Global restaurant giant McDonald's (MCD) reported second quarter results Monday morning. Not surprisingly, currency fluctuations struck again and contributed to the firm falling short of consensus expectations. During the second quarter, the firm earned $1.32 per share versus a consensus estimate of $1.38, and down 2% year-over-year (up 3% excluding currency fluctuations). Total revenue was flat year-over-year at $6.9 billion, though it was up 5% (excluding the impact of currency) thanks to same-store sales growth of 3.7%. Short-term speculators seem fixated on the earnings "miss," but our fair value estimate for McDonald's remains unchanged. Please click here for our valuation report on the firm.
Business in the United States remained strong for McDonald's, though we note that competition is making greater strides. Same-store sales grew 3.6% during the second quarter, and operating income grew 2%. Burger King (BKW) in particular has improved menu offerings, and Taco Bell (YUM), which tends to focus on the low end and offer a value proposition, posted strong same-store sales growth in the quarter (13.1%). We think the firm's strong showing can be attributed to its value proposition, as well as continued new menu items like the Spicy Chicken McBites and the Cherry Berry Chiller.
Same-store sales in Europe were surprisingly strong during the second quarter, growing 3.8%. With the region struggling through austerity measures and economic contraction, we suspect McDonald's value offering is very compelling and think it will continue to perform well even in difficult times. Operating income in the region fell 3% as a result of exchange rate fluctuations, but grew 8% on a constant-currency basis. Management specifically pointed to strength in the UK and Russia, as well as new value offerings in France that drove strong June comps. Currency will likely continue to be a powerful foe going forward.
Although we thought results in Europe were strong, results in Asia/Pacific, Middle East and Africa were mediocre at best. Same-store sales grew only 0.9%, and operating income decreased 2% (up 1% in constant currencies). Same-store sales in China grew 2.2%, and management pointed to weakness in Japan as a negative contribution. We think the slowing growth in China, while still impressive, is largely a negative for discretionary spending items like McDonald's. Yum Brands also reported less-than-stellar results in China, so we think it is largely a regional issue.
Overall, though results were mixed, we do not think they were that disappointing at all. Same-store sales growth held up relatively well, and the firm is investing billions of dollars in new restaurants and upgrades worldwide. CEO Don Thompson is already receiving some heat for the "lackluster" quarter, even though he's only been on the job for a few weeks. We aren't ready to panic yet and throw in the towel regarding McDonald's, but the continued negativity could put downward pressure on the stock. We think the stock becomes very intriguing under $76 per share (the low end of our fair value range) and a very compelling dividend growth investment at such levels. We're on the sidelines for now.