MCD – Stocks we watch – Why invest in MCD?

As a side note before we get into the daily grind aspects of how MCD controls their own path, let’s look at the way they have dominated customer loyalty programs lately. Rabid fans of MCD are utilizing the app and MCD is making purchasing easier for people across the board. The pick up and timing aspects of the application are worlds ahead of most other peers in the fast food space. They have more than 150 million active users. 

From an operational perspective, McDonald’s controls a lot of their supply chain and has the ability to invest in more an more bottom line optimization. An example is the commercial control over a large amount of their chicken sourcing, which continues to lower costs year over year for Chicken Nuggets, which somehow manage to always taste better than competitors. And it doesn’t seem to be a personal option of this contributor – they outsell most of their competitors on chicken products routines. Speaking of sales, net income rose about 7% Year over year. 13 continuous quarters of growth, even in a difficult retail economy. 

MCD controls the potato production for their fries almost completely, and controls everything about the farms they utilize that are outside of their explicit control for the commodity. Promotional campaigns offers a quick way for McDonald’s to snatch market share back from other competitors in the space. The loyalty program outperforms from a real-world perspective, and that is translating to the bottom line.

It’s very simple. Billions have been served. Millions of people crave McDonald’s specific taste profile despite it obviously being not the most premium product in the space, and objectively not the tastiest. There is something to be said for consistency in food – if you can produce something that is at least average, and it is always consistent in flavor and texture and experience, you will win. McDonald’s has made it’s name on that concept over their history.

Not only that, the branding is everywhere, and it’s extending out past iconic tourist attractions, to become the attraction in and of itself. CosMc’s is a good example. You can also get a UFO experience in Roswell, NM, or a lobster roll from the menu in the Gore House in the Freeport, ME McDonald’s. The Gore Mansion isn’t the only interesting MCD location, there well more than a dozen iconic restaurants that come to mind when you think of unique food travel experiences that center around the MCD universe.

The point? It’s a known entity, they make comfortable approachable food, and they are branding correctly to continue to build the brand beyond the balance sheet. It’s not jsut about burgers and fries for MCD – people love this place. 

Ordinarily a dividend of about 2.5% isn’t that impressive, but for a company that has historically grown as well and as consistently as MCD, it is a major attraction for the stock. It’s a Blue Chip company that rewards it’s shareholders by increasing the dividend and offering, not only cash payments in the dividend, but also risk mitigation on the downside, as well as capital appreciation at a market return rate, generally.

If you want a balance between potential for stock price growth as well as some hedge against market conditions *(great balance sheet and stong fundamentals which improve the risk exposure), you could do a lot worse than MCD. If you factor in the dividend this is a stock that returns at the market rate with the potential for higher, more years than not. 

MCD trades for large periods of the past 2 years at a high of around $300 USD. It’s currently jsut under -9% ytd, and about -11% in the 1 year price movement, which offers a strong signal for accumulation. The P/E ratio is about on par with the market, and the growth potential is higher than 95% of the market, despite it being a Blue Chip type stock. 

The entry point at between $250-265 is pretty compelling for those who want to add to a long-term position, or even for first time investors, because it will outperform against peers in a recessionary environment, and has strong earnings for the past 3 years, even under pressure of rising prices, labor cost increases, and even the California wage laws which are crippling many competitors. We see these California impacts as less of a downside risk, and more of a flight to MCD for consumers, as they will know what to expect, and McDonald’s Corporation will be able to better handle major changes than peers. 

From a purely corporate perspective, MCD could easily implement a larger share buyback if they wanted, though that’s a backwards looking indicator of cash use. Currently the buyback is hovering around $750m-$1billion for the quarter, and the number could change if the stock is considered by management to be undervalued. We would think that at the current level of share price, that it is approaching undervalued, if no outright undervalued given prospects, outlook, and competitive landscape given the inflation numbers, consumer price indexes and other market moving variables.

But from a non balance sheet and investment share price perspective, MCD just has the ability to do more, invest more and improve more throughout it’s many locations than any competitor that has a footprint even a tenth of the size. Being this big and not being super sensitive to the day-to-day problems that the franchisee has to deal with, makes McDonald’s a particularly good investment in the sector.

