chart below shows how McDonald's compares with some of its closest peers based on its valuation and expected growth rate.

Company P/E Ratio 2-Year Expected EPS Growth Rate
McDonald's (MCD 2.46%) 26.2 23.6%
Starbucks (SBUX 3.76%) 26.2 27.3%
Wendy's (WEN 2.54%) 21.8 58.1%
Restaurant Brands International (QSR 2.87%) 21.4 41.9%
Yum! Brands (YUM 2.82%) 23.2 29.7%

Data source: Yahoo! Finance. EPS = earnings per share.

As the above table shows, McDonald's may not be an appealing investment compared to its peers. It has the highest price (tied with Starbucks), but the slowest expected growth rate. The stock may be trading at a premium to its peers due to the company's impressive same-store sales growth, its higher dividend yield, or the value of its brand, which represents the world's biggest restaurant company, or the fact that it's been the best performer over the last three years.

Time to buy?

Though some investors may be dissuaded from taking a stake in McDonald's, they should remember that the expected growth rate is just a forecast, and McDonald's has generally beaten estimates in recent quarters. The stock jumped 5% after the first-quarter earnings report, and the company's topped earnings estimates in four of its last five reports. 

McDonald's is also growing faster than any of its peers on a comparable-sales basis, a metric often regarded as the most important indicator of a restaurant brand's underlying health. 

Some may argue that McDonald's is fully valued at its current valuation, but given Easterbrook's success thus far, as well as continued improvements likely to come from the Velocity Growth Plan, the strength of the McDonald's brand, and its status as a Dividend Aristocrat, the stock still looks enticing. Based on its current momentum and upcoming growth drivers, I think McDonald's is poised to continue outperforming the broader market.

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Stocks Mentioned

McDonald's Corporation Stock Quote
McDonald's Corporation
$252.96 (2.46%) $6.08
Yum! Brands, Inc. Stock Quote
Yum! Brands, Inc.
$116.71 (2.82%) $3.20
Starbucks Corporation Stock Quote
Starbucks Corporation
$79.26 (3.76%) $2.87
The Wendy's Company Stock Quote
The Wendy's Company
$19.36 (2.54%) $0.48
Restaurant Brands International Inc. Stock Quote
Restaurant Brands International Inc.
$51.59 (2.87%) $1.44

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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