Better Dividend Stock: Starbucks Corporation or McDonald's Corporation?

Source: Flickr user _J_D_R_. 

If investors are curious what the "X factor" is that separates an exceptional retirement portfolio from an average one, it's the ability to pack it with high-quality dividends. Based on data from Susanna Kim at ABC News in 2012, dividend yield and dividend growth were responsible for 90% of the S&P 500's nominal return between 1910 and 2010, proving that dividends really are that important.  

Yet, the fact remains that a good portion of dividend stocks really aren't that appealing. Either the dividend itself is tiny, the payout isn't sustainable, or the business model behind the company paying the dividend is at risk. For investors, it means they have to be willing to dig beneath the surface to uncover the growth, value, and sustainability of both the company and the dividend in order to get a better picture of what they're considering investing in.

Today we're going to do just that by more closely examining two nationwide fast-casual juggernauts in Starbucks (SBUX 1.09%) and McDonald's (MCD 0.38%). By focusing on both companies' growth prospects, overall value, and the sustainability of their business platforms and dividend distribution we'll be able to decisively determine which restaurant is really the better dividend stock.

Growth
The first thing investors want to look for when examining a dividend stock is whether or not the business paying that dividend is growing its sales and profits. Chances are if one or both have stalled it could make it difficult to increase that dividend payment in the future (or perhaps even maintain a payment at current levels). Between coffee king Starbucks and fast-food giant McDonald's there are some clear growth differences.

On one hand McDonald's has witnessed its growth engine stall after years of innovative outperformance. What's to blame, you wonder? It's really a confluence of a number of factors which I've outlined before. To summarize, these include poor quality food, the lack of an all-day breakfast menu, the inability to connect with millennials, dollar value menu chaos, far too many items on its menu, and not enough healthy food choices. Overall, Wall Street is forecasting that McDonald's will see top-line growth of just 1% this year and next year. Thankfully tight cost controls should allow for modestly quicker EPS growth rates.

Source: Starbucks.

Starbucks, though, doesn't have the same global saturation that McDonald's has, thus it's able to rely on emerging market regions where it's yet to establish itself to fuel its top and bottom line growth. In addition, Starbucks' core customer is typically more affluent than McDonald's customer, which means its growth is a bit less likely to fluctuate. Finally, consider that Starbucks has a number of key partnerships which are boosting its growth prospects, including with Keurig Green Mountain in the single-serve brewing market where it's now a competitor. Combining these factors makes it easier to understand why Starbucks is projected to continue to grow its sales by double-digits.

With Starbucks expected to open 1,500 stores in China by 2015 the growth category easily goes to Starbucks. 

Value
In addition to sales and profit growth, investors also want to feel as if they're getting a good value when they invest in a business. This is because dividend stocks are not only great for dividend income, but they can provide ample share price appreciation which, over time, can lead to substantial gains from an initial investment. Let's take a quick look at some of the key metrics that income-seekers should focus on for Starbucks and McDonald's that might help us establish which company is the better value.

Source: Yahoo! Finance. TTM = Trailing 12-months.

Despite Starbucks growing much faster than McDonald's, the golden arches are a much more formidable foe for Starbucks when we're talking about which company is the better value. Starbucks' faster growth rate certainly leads to a more attractive PEG ratio. Also, Starbucks' net debt of just $0.9 billion is another reason the company might be considered attractive by investors. McDonald's, though, is considerably less expensive on a forward P/E basis and boasts juicier profit margins, at least over the trailing 12-month period.

Although this is a tough call, McDonald's superior cash flow potential and lower forward P/E more than offsets its net debt position and gives it a slight edge in my book when it comes to being a better value.

Sustainability
Finally, income investors want to buy into companies that not only are growing and attractive today, but whose business model has staying power for 10, 20, or even 30 years, because that's when the "X factor" gains are made.

In one corner I'd say that McDonald's has a good stranglehold on the long-term sustainability of its brand. According to InterBrand's 2013 Best Global Brands top 100 list, which ranks brands around the world based on their proprietary value formula, McDonald's is the seventh most valuable brand in the world. It's easy to recognize logo does provide instant appeal and a lasting connection with consumers.

However, I wouldn't discount Starbucks, either, which is currently 91st on InterBrand's list. Although Starbucks isn't as recognized as McDonald's globally, it has aspirations of beefing up its ex-U.S. store openings in the coming years. Because it isn't as saturated around the globe Starbucks has considerably better sustainability from the growth aspect than McDonald's.

Ultimately, this comes down to dividend payout and sustainability, and in this regard I believe McDonald's has a slight upper hand.

MCD Dividend data by YCharts

With a yield of 3.4%, McDonald's is paying out about 55% of its projected fiscal 2015 EPS, which fits perfectly within the sweet spot. The "sweet spot," as I refer to it, equates to a payout ratio of 50% to 75%, which leaves ample room for steady dividend improvement, but also ensures that shareholders get a good chunk of profits. Starbucks, while growing its dividend quickly since it introduced its first payout in 2010, is yielding just 1.3% and paying out only 33% of its forward earnings.

Source: Flickr user Robert Sanzalone.

The better dividend stock is...
After carefully weighing McDonald's and Starbucks against one another, the better dividend stock just happens to be the one with the higher yield in this instance: McDonald's. Make no mistake about it; I believe that investors could find success investing in both McDonald's and Starbucks. However, McDonald's strong global brand recognition, its consistent cash flow, and its willingness to pay out a sustainable but meaningful 50%-plus of its profits as a dividend to investors is a sign that it's the better dividend stock. Even though the company has hit a few bumps in the road now, the way over those humps isn't a secret, and it's reinvented itself on a number of previous occasions.