Not only that, but McDonald’s can make optimal improvements throughout the complete corporate footprint thanks to the tight controls on franchises, and the operational efficiency of the programs it runs. They invented the industry, and they are still the most strategic with it, at least compared to large footprint competitors. Again, the non-public offerings that might be able to rival MCD on this front, aren’t publicly investible, so they don’t rile the share price.

Worst case scenario, they ability to discount promotional items and drive bottom line improvements for struggling franchisees (there aren’t many of them) with pricing controls, management interventions and training support, means that this cash is efficient spend for the corporate entity.

The ability to invest in short term (and long-term) safe cash equivalents at 4-5% currently means that excess cash is generating significant excess-excess cash, in a way that nearly doubles it’s dividend for low risk. McDonald’s can generate a ton of buffer cash through existing cash because the interest rates are so high right now. Money begets more money. 

A robust training and development program, incredible food innovation opportunities, and a massive footprint combined with strong analytical insights internally, and cash available for investment means MCD can do things other peers cannot. If they find something they want to implement, they can do it efficiently, quickly, and effectively. Even if they don’t strike a positive chord with consumers, MCD is still agile and swift enough to mitigate negative impact potential. For as large a footprint as MCD has, they are very fast, and very smooth.

Most importantly, the issues that plague other food industry stocks, aren’t the same that affect McDonald’s. Their proven history of internal investment and their ROI on past programs and continual improvement initiatives makes them basically immune to the same blips that other companies face. They can utilize sales of raw land if they need to, to offset concerns for earnings and income over large periods of pressure. But they don’t usually have to, because the investment internally usually offers a better bottom line efficiency than comparable sector peers. There is room for efficiency improvement, even if MCD doesn’t have to do it day-to-day to be profitable. They aren’t afraid to implement investment as needed to improve the liklihood of hitting long-term goals.

There isn’t a huge push currently for McDonald’s to move into other strategic markets, at least not compared to historical movements. But that doesn’t mean that the opportunity doesn’t exist. If MCD determined that now was the time to move into new markets it would. And that, on the backdrop that the brand is one of the most recognizable on the planet.

You can get local flavors at different locations throughout the world. From the Bulgogi Burger in Seoul, South Korea, to the Chicken McDo with McSpaghetti in the Philippines, to the Chicken McArabia in the Middle East, to poutine in Canada, the local flair is clear. And the density potential for McDonald’s chains in the different countries around the world where there are only a handful of flagship restaurants in existence, is massive. This far, at least in the past several years MCD hasn’t had to leverage that potential, though, it could if needed. 

People need to eat. With labor costs skyrocketing, and grocery prices inflating (despite lowering inflation numbers at the time of initial writing), people don’t want to spend for inconvenience when they can get comparable food, with enhanced convenience from McDonald’s.

Relative to peers, MCD is one of maybe 3-4 brands that will consistently outperform in the sector. Relative to the broader market, the food service industry tends to outperform because people have to eat, and the per-instance cost is absorbable, unlike appliance purchases, new cars, and other things that are more discretionary. Having a lower per-ticket cost and an established history from the brand means that people will cut corners elswhere. In many cases, it’s cheaper to eat at MCD than to prepare your own food for many consumers because the efficiency (and internal control) of the supply chain, the proprietary efficiency of the internal labor processes, and the cost of raw goods compared to MCD’s sourcing costs. Remember that franchisees absorb some of the hit, and they have a vested interest to stick with the company, while MCD has the resources on hand to help alleviate this hit with corporate action. 

I don’t know the nuances of the the taxation on a go-forward basis for the company’s real estate holdings, but I do know that it allows a lot more flexibility in the reporting and the immediate tax exposure because McDonald’s has such a large amount of real property in their internal portfolio.

Furthermore, MCD has the ability to divest and tax tax treatment schemes to the next level as needed for prolonged poor economic conditions. The balance sheet is particularly strong, and even if the numbers don’t align with traditional accounting practices, the fundamentals are incredibly strong. For instance, you don’t see assets and liabilities treated the same way as some of their peers, because at their heart MCD functions more like a REIT than just about all their competitors. That may not be the best example because they have less of the drawbacks and compliance protocols for their taxation than the REIT’s do (they don’t have to pass certain money onto shareholders, like REITs). But they do still get a lot of the benefits of the favorable tax treatment for improvements, and land/property ownership. 

