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McDonald’s Corporation (MCD) and Yum! Brands, Inc. (YUM) Had Bad Results But Good Returns

McDonald's Corporation (NYSE:MCD)The restaurant industry actually isn’t that hard to understand. Companies in the industry focus on comparable-store sales, store openings (international primarily), and share buybacks to sustain earnings-per-share growth. Things that have impacted growth have included biohazards, regulation, and currency market fluctuations. With that backdrop, let’s review McDonald’s Corporation (NYSE:MCD) and Yum! Brands, Inc. (NYSE:YUM) earnings.

McDonald’s earnings

The company reported a 1% year-over-year gain in comparable sales. Consolidated revenue was up by 2% (the remaining 1% in consolidated sales came from the opening of more restaurants, from franchisees).

The company reported a 3% year-over-year increase in expenses, but was able to offset that with a 2% improvement in revenue (the company has a really large gross margin, so a gain on sales would be able to offset a similar percentile increase in expense). It also reported income tax increases of 0% even though the company was able to generate an additional 2% in net operating income. This resulted in the 4% gain on net income (after all, if operating income increases, but the tax rate remains the same, take-home pay gets bigger.)

So in summary, what happened in McDonald’s Corporation (NYSE:MCD) quarter was slight improvements in comp-sales and restaurant count, plus earnings that got padded due to better tax strategies. With a licensing strategy, I could only imagine the creativity over at McDonald’s Corporation (NYSE:MCD) tax accounting department.

The company reported diluted earnings per share of $1.38 for the second quarter. The company reported earnings that slightly missed the consensus forecast set at $1.40 per share. As a result, the stock declined in valuation following the earnings announcement.

Analysts on a consensus basis anticipate the company to resume higher rates of growth, with earnings growth expected to be 8.4% per-year over the next five years. The company could generate the higher rates of growth by opening more restaurants. Also, the European economy is projected to turn around by 2014. So if anything the company’s earnings performance should eventually improve.

Yum! Brands’ earnings

So Yum! Brands, Inc. (NYSE:YUM) reported serious issues in its international strategy, particularly China. The company reported that same-store sales declined by 20% year-over-year in its China segment. It reported that weaknesses in the Chinese segment came from the avian flu, which is flu from birds that can mutate to spread to humans.

The weaknesses in the Chinese segment seem largely temporary. After all, fish demand eventually recovered even though nuclear radiation was dumped into the Pacific Ocean (largest body of water in the world) off the coast of Japan. So, I could only imagine that the scare over chicken will be temporary.

On a consolidated basis, the company reported an 8% year-over-year decline in total revenue for the second quarter. The decline in revenue was accompanied with a 7% year-over-year increase in expenses. Falling revenue and rising expenses are a bad combination. So, in the end the company generated a 15% year-over-year decline in net income.

The company reported diluted earnings per share of $0.61 (13% year-over-year decline). On the upside, it provided guidance that earnings per share should be able to stabilize at around mid single digits. This implies that going into the third and fourth quarters, the comp sales in China are expected to improve.

Basic outlook on the industry

It seems that restaurants, depending on locality, are exposed to food epidemics. Going forward, investors have to watch out for contamination in water supply, biohazards, and radioactivity, as they can have a significant impact on earnings going forward.

Source: YCharts

The thing that really stuck out, however, was the limited impact the avian flu had on the price of Yum! Brands, Inc. (NYSE:YUM) stock. The stock eventually recovered, and its one-year performance was similar to McDonald’s Corporation (NYSE:MCD). The price was impacted over the short term, but recovered because the long-term fundamentals have remained largely intact.

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