While the broader market is down since early 2022, McDonald's (MCD 0.47%) stock is setting new highs this year. It's not hard to see why Wall Street loves the Golden Arches right now. Sales growth is accelerating even as consumers pull back spending in other areas. Profitability is also climbing further into record territory.
Let's take a closer look at the fast food chain's operating momentum through early 2023 and determine whether the stock is a buy, sell, or hold at its current valuation.
Tasty trends
McDonald's has a firm grip on an expanding fast-food industry. Comparable-store sales gains accelerated to a blistering 13% in the core U.S. market and across the wider global sales footprint in Q1. That result put the chain ahead of other fast-growing peers, including Chipotle and Starbucks. Mickey D's is seeing higher customer traffic, but also increased spending thanks to rising menu prices.
Many positive factors went into that market share growth, but management is crediting initiatives that have raised customer satisfaction, including better staffing levels, training, and quicker order delivery. That's great news for shareholders since these gains are more sustainable than, say, rising traffic from a hit new limited-time menu item.
"Running great restaurants is fundamental to our business momentum," CEO Chris Kempczinski said in a press release.
Profiting more
The chain is paying more for everything from wages to key ingredients, yet those pressures are being easily offset by growth and price increases. McDonald's operating margin is approaching 45% of sales compared to the 15% that both Chipotle and Starbucks managed in the first quarter.
MCD Operating Margin (TTM) data by YCharts
Those peers don't share McDonald's fully franchised operating model, and so their profitability is understandably lower. But Mickey D's is also outperforming more comparable peers like Restaurant Brands International, owner of the Burger King and Tim Hortons franchises. This margin expansion is a major factor pushing the chain's stock toward new highs because it points to accelerating profit growth ahead. McDonald's earnings rose 19% last quarter after adjusting for currency exchange rate shifts.
Buy, sell, or hold?
The main risk for investors is in paying too much for this high-performing business. McDonald's shares are valued at over 9 times annual sales. That's a new high for the stock and is well above the valuation of most fast-food peers. You can own Domino's, for example, for about 2.5 times sales, while the price-to-sales ratio for Chipotle stock is 6.4.
McDonald's high valuation seems riskier still given the potential for a recession or slowing economic growth ahead. Yes, the chain is likely to perform well through a consumer spending pullback; it has in the past. But the stock has further to fall if markets take another step lower over the next few quarters.
As a result, McDonald's stock fits in the hold category today. There's no reason for investors to abandon the bullish thesis, which is currently playing out as evidenced by higher traffic and profitability. Yet Wall Street has priced in plenty of that optimism by sending the stock to nearly $300 per share. Investors should keep this excellent growth stock on their watchlist, then, for the next time market volatility produces a more compelling purchase price.
