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McDonald’s (MCD) is on our Hedgeye Restaurants Best Ideas list as a LONG.

 

We have been saying that the third quarter of 2015 would be the inflection point for the MCD’s turnaround. After this print it appears that the heartache is over at McDonald’s, as this quarter marks the first good quarter the company has had in two years.

As it stands today, our estimates are for MCD to post a near record tying EPS in FY16 of $5.40-$5.60, with $6.00+ being a real possibility after this quarter. The potential of $6.00+ is dependent on how aggressive the company gets with any potential G&A cost cutting to be announced at the upcoming analyst meeting.

The combination of accelerating same-store sales, cost cutting and more efficient use of capital creates a scenario where MCD can easily reach $150 over the next 18 months.  This does not factor in any potential real estate transaction, which could make $150 even easier to achieve.  See the price matrix below for the assumptions around the $150 target.   

3Q15 EARNINGS

This quarter was astounding; McDonald’s proved once again that their brand is not dead. The operationally led turnaround is happening and the 3Q15 print was the inflection point. MCD reported total company revenue of $6.62bn roughly $210mm over consensus estimates of $6.41bn. Global same-store sales for the quarter increased +4.0% versus consensus estimates of +1.9%. The segment results were also very encouraging:

  • United States reported revenue of $2.19bn versus consensus of $2.10bn, same-store sales for the segment came in at +0.9% versus consensus estimates of -0.2%.
  • International Lead Markets reported revenue of $1.97bn versus consensus of $1.94bn, same-store sales for the segment came in at +4.6% versus consensus estimates of +3.4%.
  • High Growth Markets reported revenue of $1.65bn versus consensus of $1.61bn, same-store sales for the segment came in at +8.9% versus consensus estimates of +4.7%.
  • Foundational Markets reported revenue of $809.0mm versus consensus of $720.9mm, same-store sales for the segment came in at +6.1% versus consensus estimates of +1.4%.

Given the robust performance throughout the segments MCD reported 3Q15 EPS of $1.40 beating consensus estimates of $1.27 by $0.13.  The currency impact to 3Q15 was $0.17, as the USD continues to hold its strength against most foreign currencies.  

MCD | THE ROAD TO $150 - CHART 1

NOTABLE COMMENTARY FROM THE EARNINGS CALL

  • All day breakfast (ADB), although in the early days is performing well. In locations close to college campuses MCD is seeing a cult-ish type following from students where they are ordering breakfast during all day-parts. ADB received a 98% approval rating from franchisees.
  • National value: summer value deal was only temporary, the talks about this are intensifying with the franchisees and they are working towards a smart solution for both the business and customers.
  • Drive-thru’s are getting faster and more accurate.
  • Employee turnover coming down at company owned stores as they have already raised wages to near $10.
  • Net Simplification: adding breakfast does not add ingredient or equipment complexity since it is already there, operators are working around the complexity of doing it all day and it seems to be performing well.
  • France is maintaining share but given the tough environment in that country sales are still down slightly.
  • U.S. business was supported by the introduction of the new Buttermilk Crispy Chicken sandwich which exceeded internal expectations.
  • Australia continues to be the darling of the bunch, this being its 4th consecutive quarter of positive comps. They are running a great value message with the Loose Change Menu, and have turned on national advertising for Experience of the Future and management is encouraged by early results.
  • Russia and China (China SSS were up 26.8% in the quarter) both saw positive same-store sales in the quarter driven by a focus on food quality and value. Management is still predicting near term headwinds given the economic slowdown in China and hostility in Russia.

THE ROAD TO $150

The road to $150 is not as farfetched as you might think. By 2017 MCD is going to be earning over $6.00 per share. There is still plenty of meat on the bone for Steve “everything is in play” Easterbrook to gnaw on in order to make MCD a modern progressive burger company.  The upside from a stock price perspective lies with the growth of All Day Breakfast, additional G&A cuts, national value offering implementation, reimaging of restaurants, commodity deflation, especially in beef and increased operational efficiencies, among others. In addition, the REIT is a potential driver of incremental value but not crucial to the long-term success of this call. With Steve Easterbrook at the helm we are confident this company will be better managed than it has been in a long time.

MCD | THE ROAD TO $150 - CHART 2

PREVIOUS HEDGEYE NOTES

10/20/15 MCD | TURNING THE CORNER

9/01/15 MCD | ALL DAY BREAKFAST IS OFFICIALLY LAUNCHING ON 10/6

8/17/15 MCD | CREATE YOUR TASTE EXPERIENCE

8/06/15 MCD | GETTING MORE BULLISH

7/27/15 MCD | THE GAME CHANGER | ALL DAY BREAKFAST (ADB) SURVEY RESULTS

7/24/15 MCD | RIGHT ON TRACK

7/09/15 REPLAY | LONG MCD BLACK BOOK PRESENTATION

Please call or e-mail with any questions.

Howard Penney

Managing Director

Shayne Laidlaw

Analyst