Since mid-October, the stock markets have dropped, partially recovered, and dropped again. Overall volatility has increased, mostly to the detriment of market investors. One particular stock, however, has been making steady gains during this same period, with those gains starting just one week after the initial market drop. That stock is McDonald’s Corporation (MCD – Research Report), the fast food giant with the instantly recognizable golden arches. We’ll take a look at MCD in the news, and through TipRanks’ analyst database, to understand where the stock has come from and where it is headed.
Mixed Messages in an Upbeat Third Quarter
McDonald’s reported Q3 earnings on 23 October. The results were complex, combining both good and bad news, but with positive reasons for the negative aspects.
Start with the unequivocally good. Revenues and earnings per share both beat the estimates, by significant margins. Revenue came in at $5.37 billion, compared to the expected $5.32 billion, while the $2.10 EPS clobbered the $1.99 estimate. Same store growth met the expectation, at 2.4% in the US market.
On the bad side, all of these numbers were down year-over-year. EPS in Q3 2017 was $2.32, while revenue slipped 7% from $5.75 billion.
And now the positive reason: McDonald’s has been implementing an aggressive improvement plan in the infrastructure and menus of their restaurants. The company is on track to spend $1.6 billion on remodels and rebuilding for 2018, and the total improvement budget is expected to reach $6 billion by 2020.
Investors were more impressed by the strong Q3 beat and the clear plan for future improvements. They took the year-over-year declines in stride, and the day of the Q3 release MCD jumped $11, almost 7%, to $176 per share.
In another impressive feature for investors, McDonald’s has continued its long-held policy of paying regular dividends to shareholders. The company has paid out in 12 of the last 16 quarters, including 11 payouts during the period of the improvement plan. That McDonald’s has been able to implement a multi-billion-dollar turnaround strategy while also covering a regular dividend yield of 2.5 to 3% speaks to its underlying strength and positive cash flow.
Smart Leadership and a Clear Plan Bode Well
McDonald’s CEO Steve Easterbrook took the helm of the company in March 2015. At that time, the company was facing serious headwinds. McD’s reputation and market share were suffering as competing fast food chains put out fresher, healthier menu offerings. That year, McDonald’s saw the first sales decline in 12 years. Easterbrook, who had turned around the company’s European operations, was put in the top post to duplicate that success globally.
He started with the basics. Over previous years, McDonald’s had added menu items in an attempt to bring in more customers. Easterbrook stopped that. He oversaw a streamlining of the menus, paring back unsuccessful products to bring a renewed focus on the company’s best sellers and core items such as Quarter Pounders, cheeseburgers, and chicken nuggets.
The menu also changes included better quality ingredients, especially a switch to fresh beef instead of frozen, cage-free eggs, and antibiotic-free chicken. Other improvements – automated ordering kiosks and a delivery option – were first suggested and implemented by overseas franchisees.
Easterbrook’s efforts, which he dubbed the Turnaround Plan when it was launched in May 2015, have been successful. Since Q4 2015, same store sales numbers have shown consistent growth, along with customer satisfaction. Of more importance to investors, MCD’s stock price has more than doubled since August of that year, rising from its bottom of $82 to the current share price of $185.
In a recent comment on his Turnaround Plan – the restaurant improvements and the menu changes – Easterbrook says, “We still have hard work ahead, but we are seeing encouraging response from customers in restaurants where many of these improvements already completed. This is in line with our experience in other McDonald's markets such as Canada, the U.K., and Italy that executed programs several years ago that were similar to the one the U.S. is undertaking now.”
While Easterbrook’s plan involves considerable expense, as well as construction efforts that tend to reduce store traffic while in progress, overseas markets have shown that the results are worth the effort. The UK, France, and Australia showed 5.4% growth in same-store sales growth during Q3, a wide beat of the 4.1% expectation.
A Stock that has Hit the Price Target
MCD has posted gains in 5 of the last 6 six trading days, and the current share price stands at $185. The average price target, however, is $192, making the upside potential a mere 3.8%. At such a low upside, why does MCD hold a ‘Strong Buy’ rating?
The answer lies in the background cited above. McDonald’s stock has been rising steadily for a long time – in fact, it has gained over 15% in the last three months – and the low upside potential is an artifact of that rise. MCD has caught up to the price target, and the analysts haven’t yet had time to set a new target.
A look at the analysts’ report history bears this out. At the beginning of November, MCD had several ‘hold’ ratings, and an average target of $187; four days into December, the last five analyst ratings are all ‘buy,’ and the average price target is $197.
The highest price targets are the most recent. Last week, Baird’s David Tarantino (Track Record & Ratings) issued a ‘Buy’ rating with a $200 target. He said that he sees McDonald’s with “a strategic plan for a rollout in the U.S., which will lead to positive investor sentiment and support for its premium valuation.” Tarantino has a successful history recommending MCD stock; 17 of his last 19 ratings have been profitable, and his average return on the stock is 18.4%.
Just one day after Tarantino’s positive evaluation, Morgan Stanley analyst John Glass (Track Record & Ratings) also gave MCD a ‘Buy’ rating. His price target, of $210, suggests a 13% upside potential and is a significant upgrade from his previous $173 target.
Glass described the company’s modernization efforts as “underappreciated,” and described MCD as a “stabilizing, defensive counterbalance in a volatile market environment.” In a longer note, he specifically recommended the stock: “We are endorsing the notion that McDonald's massive store modernization efforts, first rolled out in select international markets and now in the US (its single largest market), will begin to pay off in 2019 and should produce best in class sales results for more years to come.”
Smart Policies have Attracted Investors
In short, McDonald’s stock price has been driven by smart leadership, with a clear plan for the company’s future, and a series of strong earnings reports, culminating in this past October’s excellent Q3. The stock’s steady price growth over a prolonged period is a clear indication that company policies have drawn in investors.
Author: Michael Marcus
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
