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All great truths begin as blasphemies - George Bernard Shaw


This “Black Book” outlines the current state of McDonald’s operations with a particular focus on its U.S. business. The company’s shares have performed tremendously since the implementation of their “Plan to Win” initiative in 2004 and competitors have found it hard to match McDonald’s performance.  Furthermore, the company is healthy and generates impressive levels of cash for shareholders.  All good things come to an end, however, and I see significant hurdles for the U.S. business in 2011 that present an auspicious opportunity to be a seller of this stock. 


When McDonald’s was first embarking on its highly successful “Plan to Win,” the company set out on a comprehensive program designed to “optimize and simplify operations.”  This program included offering fewer sizes of drinks and fries, fewer Extra Value meals, more simplified pricing, and streamlined merchandising supported by intensive hospitality training of employees. 


For most of McDonald’s history, growth was driven by one thing: unit growth.  Until the late 1990s, that strategy worked.  When the company reached a saturation point, sustaining unit growth resulted in cannibalization, which caused same-store sales growth and margins to deteriorate steadily until the “Plan to Win” was announced.  As Jim Skinner once put it, "We had lost our focus. We had taken our eyes off the fries."


Companies churn out new “plans” ad nauseum, but in the case of McDonald’s in 2004, there was a clear need for management action.  In fact, operations had become so complicated that the average crew served one less customer every two hours between 2000 and 2004, which cost the company 135 basis points in company-operated margins.  Over the next six years, the company’s commitment to their “Plan to Win” yielded 600 basis points of restaurant-level margin expansion.  Accordingly, the stock price appreciated by ~160% by the end of 2010, or by 175% at its more recent December 2010 peak, from the implementation of the “Plan to Win” in November of 2004. 


Six years later, however, it appears that the lessons of the late 1990’s and early 2000’s have gradually been forgotten as a focus on driving same-store sales took precedence over all else.  The relentless focus on driving the top line has required the franchise system to invest significant capital in facilities and new equipment.  Further, from an operational standpoint, this approach has resulted in a burgeoning menu as item after item is rolled out, thereby complicating back-of-the-house operations and gradually offsetting much of the progress made in that regard by the “Plan-to-Win”.


As a specific example, McDonald’s rolled out the Southern-style chicken sandwich in 2008 with much fanfare and the goal of taking share from Chic-fil-A.  The rest is history; the product failed to deliver.  This episode smacks of the McDonald’s of old: launch new products, withdraw marketing support when the product doesn’t deliver but keep them on the menu.  The clear result is a complication of the menu and an inefficient back-of-house process. 


The “Plan-to-Win” mantra has always been "better, not just bigger.”  Instead of building more restaurants, McDonald's increased profitability by squeezing more from its existing store base and from its franchisees.  As a side point, the company loves to talk about the increased “cash flow” of its franchise base, but the more salient metric from a franchisee’s perspective is the “net” cash flow after servicing debt incurred to finance remodels and initiatives.


Over the past three years, however, the mantra has seemingly become “beverages, not burgers.”  As the company has shifted its focus away from its core business, that segment of the business has inevitably suffered.  Over time, the company has shifted so much time and effort (including marketing dollars) away from its core menu that it is losing ground to peer QSR burger concepts and also gourmet/niche burger players.  If we assume that the core business of MCD’s U.S. business is declining, then the emergence and growth of new operators in the burger space is likely impacting MCD’s U.S. business.  Bobby Flay, Five Guys, Shake Shack, Burger Bar, the Counter Burger, and others have gained popularity over the last few years. 


I believe McDonald’s needs to get back to what got it to where it is: its core business.  In the Wall Street Journal this week, there was an insightful article on McDonald’s Japan which is focusing on the core business.  Considering the reputation Japan has as a particularly healthy society, I was interested to read the following, ‘Yasutsuru Mori, a svelte 74 year-old patron, wolfed down a Texas 2 Burger this weekend.  "I love hamburgers.  I eat every new hamburger that comes out in Japan, but I especially love McDonald's burgers," he said.  "McDonald's keeps to the fundamental American hamburger profile: ketchup, mustard and beef.’  Clearly, this is just one person, but I believe that McDonald’s needs to refocus on its core business here in the U.S. also.


