Under the Spotlight Wall St: McDonald's (MCD)

On 15 April, McDonald’s ($MCD) will mark the 70th anniversary of founder Ray Kroc opening his first restaurant in Des Plaines, Illinois.

Fast-forward to today and the fast food giant serves more than 70m people a day in 43,000 restaurants across more than 100 countries. McDonald’s is ranked as the world’s ninth most valuable brand, a testament to the power of marketing that has made the Big Mac the world’s most famous burger. It’s so ubiquitous that The Economist’s Big Mac Index has become a go-to gauge for measuring purchasing power around the globe.   

But McDonald’s is more than a cultural icon. It’s the 35th largest U.S. stock, whose relatively stable earnings growth has helped it navigate Wall Street’s ongoing sell-off. Its shares are up 6% this year compared to a 4% fall in the S&P 500 Index. The stock is up around 20% since we last looked at it in May 2022. An e.coli scare knocked the stock around in 2024, but it has rallied 25% off its July lows. Even now, it trades on a lower forward PE multiple than Yum! Brands ($YUM), Domino’s Pizza ($DPZ) and Chipotle Mexican Grill ($CMG).

Grill, baby, grill

McDonald’s may be 70 years old, but it isn’t slowing down. In fact, it’s picking up the pace as part of its Accelerating the Arches strategy, looking to supersize its global reach. 

The arithmetic is simple: more restaurants equals more rents and royalties. The company is sprinting to grow the number of restaurants to 50,000 by 2027. The plan, first unveiled in December 2023, will be the fastest pace of restaurant unit growth in the company’s history, if achieved. It expects to open 2,200 new restaurants in 2025, with around 1,600 in markets beyond the U.S. and traditional Western markets. Net restaurant expansion will contribute more than 2% to systemwide sales growth in 2025. The majority of this year’s capex of US$3b-US$3.2b will be spent on new outlets. The proportion of capex spent on new restaurants has risen from 25% in 2019 – when Chris Kempczinski became CEO – to 56% in 2024. 

Growth in restaurant numbers will please the bean counters, but customers are there for one thing: fried, salty and sugary deliciousness. After last year’s e.coli outbreak affected U.S. sales, McDonald’s is focused on protecting its core menu items. There are 17 menu items with sales of more than US$1b a year, including the Big Mac, McCrispy and McMuffins. These 17 core items account for 65% of all sales. But McDonald’s thinks it can do it even better: it reckons its Better Burger plans will deliver hotter and juicer burgers through operational and formulation changes. Customers will be the judge. Maccas can’t afford to upset hangry diners. 

Emboldened by the success of McNuggets, the company views chicken as a way to grow market share and earnings. The McCrispy will be expanded to all markets this year, while a new chicken strip offering will be launched in America. Chicken Big Macs will be limited-time additions after it helped deliver chicken market share growth in the U.S. and France. It hopes to grow its share of the chicken market by one percentage point by 2026. 

McDonald’s is also targeting growth in beverages, including coffee, as that industry is worth over US$100b. It’s growing at twice the pace of the eating out industry and enjoys strong margins. The firm launched its drinks-focused CosMc’s in late 2023, with the company refining its strategy to focus on small format outlets.   

Fry-nancials

Given McDonald’s global scale, it’s not surprising the business spits out some big numbers: Systemwide sales were US$130.7b in 2024, up from US$100.2b in 2019. That’s a whole lotta burgers and fries. But the figure that really counts for McDonald’s is revenue. That was US$25.9b in 2024, up from US$21.4b in 2019, as restaurant numbers have grown. 

Revenue growth reflects the real estate component of the business, where fees are earned from franchisees. Franchising is the special sauce behind McDonald’s success. About 50% of restaurants are conventional licenses, where the company provides the building and real estate, then earns rent and royalties from it. About 20% of restaurants are development licenses, meaning the franchisee pays for the real estate, building and equipment, with McDonald’s earning royalties. A quarter of restaurants are foreign-affliated: the franchisee pays for the lot and McDonald’s earns royalties and has equity in earnings. Finally, the company fully owns 5% of its restaurants, taking all operating profits.

Half its revenues come from what it calls International Operated Markets: that’s code for traditional Western markets like the UK, Germany, France, Canada and Australia. Around 89% of IOM restaurants are franchised, though Australia lags with a franchise rate of 84%. Nearly 40% of earnings come from the U.S., where the franchise rate is 95%. Finally, nearly 99% of international development license markets – in countries like China, Japan and Brazil – are franchised. Franchised restaurants are where the money’s at: franchise margin represented about 90% of its total restaurant margin dollars in 2024. 

Extra cheese

McDonald’s generates a lot of cash and a hefty portion of it has been handed back to investors. 

The company has lifted its annual dividends for 48 consecutive years. Between dividends and buybacks, it has returned US$41.5b to shareholders since 2019 – US$7.7b just in 2024, even as it stepped up its spend on new restaurants.  

McDonald’s should continue to increase dividends as it grows its business. The company has forecast a free cash flow conversion rate – the proportion of operating profits converted into free cash flow – in the low-to-mid 80% range this year. Its long-term target free cash conversion rate is 90%, once the capex splurge on new outlets passes.  

Takeaway

McDonald’s has proved a tasty addition to portfolios during the current bout of market turbulence. It’s not the most exciting stock, but that’s the point. It’s all about slow and steady earnings growth, and lots of cash. 

Its goal to rapidly grow its restaurant numbers will bring the world’s most famous menu to more people. It should also deliver McDonald’s an even bigger bite of those juicy franchise rents and royalties. 

This is not financial advice nor a recommendation to invest in the securities listed. The information presented is intended to be of a factual nature only. Past performance is not a reliable indicator of future performance. As always, do your own research and consider seeking financial, legal and taxation advice before investing.