More than anything, this setup gives them flexibility, if not 1:1 tax favorability. Flexibility matters when the economy gets bad. That’s how McDonald’s has weathered the storms for so long to grow into the behemoth it is. 

The food program for discovering trends and implementing them is excellent for McDonald’s. But that’s not even the important part. Somehow, McDonald’s food Test Kitchen in the Oak Brook facility is able to make things that are simultaneously popular, easy to produce and cost effective, while utilizing the existing supply chain. New items ae neither novel, nor are they mainstream, and yet, they always appear to be, once they don the menu at McDonald’s locations after testing with small slices of the public in their internal testing programs.

Reintroductions of popular past items seem to always balance out awkward earnings bouts (think the McRib being constantly reintroduced).

The program for advertising and marketing leverages some of the best internal minds in the restaurant industry, as well as strong third party relationships. It produces some of the most nauseatingly catchy marketing campaigns in food history.

Owning the pipeline, and having the ability to control massive spend means that McDonald’s can compete with any channel, including coffee, even though it’s not as good as other food chain coffees, for example.

Most of all, the training program enhances the ability for MCD to keep talent in the pipeline, by taking mainstream labor employees, and turning them into mini-MBA’s by teaching them how to do it the McDonald’s way. Food startups dream of protocols and procedures that are a fraction as comprehensive as MCD’s. Lower employee turnover and better career expectations helps both the corporation, and the employee. That isn’t to say that MCD’s turnover is good – but at the higher levels of the labor heirarchy it’s significantly better than peers almost 1:1. 

The monopoly game, the McRib, specials on the app that give free fries or ice cream cones, and encourage more spend – these are all easily implemented and rich for the bottom line. 

The fact is: McDonald’s promotions are quick, effective, and very good at reminding customers that they should never have left at all. 

McDonald’s knows that they can get a customer back by offering a 2-for offer, or a promo play for prizes, or a happy meal inclusion with a licensing arrangement and spend a tiny amount of money to grab market share back from all sorts of restaurants. Forget that there aren’t healthy menu items relative to a company like CAVA, or Sweetgreen, McDonald’s can steal a majority of their customers with a simple ad campaign and a basic offer. 

Gen X grew up on cheap hamburgers and even though they vastly prefer an In-n-Out Hamburger from a taste perspective, they’ll still spend the same amount occasionally on a McDonald’s burger because of nostalgia, among other reasons, if not only because it’s the closest thing they can get at the time.

McDonald’s management has messed up a lot in the past. But hardly anyone remembers. In fact, from a publicly traded market perspective, the memory is exceptionally short. 

It wasn’t too long ago that Steve Easterbrook had all kinds of sexual harrassment allegations, and more than a handful of affairs with staffers.

There was once a Mass shooting (at the time the worst in US history) in a Southern California McDonald’s location. Obviously that wasn’t McDonald’s fault, but the shooter’s spouse tried to sue MCD because she beleived that his Fast food preferences of McDonald’s somehow fuled his psychosis. 

Remember the hot coffee incident where a 79-year-old old woman was basically bullied over a long period of time, until McDonald’s had to pay out a paltry settlement? The final fee was agreed outside of court, but after the lengthy court case it’s likely to have been less than $640k. McDonald’s got the initial settlement down to less than a third of what the court had ordered thanks to appeals. 

What’s the point of all this muckraking when this is a pro McDonald’s piece? That people forget. People never remember the McDonald’s scandals. In fairness, McDonald’s as a corporate entity isn’t responsible for a lot of the negative PR that they receive, with all the haters of Beef Tallow, and Trans Fats, but they are a company that has been in the spotlight more than their fair share. 

Nowadays, they are so proactive about eco-consciousness, and marketing directed PR, that they are basically infallible. Even if the current management team were to make a series of major mistakes, it’s unlikely to dent the profitability of the company. 