Notwithstanding my concerns, I would be remiss not to acknowledge the achievements of the company in what was a truly spectacular turnaround from 2004.  By keeping their “eyes on the fries”, MCD’s management team created an example of operational focus and discipline for operators in both the quick service and casual dining categories.  The “Plan-to-Win” forced management to rethink every element of its business, from product development and marketing to restaurant design and technology.  In the process, McDonald's, which had seemed out of touch with consumers just six years prior, had realigned itself with contemporary tastes. 


To see the balance of the McDonald's "Black Book" please reach out via e-mail or phone.  My contact details are below.


MCD - THE BLACK BOOK - mcd black book cover


Howard Penney

Managing Director


The Macau Metro Monitor, January 19, 2011



The Land, Public Works and Transport Bureau (DSSOPT) has ordered Caesars Golf Macau, owned by Caesars Entertainment, to cease its unlicensed construction of a private road to join Estrada do Istmo.  The manager of Caesars Golf Macau said the company will restore the area according to the Government’s requirements and Macau laws.  Chief of the DSSOPT department of environmental pollution control, Ip Kuong Lam, said the site was originally a domestic waste landfill between 1988 and 1992, and right now a lot of the garbage had decomposed leaving mostly plastic materials.


The golf course will be punished based on the water supply and drainage regulations.

CHINA DEC CPI UP 4.6%, 2010 GDP UP 10.3% Economic Times

According to unnamed sources, China's CPI gained 4.6% in December, slowing from 5.1% in November. China GDP grew 10.3% in 2010.  The median forecast of economists polled by Reuters was for December's CPI to rise 4.4% and GDP to increase 10.2%.

Chirp, or Be Chirped

This note was originally published at 8am on January 14, 2011. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“The fact that we are today to debate raising America’s debt limit is a sign of leadership failure.”

-Senator Barack Obama, March 2006


Our CEO Keith McCullough has been out most of this week recovering from a surgery to reattach his Achilles tendon.  I’ve known Keith for upwards of fifteen years, including three years as college hockey players, so I can rightly say that I’ve seen the man in a few precarious situations, but never did I think he would injure himself on the squash courts.  So when it comes to risk management for the aging college athlete, leave the squash to those that grew up playing it at prep schools is my advice on a go-forward basis.


With Keith out, I’ve had to live a week in his shoes.  I’m not prone to giving the proverbial tire pump, but, candidly, it’s not easy to write a morning strategy note and prep for a morning call every morning starting at 5 a.m.  As it relates to President Obama and the quote above, I think he is now realizing what it’s like to live in another man’s shoes, as well.   (Life as President is much different than as a member of Congress it seems.)


Members of Congress in Washington basically have free rein to chirp.  While Presidents can chirp as well, they also have to make decisions.  Obama’s quote (chirp) above was prescient back in 2006, but in the coming weeks he will have to push to get the debt ceiling raised because, as President, he needs to keep the country running.  The advisors hired to chirp on his behalf have been out in full force making sure he has the political cover to get this done.


Specifically, White House economic advisors Austan Goolsbee recently had this to say about the debt ceiling:


"This is not a game. You know, the debt ceiling is not something to toy with. … If we hit the debt ceiling, that's essentially defaulting on our obligations, which is totally unprecedented in American history. The impact on the economy would be catastrophic. I mean, that would be a worse financial economic crisis than anything we saw in 2008."


Now, if that’s not chirpy, I don’t know what is.


