Friday, June 24, 2011

McDonald’s (MCD) Dividend Stock Analysis

McDonald’s Corporation (MCD), together with its subsidiaries, operates as a worldwide foodservice retailer. It franchises and operates McDonald’s restaurants that offer various food items, soft drinks, coffee, and other beverages. The company is member of the S&P 500, Dow Jones Industrials Average and the S&P Dividend Aristocrats indexes. McDonald’s has paid uninterrupted dividends on its common stock since 1976 and increased payments to common shareholders every year for 34 years.

The most recent dividend increase was in September 2010, when the Board of Directors approved an 11% increase to 61 cents/share. The major competitors of McDonald’s include Yum! Brands (YUM) and Starbucks (SBUX).

Over the past decade this dividend growth stock has delivered an annualized total return of 13.80% to its loyal shareholders.

The company has managed to deliver an increase in EPS of 15.50% per year since 2001. Analysts expect McDonald’s to earn $5.09 per share in 2011 and $5.55 per share in 2012. This would be a nice increase from the $4.58/share the company earned in 2010. On average the company has managed to repurchase 2.20% of its stock annually over the past decade. I expect future earnings per share growth to average 10% per year over the next decade.

Analysts expect the company to manage to deliver 4% - 5% annual sales growth over the next few years. Growth in Asia/Pacific and Europe would likely outstrip US revenue growth. The international segment, which accounts for almost 55% of profits, has accounted for much of the growth in the past and is also expected to deliver growth in the future. The company has been able to achieve sales growth through innovation in its menu, introduction of different drinks as well as using its dollar menu items. Since 2003 the company has focused its strategy mostly on internal growth through maximizing existing restaurants’ profitability. For example, the company is spending half of its CAPEX on new stores, while the other is mostly spent on redesigning of its existing locations. In addition, the company has focused on its stores profitability by disposing of non-core assets such as Chipotle Mexican Grill (CMG) and Boston Market.
One of the main risks behind the company is food inflation. However, given its strong brand name, the company should be able to pass on some of the rising food costs to consumers, without alienating them.

The company has been able to increase in return on equity from the high teens in early 2000s to over 30% over the past three years. Rather than focus on absolute values for this indicator, I generally want to see at least a stable return on equity over time.

The annual dividend payment has increased by 26.50% per year since 2000, which is much higher than the growth in EPS. Future dividend growth would likely average 10% per year.

A 26% growth in distributions translates into the dividend payment doubling almost every three years. If we look at historical data, going as far back as 1979, we see that McDonald’s has actually managed to double its dividend every fouryears on average.

Over the past decade the dividend payout ratio has increased from 18% in 2001 to 49% in 2010. This has mostly been as a result of dividend growth being faster than earnings growth. A lower payout is always a plus, since it leaves room for consistent dividend growth minimizing the impact of short-term fluctuations in earnings.

Currently McDonald’s fits my entry criteria trading at 16.60 times earnings, yields 3.10% and has a sustainable dividend payout. I would consider adding to my position in the stock subject to availability of funds.

Full Disclosure: Long MCD and YUM

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