Franchisees basically make money in year 2, or sooner with a McDonald’s franchise. They are given unbelievable resources from McDonald’s programs and corporate. They get streamlined operational guidelines and a massive supply chain advantage. They get tons of help from corporate, and they have access to a lot of beneficial treatments, even if they don’t get to own the physical facility. The revenue model helps both the franchisee to make repeatable, consistent income, and the company to benefit from royalties and rent payments. In the end, if a franchisee is not a good fit, McDonald’s can fix that easily. Without the right planning, legacy ownership transfer is hard to do, and McDonald’s owns the location in the end. 

The real estate buying team is unreal – truly world class. They own a massive prtemium portfolio of land and buildings. Everything it buil to a standard that is far above what normal local codes are, and future-proofing is built into the structures. 

The bottom line: The royalties and rent paymetns have made McDonald’s the biggest name in the food industry becasue it’s the things that McDonald’s is better than any other company in the world. 

They COULD grow in other countries. They have a proven model to do so, but they don’t need to. Taking a conservative approach to growth in non-US locations has worked extremely well. Maybe it’s the scarcity model playing out, and maybe it’s jsut prioritizing the best use for cash, but McDonald’s has that future growth outlet if they need it. Right now they do pretty well in the markets they feature heavily in.

When they do decide to go into a new market, or expand in a country outside of the USA, they tend to do really well on a per location basis. The McDonald’s development team is world class. And for a fast food place, they always seem to deliver on promises and even outperform. Very few single store locations are closed on a historical basis, and McDonald’s knows what’s best for the bottom line. Even if they don’t, they can always make back a small fortune on the taxation play and the sale of undeveloped properties if they need to. 

How is this a negative. In the end it isn’t, but it is a pause for someone who is investing purely for current and near-term growth. We still think this is a minimal concern, and that McDonald’s is doing exactly the right thing for the stock, but we could see how someone might pass because they think MCD is not as aggressive as it could be – they aren’t. 

We could name 40 stocks and ETF’s that make more sense if you just want total return, and none of the risk management or recession-specific benefits. That is all. If you want higher risk, no dividend, no risk management and no moat built around operations, seek return elsewhere. There are a lot of great stocks and ETF’s that can generate return for more risk profile tolerance. See all the stocks we follow HERE.

McDonald’s doesn’t cater that well to healthy eating, and it’s a dinosaur when it comes to evolving food flavors and textures. But, they have never been unprofitable for longer periods of time, so they must be doing something right. We have no doubt that before consumer behaviors and tastes change so dramatically that McDonald’s is unprofitable for more than a year, that MCD’s management team will have solved that problem. The risk is absurdly low that McDonald’s fate will have been decided by anyone other than McDonald’s.

McDonald’s CEO Chris Kempczinski had to wipe a bit of egg McMuffin off his face when he admitted in 2024 that McDonald’s had not been paying attention to being sensitive to economic pressures for a lot of the mainstream customers of the chain’s food. Guess what? MCD stock pressure evaporated a few hours later. Swiftly, the company adjusted prices and supported certain locations in lowering costs on core items at the Drive-Thru. The company has pricing power, and they negatively manipulated that power in 2023 and 2024, but they quickly pivoted and escaped the drama that could have been levied upon them. 

So is it a problem to have pricing power? Not if you don’t misuse it. And McDonald’s customers, and more importantly, the financial markets have a short memory with beloved companies like MCD.  

There is no question that California minimum wage hikes for fast food restaurants will be a legitimate issue to be dealt with at all levels of the restaurant business. We think it’s less impactful for MCD, than it is for others. This is likely to be the case for quite some time. In fact, it’s probably so well able to be absorbed by MCD because of the leanness of the supply chain, and the in-house controls that MCD has in place that allows it to operate so efficiently. Management is already making wages that equated to better than average for the industry sector, and the company recently had issues with outsized pricing on some menu items that were absorbed by the franchisees more than the corporate ownership team. This doesn’t mean that it’s going to be a fun ride, but it does allow for an easier set of solutions to combat the price increases. McDonald’s has much more flexibility because of the way that they are structured and because of the optimizations in the business operationally. 

Additionally, recently when prices were considered too high, management came out and addressed the problem directly, and was able to lower prices after stock share pressure, within days. MCD is lean and efficient, and CLEARLY has the ability to take a small temporary revenue hit in order to even out earnings. They also have enough tricks up their sleeve from a management perspective to be able to improve and even out earnings if needed, including taxation, innovation funding and promotional campaigns, among others.