Freshman Senator Rand Paul was not to be outdone though, and chirped back his own proposal:


“I can't imagine voting to raise the debt ceiling unless we're going to change our ways in Washington. I am proposing that we link to raising the debt ceiling — that we link a balanced budget rule, an ironclad rule that they can't evade.


We have to change the rules and we have to say to Washington, Balance the budget. You have to do it by law.  And then I'll vote to raise the debt ceiling.  But only if we have an ironclad balanced budget rule that we attach to the debt ceiling.”


Ironically, the best assessment of the debt and debt situation was probably Senator Obama back in 2006.  The fact is that we are in this fiscal situation today because of failed leadership.  This is failed leadership that has transcended administrations and political parties. It is because the United States has created long term obligations in the way of social security and healthcare that we can’t fulfill, and administrations have overspent on discretionary items when times were good.  (In fact, our friend Karl Rove even acknowledged to us that the one regret he had was that the Bush administration didn’t do a better job on discretionary spending.)


In the coming weeks, the debate over the debt ceiling will increase in velocity and volume.  The fiscal conservatives, particularly those who were swept in with the Tea Party in the most recent midterm, will be on the soap box and will be chirping like never before.  Unfortunately, even Goolsbee’s language and delivery is somewhat inflammatory, and as a nation, we really have no choice, but to increase the limit on the debt ceiling.


In the coming months, there are three key catalysts that will take the debate over the debt and deficit to a heightened level, these are:


1)      Late January - Congressional Budget Office deficit projections will have to be raised dramatically for the next few years.  We’ve highlighted their projections in the Chart of the Day, and, simply put, the numbers are too low for what we’ve already seen in Q1 of fiscal 2011.


2)      Mid February - President Obama’s draft budget proposal will be submitted in early February.  This proposal will be more heavily scrutinized than any budget in recent memory and since so few of the line items can be played with in the short term, they’ll surely not satisfy the fiscal conservatives.


3)      Early March - Finally, the vote on the debt ceiling will occur sometime before March 4th.  This is when the debate will reach its highest pitch even though the outcome is already known, which is the ceiling must go higher.


We believe the outcome of all of this could be, American Sacrifice. This is the idea that this debate actually drives our politicians to implement meaningful initiatives that will begin to reverse the fiscal predicament we are facing.  If we do start to see fiscal improvement, or at least positive discussions in that direction, it will be bullish for the U.S. dollar.


That said, as it relates to Washington, one never knows and productive legislation will actually require these politicians to set aside their “chirp, or be chirped” politicking, and help move the country forward.


Yours in risk management,

Daryl G. Jones


Chirp, or Be Chirped - Chirp

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20 Proprietary Risk Ranges

Daily Trading Ranges is designed to help you understand where you’re buying and selling within the risk range and help you make better sales at the top end of the range and purchases at the low end.

CHART OF THE DAY: Government Credibility


CHART OF THE DAY: Government Credibility -  chart of the day

Governing The Government

“The Constitution was designed to govern the government, not the people.”

-Steve Hanke


In a concisely written piece of Complex Simplicity, Steve Hanke penned this quote in a paper I was reading yesterday titled “Reagonomics Goes Global.” Hanke is a professor of applied economics at Johns Hopkins University and a Senior Fellow at the Cato Institute. I interviewed him while I was running a radio show for Bloomberg Radio last year and have been reading his work ever since. He gets government math.


The white paper featured different opinions from different authors and I think Hanke’s chapter, titled “Lessons from America’s Founding Fathers and US Experience” is well worth taking the time to read. Hanke takes a crack at differentiating the definitions of American style democracy and liberty. He also highlights Alexander Hamilton’s original US fiscal convictions:


“The United States was born in a sea of debt. A majority of the public favored a debt default . Alexander Hamilton, acting as Washington’s Secretary of the Treasury, was firmly against default. As a matter of principle, he argued that the sanctity of contracts was the foundation of all morality. And as a practical matter, Hamilton argued that good government depended on its ability to fulfill its promises.” (Reagonomics Goes Global, page 8)


I call this to your attention this morning because it draws a historical bridge between THE most important US Economic question that’s on my mind right now (can the US Dollar Index hold its newfound intermediate term TREND line of support at $78.66?) and what I am going to talk about on our Q1 Macro Theme call this morning under the umbrella of a theme called American Sacrifice (email if you’d like access to the call and/or the slide presentation).


