Is Now a Good Entry Point for McDonald’s or Chipotle?

McDonald’s (NYSE:MCD) reported its sluggish quarterly earnings today. With earnings of $1.32 per share, the company slid below the Street’s $1.38 consensus. Its operating income of $2.2 billion, up 2 percent year-over-year, is likewise a disappointment; operating income rose only 7 percent in the first quarter 2012, which was the first single-digit year-over-year growth rate since 2009. With a slew of problems, from a sluggish economic recovery to exchange rate problems, quick-serve restaurants have a number of short-term challenges.

McDonalds (MCD)

The value-based strategy with these companies is simple: play short term declines in order to initiate attractive long-term positions in companies with good prospects. Don’t listen to “target prices” at times like this. I found “targets” on Chipotle (NYSE:CMG) from two reputable analyst firms that vary by 33 percent from eachother. One has a “target” that predicts a 66 percent 12-month upside from the company’s present share price–shares tumbled 23 percent earlier this month on “slowdown” anxieties. Given the lackluster quarterly reports in the restaurant sector, investors still have some waiting to do before initiating a position.

Let’s take a comparative look at two these two different quick-serve concepts–McDonald’s and Chipotle (NYSE:CMG). Chipotle’s menu is well under half the size of McDonald’s, making McDonald’s the great generalist and Chipotle the great specialist. Chipotle’s average transaction size is around $12, while McDonald’s average transaction size is below $10. This transaction premium is one of the factors fueling the pronounced slowdown in Chipotle’s sales, particularly as McDonald’s and other stores like Burger King (NYSE:BKW) modernize their stores and menu. Activist investor Bill Ackman recently initiated a nearly 13% stake in Burger King.

On the investor side, Chipotle is a mature company that is priced like a young start-up. Even at about $300 per share, you are still paying over 40 times earnings for a slice of Chipotle. It is true that Chipotle is opening over 155 new restaurants in 2012, following expansion in 2011 of about the same amount, while opening its first restaurants in Paris and London. With the European sovereign debt crisis, though, there is going to be short-term friction at an explosive expansion into other parts of the European continent.

Comparing that to companies like Yum! Brands (NYSE:YUM) and McDonald’s that are making major inroads into China, I see less justification for the Chipotle “growth premium.” Yum!, for instance, will have a total of 700 new units in China this year alone and has a number of hedge funds with major positions in it (youcanseethemallhere). McDonald’s opened 200 new stores in China in 2011, and it plans to open 250 locations in 2012. McDonald’s and Yum! Brands trade at around 17 and 20 times earnings respectively. For both companies, though, the strengthening of the dollar has eroded earnings. But this just highlights the virtue of having a diverse portfolio of expansion, products, and restaurants worldwide–both companies have excellent fundamentals going forward.

I also like McDonald’s dividend yield of over 3 percent. Chipotle does not offer a dividend, something that ought to change as it matures. In all, short term earnings are likely to be disappointing, trimming down prices at McDonald’s and Chipotle. I think that both represent excellent long-term prospects in different ways: McDonald’s generalist world-wide portfolio of restaurants and foods versus Chipotle’s policy of doing a few things very well. A play on McDonald’s is also an attractive way to play a positive growth outlook in China and elsewhere in Asia. Billionaires Jim Simons and David E. Shaw are among the hedge fund managers with large MCD positions (see Jim Simons’ top stock picks). Jim Simons’ Renaissance is also the top hedge fund in Chipotle, followed by technology guru Philippe Laffont.

Disclosure: Brian Tracz owns shares in Yum! Brands.

blog comments powered by Disqus
Insider Monkey Headlines
Insider Monkey Small Cap Strategy
Insider Monkey Small Cap Strategy

Insider Monkey beat the market by 52 percentage points in 24 months Click to see monthly returns in table format!

Lists

10 Most Influential Papers In Economics

Top 8 Biggest Charities in the US

10 Worst Celebrity Career Moves Ever

Top 10 Best Paid Tennis Stars in the World

10 Cities with High Demand for Nurses

6 of the Worst Greeting Card Messages Ever Crafted

6 Ways to Make Money in ArcheAge and Build Your Empire

10 Foods To Eat To Lower Cholesterol Levels

The 10 Most Hated Television Characters of All Time

The 30 Worst Halloween Costume Ideas Ever Brought to Horrible Life

10 Vocational Skills in Demand Today with Jobs Waiting to be Filled

10 Best Places to Visit in Central and South America

The 10 Greatest Empires in History Which Nearly Conquered the World

The 6 Cheapest Boarding Schools In America 2015

5 Clear Reasons LoL is Better than DotA, Continues to Rule MOBAs

The Only 9 Teams with a Chance to Win the Super Bowl

The 15 Most Common Phobias in America that Induce Fits of Panic

Top 6 Least Expensive Tourist Destinations in 2014

Jim Goetz, Peter Fenton, Jim Breyer: Top 6 Venture Investors for 2014

Top 15 Billionaires in 2014

5 Pitfalls To Avoid When Buying a Franchise

Top 20 Medical Schools in the US – 2014 Rankings

4 Business Strategies that Turned Jamie Oliver into the World’s Richest Chef

6 Qualities That Make You A Good Team Player

10 High Paying Seasonal Jobs in America this Holiday Season

The 10 Busiest Shipping Lanes in the World

5 Most Valuable Brands in China

The 10 States with Highest Substance Abuse Rates Crippling Their Populace

The Top 10 Things to Do Before You Die That Will Echo for Eternity

The 10 Best Selling Items on Etsy

Top 10 Things to Do in Tokyo, the Greatest City in the World

10 Mistakes on Social Media that Can Harm You and Will Probably Get You Canned

The 10 Best Cities to Find Jobs in 2014

The 10 Most Controversial Songs Of All Time to Hit (and get Banned from) the Airwaves

The 20 Biggest IPOs in US History

The 10 Best Places to Visit in Mexico that Are Beautiful and Safe

7 Bad Habits that Age You Beyond Your Years

The 40 Best Fortune Cookie Sayings That Will Leave You Bemused, Befuddled, or Beguiled

10 Foods to Eat Before a Workout to Make Every Drop of Sweat Count

The 5 Best Documentaries On Netflix You Must See

The Most Heartwarming and Inspirational Story Of This Halloween Season, It Will Make You Cry and Jump For Joy

10 Best Party Songs of All Time to Bring the House Down With

5 New World Order Conspiracy Theories that Will Strangle the World

The 10 Highest Rated Movies of 2014

The 10 Largest Container Shipping Companies in the World

The 10 Largest Armies in the World: Who Should We Be Afraid Of?

Best Warren Buffett Quotes on Money You Need to Hear

The 10 Highest Suicide Rates by Profession

The 20 Most Underrated Movies of All Time

The 10 Fastest Growing Companies in America

Subscribe

Enter your email:

Delivered by FeedBurner

X

Thanks! An email with instructions is sent to !

Your email already exists in our database. Click here to go to your subscriptions

Insider Monkey returned 47.6% in its first year! Wondering How?

Download a complete edition of our newsletter for free!