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McDonald’s Operating Income Flat in Fourth Quarter

publication date: Jan 23, 2014
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author/source: Brian Nelson, CFA

When a firm’s Valuentum Dividend Cushion score starts to fade as McDonald’s (MCD) score did recently, it shouldn’t come as a surprise that the trajectory of its dividend growth will start to fade, too. McDonald’s recently increased its dividend 5%, but payout expansion will become increasingly more difficult if the fast-food giant continues to post results like its fourth-quarter performance, released Thursday. During the period, McDonald’s revealed a global comparable sales decline of 0.1% as a result of a negative comparable guest count and flat consolidated operating income (up 1% excluding currencies). This performance, of course, is not conducive to large future dividend increases.

In the US, McDonald’s comparable sales decreased 1.4% in the fourth quarter, as operating income advanced just 1%. We’re not optimistic on McDonald’s ability to right the domestic comparable sales decline anytime soon (despite efforts to strengthen its focus on menu choices and customer engagement), particularly in the face of greater burger competition across several verticals of the restaurant chain, as we previously outlined:

The “burger business” is becoming increasingly more competitive every day. Burger King (BKW) has brought back the “Big King” sandwich, which is almost a mirror image of the Big Mac, given its middle bun. Darden’s (DRI) Olive Garden has rolled out an ‘Italiano’ burger as it can no longer do without a burger menu offering. Wendy’s (WEN) new Pretzel Bacon Cheeseburger helped drive the best two-year stack for same-store sales in the third quarter since 2005. Red Robin Gourmet Burgers (RRGB) seems to have hit the sweet spot with consumers. The firm’s high-quality gourmet burgers helped drive its third quarter (ended October 6) company-owned comparable restaurant revenues 5.7% higher than the same period a year ago. Red Robin experienced a 1.1% increase in traffic and a 4.6% increase in the average guest check, revealing that the underlying components of comp expansion were solid. Not only are burger options proliferating, but consumers are also opting for healthier alternatives at Panera (PNRA) and Chipotle (CMG).

McDonald's experienced 3% comparable sales growth in Europe in the fourth quarter thanks to improved performance in the U.K., Russia, and France, but its Asia-Pacific, Middle East, Africa (APMEA) segment suffered from weakness in Japan and flat performance in China and Australia. APMEA comparable sales dropped 2.4% in the quarter. Looking ahead, McDonalds expects more of the same. Global comparable sales for the month of January are expected to be flat, and we wouldn’t be surprised if weakness persists through the remainder of the quarter and likely beyond that.

Valuentum’s Take

McDonald's is a global powerhouse with significant brand strength and powerful cash-generating trends. However, what makes a good company doesn’t always make a good stock. With operating income under pressure, the likelihood for better-than-expected dividend increases is remote. The fast-food giant continues to trade within our estimate of its fair value range. The best ideas are included in the Best Ideas portfolio and Dividend Growth portfolio.


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