Duration matters. That’s why I try my best to make sure my team is Duration Agnostic when considering risk, probability, and uncertainty. That’s why we have developed our TRADE, TREND, and TAIL model. It’s not perfect, but at least it’s an evolution of legacy Wall Street research and risk management processes gone bad. What the US stock market is doing in the immediate-term is not the most important long-term US Economic factor that’s on my mind.


Seeing the stock market going up every day isn’t the solution to this structural mess (stock market fans should remember that 1/3 of this country (102 MILLION Americans) have ZERO moneys in a retirement account and 1/2 of Americans have $2,000 or less). Neither is inflation – that’s a policy. What I think we ultimately need is a strong currency, balance sheet, and handshake that the world can trust again. If we have those, the jobs will come.


We can hope and pray that the new Republican leadership can be depended upon to “fulfill its promises” of spending cuts, but we must remember that hope is not an investment process and trusting a conflicted and compromised politician better have some serious prayer attached to the exercise. The foundations of morality matter (repaying your debts) to a lot of people in this country. So does protecting whatever integrity remains of her currency.


It’s time.


So, let’s roll with that this morning and figure out whether the intermediate-term strengthening of America’s currency (US Dollar Index is up for 8 out of the last 11 weeks since the midterms) is a leading indicator to a long-term TREND of American Sacrifice and fiscal sobriety.


Governing the Government on Global Macroeconomic risk management matters sounds like both a painful and herculean task – but I think it’s achievable.


Here’s what we need to execute:

  1. A Real-Time Accountability Mechanism (Twitter – check)
  2. An Analytically Competent and Independent Research Firm With Real American Clients Who Care (Hedgeye and The Buy Side – check)
  3. Freedom of Speech and email forwarding (iPhones, Crackberries, etc – check)

The messaging is out there folks. The People have already voted. Americans want spending, deficit, and debt cuts – and this is our last chance to Govern the Government so that we get all three of those things no matter what the intermediate-term American Sacrifice.


By “last chance”, I’m not trying to be dramatic either. With the upcoming debt ceiling and deficit/debt commission debates, this is it - for the US Dollar, America’s balance sheet, and her handshake with the world as its fiduciary of the world’s reserve currency that is…


I am a Canadian-American, so I have no allegiances to any person, politician, or party on this matter. If the US Dollar starts to break down again, sustainably, below my $78.66 TREND line, I will sell it faster than you can say Thunder Bay Bear.


Another debauchery of the US Dollar will equate to $120 oil, global food inflation riots, and plenty of other unintended consequences that I, for one, have no patience seeing my firm and family endure under the willfully blind veil of no one could have seen this coming.


My immediate-term support and resistance lines for the SP500 are now 1280 and 1298, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Governing The Government - 7


TODAY’S S&P 500 SET-UP - January 19, 2011

Equity futures are trading below fair value as European markets extend losses amid reports Greece may be looking at rescheduling its debt. Under the plan, reportedly being brokered in Berlin, Athens would be allowed to buy back its own debt using a euro zone crisis fund.  As we look at today’s set up for the S&P 500, the range is 18 points or -1.16% downside to 1280 and +0.23% upside to 1298.



