McDonald’s Corporation (NYSE:MCD) is scheduled to announce its earnings on April 16. It will be a tough quarter for the world’s largest fast food chain because of several reasons. Firstly, it faces a difficult comparison since the sales in the first three months of 2012 were unusually high. A warmer winter in the U.S. last year resulted in better-than-expected sales so these results come on top of a high base.
McDonald’s global same-store sales had surged 7.3% in the first quarter of 2012 [McDonald’s (MCD) U.S. Comp Sales Rise 0.9 Pct In January, February 8, 2012, istockanalyst.com]. On the contrary, the fast food chain’s comparable sales were down 1.9% and 1.5% in January and February respectively. Comparable sales, or same-store sales growth, is an important measure to gauge a restaurant’s performance since it only includes the restaurants open for more than a year and excludes the effect of currency fluctuation.
Secondly, margins of its company-operated restaurants are under pressure. Due to tepid same-store sales in the second half of 2012, McDonald’s had upped its focus on value meals such as the Dollar meals in order to boost footfalls. Recent additions to the Dollar menu include the Grilled Onion Cheddar burger and the Hot ‘n Spicy McChicken. However, value meals generally have lower margins and are offered by the company to attract more customers with the hope that they might spend more on other expensive (and more profitable) items.
Operating margins for the company reported restaurants were down 90 basis points to 17.8% in the fourth quarter of 2012. We expect McDonald’s company-operated margins to remain more or less flat in 2013, since the company expects the commodity costs to rise a reasonable 1.5-2.5% in the U.S. and 3-4% in Europe.
New menu introductions will be critical for McDonald’s to recoup some of its lost margins. The company has added Fish McBites to its menu this year and plans to debut new beef sandwiches and chicken entrees soon
Franchised Margins To Remain Stable
Margins of its franchised restaurants are likely to remain in a narrow range since the company doesn’t incur the food and labor expenses for such restaurants. McDonald’s franchised margins have shown little variation historically and were flat at 83% in 2012. Consequently, going forward, we don’t expect any significant deviation from the current set of numbers. McDonald’s has more than 33,000 restaurants globally about 80% of which are franchised.
Meanwhile, the fast food chain’s global expansion will continue particularly in Asia/Pacific. It opened 970 new restaurants in 2012, out of which 241 were in China alone. In 2013, the world’s biggest fast food chain plans to accelerate the global additions to 1200-1300.
We have a $92.80 price estimate for McDonald’s, which is about 5% lower than the current market price.
Disclosure: No positions