It's been a disappointing year for McDonald's (NYSE:MCD) and its shareholders. Growth has slowed as the company struggles to adapt to ever-evolving consumer preferences. Meanwhile, shares of the burger giant are up 10% so far in 2013, which seems solid on the surface, until you consider that the S&P 500 is up more than 20% year to date.
Should investors stick with the company behind the golden arches? Or does one of McDonald's competitors present a better stock to buy?
Stiff headwinds are dragging down results
Fast food simply isn't great business right now, for a variety of reasons. First, consumers are becoming more health-conscious, particularly in North America. Many are simply consuming less fast food and opting for healthier alternatives.
Next, the global economic picture remains cloudy in many key markets for McDonald's. This includes its Asia Pacific, Middle East, and Africa region where same-store sales fell in October. In addition, McDonald's has whiffed on its attempt to reenergize its menu offerings, specifically on its Mighty Wings.
This is abundantly clear in McDonald's recent monthly sales, which have failed to impress. Global same-store sales, which measure sales at restaurants open at least one year, increased by just 0.9% in the third quarter. McDonald's followed up this performance by growing same-store sales by just 0.5% in October.
That being said, McDonald's still grew earnings per share by 6% in the third quarter, thanks to its effective cost controls. And, future growth is likely, due to the company's aggressive expansion efforts. McDonald's will spend as much as $3 billion next year to open at least 1,500 new restaurants and conduct 1,000 renovations. This gives management confidence it can reach its long-term vision which calls for 3% to 5% systemwide sales growth and at least 6% operating growth per year.
Fast-food competitors are no bargain
McDonald's isn't enjoying strong growth right now, but investors aren't paying a high price at the moment. In fact, McDonald's stock is much more attractively priced than many of its competitors. For example, Yum! Brands (NYSE:YUM) holds a fairly lofty valuation, especially considering its specific situation.
Yum! Brands first ran into trouble late last year. It was then that the operator of Taco Bell, Kentucky Fried Chicken, and Pizza Hut warned investors that its KFC performance in China would take a severe hit. This is because the Chinese government began investigating a chemical residue found in the company's chicken.
Sure enough, KFC same-store sales in China have fallen sharply this year, including 13% in the third quarter. In all, Yum! Brands' overall China same-store sales fell 11%. This is especially critical for Yum! Brands, since it derives more than half its total sales from China alone. And yet, even with these problems, Yum! trades for 30 times trailing earnings.
Meanwhile, one fast food purveyor doing well right now is Wendy's (NASDAQ:WEN), thanks to its robust turnaround efforts. Wendy's is switching to the franchise model, a good move for most fast-food companies since it places most of the maintenance and renovation costs on the franchisee. Wendy's also reorganized its product offerings, including its newly launched Right Price-Right Size menu which has enjoyed success.
Wendy's results prove its efforts have worked, but momentum appears to be slowing. The company's total revenue has inched up just 1% through the first nine months of 2013, and its operating income is flat over the same period. Even so, Wendy's shares appear generously valued. Wendy's expects full-year earnings of $0.25 per share, meaning the stock trades for 34 times its 2013 EPS.
Why McDonald's is on the value menu
By contrast, McDonald's trades for just 17 times trailing earnings, a discount to both Yum! Brands and Wendy's. Furthermore, McDonald's offers the highest dividend yield of the three, at 3.3% annualized. Yum! Brands and Wendy's yield just 2% and 2.2% respectively.
McDonald's generates reliable, if unspectacular results, and continues to be the industry leader. Its financial position is extremely strong, and the company returns billions to investors every quarter though dividends and share repurchases.
There's no denying that growth has slowed this year. That being said, McDonald's is still one of the most valuable brands in the world, and appears to be the best valued among the fast-food operators.