  • MBA mortgage applications up 5% prior 2.2%
  • 8:30 a.m.: Housing starts, Dec. est. 550k, prior 555k
  • 8:30 a.m.: Building permits, Dec., est. 554k, prior 530k
  • 3 p.m.: USDA broiler eggs set, Jan. 14
  • 4:30 p.m.: API inventories, Jan. 14


  • Mosaic says it will be a “possible” takeover target as Cargill divests $24.3b stake in the co. over the next two yrs
  • Pimco’s Neel Kashkari, a former Treasury official, says U.S. may face a debt crisis without action to limit federal spending
  • Apple, IBM estimate-topping earnings bode well for results due in coming weeks from Hewlett-Packard, Microsoft, Dell and other cos. that supply corporations with computers and software
  • HSBC Global Asset Management’s Absolute Return fund favors stocks including Coca-Cola and Procter & Gamble to beat returns from gold this year as global economy recovers
  • Amgen (AMGN) agreed to sell its rights and assets at Fremont, Calif. manufacturing facility to Boehringer Ingelheim
  • Cree (CREE) forecast sees 3Q adj. EPS 38c-45c vs est. 58c
  • IBM (IBM) reported 4Q EPS $4.18 vs. est $4.08
  • Linear Technology (LLTC) forecast 3Q rev. ~$345.3m-$360.6m vs est. $371.6m
  • Mosaic (MOS): Cargill will spin off 64% MOS stake to Cargill shareholders, bondholders
  • NuVasive (NUVA): CIGNA, Humana change lumbar spinal fusion policy to include coverage for NUVA’s eXtreme Lateral Interbody Fusion
  • Western Digital (WDC) reported 2Q rev. $2.48b vs est. $2.35b, EPS 96c vs est. 59c


  • Bank of New York Mellon (BK) 6:30 a.m., $0.57 
  • US Bancorp (USB) 6:45 a.m., $0.47 
  • MGIC Investment (MTG) 7 a.m., $(0.46)
  • State Street (STT) 7:05 a.m., $0.86 
  • Amphenol (APH) 8 a.m., $0.73 
  • Hudson City Bancorp (HCBK) 8 a.m., $0.22 
  • Wells Fargo & Co (WFC) 8 a.m., $0.63 
  • Goldman Sachs (GS) 8:01 a.m., $3.79 
  • Northern Trust (NTRS) 8:01 a.m., $0.72 
  • AMR (AMR) 9:01 a.m., $(0.32)
  • Plexus (PLXS) 4:01 p.m., $0.59 
  • F5 Networks (FFIV) 4:05 p.m., $0.83 
  • Kinder Morgan Energy Partners LP (KMP) 4:05 p.m., $0.43 
  • Raymond James Financial (RJF) 4:12 p.m., $0.53 
  • eBay (EBAY) 4:15 p.m., $0.47 
  • Xilinx (XLNX) 4:20 p.m., $0.52 
  • SLM (SLM) 4:37 p.m., $0.71


  • One day: Dow +0.43%, S&P +0.14%, Nasdaq +0.38%, Russell flat
  • Last Week: Dow +0.96%, S&P +1.71%, Nasdaq 1.93%, Russell +2.51%
  • Year-to-date: Dow +2.25%, S&P +2.97%, Nasdaq +4.26%, Russell +3.05%
  • Sector Performance - (8 sectors positive and 1 down): - Energy +0.62%, Materials +0.55%, Industrials +0.72%, Healthcare +0.37%, Tech +0.11%, Consumer Disc +0.37%, Utilities +0.24%, Consumer Spls +0.06%, Financials (0.60%)


  • ADVANCE/DECLINE LINE: 250 (-211)  
  • VOLUME: NYSE 1227.72 (15.85%)
  • VIX:  15.87 +2.65% YTD PERFORMANCE: -10.49%
  • SPX PUT/CALL RATIO: 1.48 from 1.46 (+1.49%)


Treasuries were weaker with the better risk backdrop in focus.

