Is McDonald's an Inflation-Resistant Stock to Buy Right Now?
McDonald's (NYSE: MCD) stock dropped and quickly recovered following its earnings announcement for the first quarter of 2024. The stock also remained steady in subsequent trading sessions.
This likely reflects some confidence in McDonald's stock. Although both revenue and earnings increased, CEO Chris Kempczinski noted the effects of inflation, saying customers are "more discriminating" with every dollar.
However, inflation does not matter to nearly the degree that casual observers might assume. Thus, investors are likely correct not to react to such news and stay the course with McDonald's. Here's why.
The true state of McDonald's
The shocking truth about McDonald's is that from a certain point of view, McDonald's is not a restaurant stock.
Yes, you read that correctly.
The reason why is its business model. When one looks at a competitor like Chipotle, nearly all of its revenue comes from restaurant sales.
That is not the case with McDonald's. In Q1 2024, around 38% of its revenue came from sales at company-owned restaurants. However, those sales come from about 5% of McDonald's restaurants owned by the company.
The remaining 95% of restaurants are franchises. McDonald's collects franchise fees from these restaurants, including a royalty of 4% to 5% of all revenue collected from a given location. Moreover, since it owns the building of every franchise, it derives revenue from rent. Since only a small portion of franchise fees depends on a restaurant's sales, its business model is highly resistant to phenomena such as recessions and inflation.
Furthermore, company-owned restaurants have high-operating costs. Just over 59% of its operating expenses in Q1 came from that part of the business. Thus, the majority of its operating income comes from its franchises.
Putting the McDonald's report into perspective
In Q1, overall revenue was $6.2 billion, a 5% increase from last year. Additionally, McDonald's limited operating-expense growth to 2%. Hence, its net income of $1.9 billion grew by 7% yearly.
Investors should also note analyst estimates as its financials appear set to improve slightly. For 2024, analysts forecast a 10% profit increase this year and 9% in 2025.
Such numbers may not impress growth investors, but McDonald's will probably remain attractive to those investors looking for safety and dividends. While the stock fell 8% during the year, the company raised the dividend by 10% last year to $6.68 per share. The payout has also increased every year since 1976 under a variety of economic conditions, a factor that reinforces its stability.
Amid its struggles, McDonald's stock has underperformed the S&P 500 over the last year and slightly lagged the index over five years even when including dividends. This means that investors must go back 10 years to identify a timeline when it outperformed the averages.
Still, those struggles may set the stock up for a significant gain. The discounted stock price means its dividend yield now stands at 2.4%, significantly above the S&P 500 average of 1.4%. Also, its 23 price-to-earnings (P/E) ratio is below the five-year average of 28, near three-year lows. Such metrics could indicate the stock is ready to move higher again.
McDonald's and inflation
Ultimately, owning McDonald's stock is an excellent source of inflation-resistant income.
Admittedly, McDonald's is probably not earning the returns that will impress growth investors. However, most of its higher-margin revenue depends on franchise-related fees that are fixed amounts. Also, the company's stock dividend has risen yearly for nearly half a century under a variety of conditions.
For those who have waited until now to buy the stock, those cash returns far exceed S&P 500 averages, meaning income investors may want to consider adding shares.
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Will Healy has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Chipotle Mexican Grill. The Motley Fool has a disclosure policy.
Is McDonald's an Inflation-Resistant Stock to Buy Right Now? was originally published by The Motley Fool