Arcos Dorados: Enormous Growth Potential Regardless Of Economy

Aug.31.11 | About: Arcos Dorados (ARCO)

With the global economy in flux, it is a hard time to find consumer stocks that will not be crushed by the weakened American consumer. Arcos Dorados (NYSE:ARCO), the Latin American holding company for McDonald's (NYSE:MCD), offers the growth potential of the emerging market consumer while having the stability of a long standing American brand. Due to strong technicals and its excellent growth potential, Arcos Dorados is a buy.

Arcos Dorados is the world's leading franchiser of McDonald's restaurants. Its 1,757 locations span across Latin America, including Brazil, Mexico, Argentina, and the Caribbean. Outside of Mexico, where Burger King (BKC) is the leader, McDonald's is the most popular fast food restaurant in Latin American nations including Brazil (50% of ARCO's revenues come from Brazil). Brazil is one of the world's fastest growing consumer markets. As a whole, the Latin American fast food industry has grown by an average 15% over the past five years and this trend has been accelerating. With more of the lower and middle classes being able to afford to go out to eat, McDonald's serves as an entry point to this market. Also, if economic growth slows, food is usually one of the last expenses consumers cut back on.

Financially, the forward P/E ratio is high (35.95), but with expected growth of 27.7% over the next five years, the valuation is reasonable (PEG ratio at a cheap 1.28). The profit margin has remained static, but the free cash flow has gone up 32.5% over the past year and the company has been paying off its debt. This growth in cash flow will eventually translate to higher earnings statements and already adds real value.

Technically, the stock has performed incredibly well since its April IPO. The stock is currently trading in a bullish upward channel and has two support levels at $22 and $24 per share respectively. On Tuesday, ARCO broke out of its resistance of $26 per share while the rest of the market only rose slightly. Other positive technical signals include a bullish MAC-D indicator and relative strength.

Overall, there may some intense volatility in this stock, but I am long term bullish on Arcos Dorados. The combination of growth of consumer societies in emerging markets and the recession-resistant fast food industry provides for stable earnings growth. Since the company's IPO was fairly recently, I may buy some shares now, but will hold back the majority for limit orders at around its $24 support as a bad unemployment number will drag the whole market down and create buying opportunities.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in ARCO over the next 72 hours.