  • TED SPREAD: 16.11 +0.304 (1.922%)
  • 3-MONTH T-BILL YIELD: 0.16% +0.01%     
  • YIELD CURVE: 2.79 from 2.76


  • CRB: 333.78 +0.22%  
  • Oil: 91.38 -0.17% - trading +0.58% in the AM
  • Crude Oil Supply Drops in Survey on U.S. Pipeline Shutdown: Energy Markets  
  • COPPER: 442.80 +0.36% - trading +0.24% in the AM
  • Copper Gains to Record on Speculation Demand to Outpace Supply on Recovery
  • GOLD: 1,372.68 +0.49% - trading +0.36% in the AM
  • Gold Climbs for Third Day as Dollar Weakens on Concern About U.S. Recovery


  • Container Ship Rates Rising as Fuel Prices Slow Vessels: Freight Markets
  • Japan May Cut 2011 Ethylene Output on Middle East Competition, Mizuho Says
  • Japan's Petrochemical Maintenance Closures to Drop This Year, Survey Shows
  • Rubber Futures Advance to Record as Thai Supply Concern Spurs Purchases
  • IEA's China Oil-Consumption Outlook Is `Too Conservative,' Bernstein Says
  • Precious Metals Make Up 76% of Commodity ETP Assets, Societe Generale Says
  • Alaska Pipeline System Boosts Crude Oil Flows, Exceeds Operator's Target
  • Mosaic Might Become Takeover Target as Cargill Divests $24.3 Billion Stake
  • Barclays Forecasts U.S. Natural Gas Prices Will Remain Around $4 This Year
  • Thailand Says It May Complete Nation's First LNG Import Terminal by June


  • EURO: 1.3360 +0.49% - trading +0.77% in the AM
  • DOLLAR: 78.962 -0.47% - trading -0.45% in the AM


  • FTSE 100: (0.37%); DAX: -0.03%; CAC 40: (0.14%) (as of 06:30 EST)
  • European markets saw session's highs early before paring gains to trade mixed.
  • Strong results from Apple and IBM overnight up +0.1% and +1.9% respectively in Germany failed to help tech shares in Europe as ASML Holding's reversed early gains and the sector is lower.
  • Kesa Electronics update highlighted the potential impact of the recent VAT increase in the UK as sales softened post the rise.
  • Ireland PM survived a vote of no confidence by his party yesterday, though a national election is expected as early as Mar.
  • Declining sectors lead advancers 10-8 as autos and retail lead fallers and basic resources lead gainers.
  • UK Nov ILO unemployment rate +7.9% vs consensus +7.9% and prior +7.9% - UK Dec Claimant count (4.1k) vs consensus +1.5k and prior revised to (3.2k) from (1.2k)
  • German economy ministry raises 2011 growth forecast to +2.3% from previous forecast of +1.8%  - Sees 2011 export growth of +6.5%, import growth of +6.4%
  •  ECB officials are back from a threat to raise interest rates, saying markets have over-reacted to their change in tone on inflation. ECB governing council “sees present rates adequate,” for the “foreseeable future,” council member Ewald Nowotny said at an event in Budapest yesterday.
  • Spanish home sales fell 6.2% Y/y in Nov., third month of declines.


  • Nikkei +0.36%; Hang Seng +1.10%; Shanghai Composite +1.81%
  • Asian markets were mixed, with tech stocks leading the way on the back of strong results from Apple and IBM.
  • China went up strongly on reports that the CPI rose 4.6% y/y in December, above expectations of 4.4%, but below November’s 5.1% rate. The official figures are to be published tomorrow.
  • Property developers led Hong Kong higher on improved risk appetite after Wall Street’s advance. On higher oil prices, Sinopec and Petro China rose 4% and 2%, respectively.
  • High techs lifted South Korea up 0.92%, but construction plays fell on profit-taking.
  • Australia rose 0.18%. Kathmandu Holdings soared 16% after upgrading its profit forecast.
  • Boosted by China’s gain, Japan edged up on a positive start to the US earnings season.
  • Japan November tertiary industry activity index +0.6% m/m.


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