Thursday, April 26, 2012

McDonalds (MCD) Sale Thesis

McDonalds has thrived in the UASBIG portfolio, returning approximately 40% from its share price alone.  It has blown through its target price multiple times since it was added.  MCD has posted better than expected sales in recent quarters, which is not sustainable.  Since it has been doing well for so long, there is pressure to continue to beat estimates on the street.  At this point, we believe MCD has become overvalued & should be sold from our portfolio.  

Its recent growth is attributed to market share gains in the U.S. & Europe, which were driven by the McCafe line, longer hours, & an expanding breakfast menu (among other things).  But, its growth prospects should be limited in the eurozone in the coming years.  Compared to the fast-food prices in the U.S., MCD's pricing in the eurozone is more expensive compared to casual restaurants in each country.  If countries in the eurozone grow at a slow rate, MCD's sales should suffer.  Also, in its most recent conference call, CEO Jim Skinner predicted that higher commodity costs & exchange rates should hurt margins in 2012. 

Brands like KFC (YUM! Brands) should take away market share from MCD in emerging markets, especially in China.  So far, YUM! Brands has been much more successful in China than the U.S.  The ratio of KFC's to MCD in China is 10 to 1.  On Wednesday, McDonalds announced that CEO Jim Skinner will be retiring on June 30th of this year.  Donald Thompson, head of global strategy, will be replacing Jim as CEO.

From an industry-wide perspective, quick-service restaurants have been outperforming casual restaurants since the third quarter of 2009 (by comparing average same store sales).  We believe that an improving macroeconomic environment in the U.S. will cause MCD to lose some of its market share, as consumers return to less price-sensitive options for breakfast & dinner. 

We will continue to monitor MCD in the future to reassess its catalysts & potential growth.

As of April 9th, 2012

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