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 Top Reasons For Getting Fired

The 3 Best States to Start an LLC

10 Jobs That Allow You to Travel

7 High-Paying Jobs You Can Do From Home

12 Best Cities to Shop in USA

10 Best States To Practice Medicine

The 10 Best States to Have a Business

The 12 Most Expensive Apple (AAPL) Apps in the Market

The 10 Richest Billionaires in the World

10 Biggest Kickstarter Failures

The 10 Best Places to Work At

The Top 10 of Google Inc (GOOGL)’s Most Expensive Acquisitions

13 Best Cities to Visit in South America

10 Most Expensive Works of Art of All Time

The 10 Richest Banks in the World

The 10 Best-Paying Jobs in America (2014)

7 Most Expensive Foods in the World

The World’s Top 10 Earning Authors

Five Wicked and Very Expensive Items (and Other “Stuff”) Sold on eBay

10 Biggest Celebrity Bankruptcies

The Top 10 Highest Paid CEOs in 2014

The 10 Most Expensive Real Estate Cities in America

10 Most Expensive States To Live In America

The 10 Best Airlines in the World

The 10 Best-Selling Cars in 2014

The 10 Best Industries to Invest In

The 10 Most Expensive States to Own a Car In

Top 10 Business Schools in US: 2014 Rankings

Top 20 Female Billionaires in 2014

6 Movies That You Should Watch to Better Understand The Cold War

Top 15 Best Paying Jobs for Women in 2014

Top 6 Things Rich People Do Differently Every Day

5 Retirement Mistakes To Avoid (and Einstein’s Famous Quote)

11 Smartest People in the World

6 Films About the Financial World You Need To Watch (While “The Wolf” is Not Around)

Warren Buffett and Billionaires Are Crazy About These 7 Stocks

The Top 10 States With Fastest Internet Speeds

10 Best Places to Visit in USA in August

Top 10 Cities to Visit Before You Die

Top 10 Genetically Modified Food In the US

15 Highest Grossing Movies Opening Weekend

5 Best Poker Books For Beginners

10 Strategies Hedge Funds Use to Make Huge Returns

Top 10 Fast Food Franchises to Buy

10 Best Places to Visit in Canada

Best Summer Jobs for Teachers

10 Youngest Hedge Fund Billionaires

Top 10 One Hit Wonders of the 90s

Fastest Growing Cities In America

Top 10 U.S. Cities for Freelancers

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!