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McDonald’s: Economic Woes Keeping Sales in Check

McDonald's (MCD) met estimates for its earnings and revenue in the first quarter, but same-store sales were sluggish amid the need to keep prices down and customer traffic up.

The company said Friday it had sales of $6.60 billion, with a profit per share of $1.26, in the January through March period. In the same quarter last year, McDonald's earned $1.23 a share on revenue of $6.55 billion. Analysts surveyed by FactSet and Bloomberg were looking for $1.26 on the bottom line, while the Reuters consensus outlook was $1.27. The sales expectation was right around $6.6 billion.

Directionally, same-store sales were a different matter. Comparable sales worldwide were down 1%, a number that was actually slightly better than the 1.1% decline projected by analysts. Still, it continues several months of shallow comparable sales for the Oak Brook, Ill., Big Mac seller. Whether it's a surprise in a slightly positive manner is secondary to the fact that comps aren't staying as elevated as McDonald's had grown accustomed to in years past.

Not exactly end times for a restaurant owner with the size and reach of McDonald's, but it is a trend it will want to reverse sooner rather than later. It will have a chance to do so in the months ahead when comps get easier, though April is expected to be "slightly negative," the company predicts.

But for now, back to the present. In the U.S., comparables were weaker than expected, declining 1.2% vs. the 0.9% drop that was foreseen. Even though a negative number was projected, it did mark the first time in years McDonald's has had a reading this poor for quarterly same-store sales. Every quarter back to the end of 2008 is represented on the line below:

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Source: McDonald's, FactSet

CEO Don Thompson said he believes macroeconomic pressures will continue to burden the company for a time, and he cited what McDonald's views as a "challenging eating-out environment." With softer retail sales domestically, unrest among Europeans about the euro zone economy broadly, and a recent avian flu scare in Asia, McDonald's has been dealing with multiple external stresses, he said.

Despite these setbacks, Thompson pointed out the quarter contained its share of reasons to be pleased, even if they might be muted. "While our comparable sales were negative, we outperformed the competitive set and increased market share," he said on a conference call to discuss the numbers. Asked by an analyst for details, he said McDonald's believed it exceeded the informal-eating-out (IEO) sector overall by 1.4% in the quarter.

Comp sales are driven by the number of diners and the average check size. When one or both are in retreat, same-store sales will show that. McDonald's has been focusing on value pricing, though not necessarily dollar menu items specifically, in order to keep patrons happy. The dollar menu itself, executives explain, hasn't necessarily become a larger component of McDonald's fare. The sales figures instead are a result of the fact that the chain isn't able to push higher prices onto consumers because of the still fragile economy, in the U.S. and abroad.

"If inflation is not as high, we don't have as much pricing power," Thompson said. He added that the company doesn't "expect to see any significant improvements" in the short term. "And while comparisons will ease as we move through the year, it is not likely that the global [informal-eating-out] industry will improve dramatically."

McDonald's executives made sure to note the factors they can't do much about, namely less-then-stellar consumer confidence and the amount of disposable income people are willing to dedicate to fast food. The company's view is that expanding its portion of the industry is crucial, saying that is something over which it can exert a degree of control.

"For now it is a market share battle," said Chief Financial Officer Peter Bensen. The company, he said, is determined to build its slice of the customer pie, even if that means margins suffer somewhat. "That battle for market share becomes so critical to the long-term health of the business that we're willing to sacrifice a little bit of margin to maintain that traffic and grow the market share," Bensen said.

On the margins front, it can easily surrender a few points and still look good next to others in the fast-food arena. Below are the five-year averages of McDonald's and a group of its well-known competitors (numbers highlighted in yellow show the leaders):

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Source: FactSet

From a forward price-to-earnings ratio perspective, McDonald's remains cheaper than several others it goes up against. At a 17.2, that's under Burger King (BKW), Yum! Brands (YUM), Wendy's (WEN) and Jack in the Box (JACK). However, it's also ahead of the stock's average in the measure. According to FactSet data, McDonald's has a mean five-year, next 12 months P/E of 15.4. The highest it's been in that time is 18.2.

Ultimately, it's important to remember the massive scale and brand recognition of McDonald's, which has its name on nearly 35,000 restaurants around the world. It's going through a rough patch, not a collapse by any stretch. Investors were irked enough to send the stock down 1.9% to $99.95 on the day, but this comes a week after it hit an all-time high above $103.

There doesn't seem to be a lot of panic at McDonald's, and not much among investors -- yet. The next few months will be telling, though. Thompson has set the table for an OK next couple of quarters, not a blockbuster display. If it's surprisingly strong, and McDonald's can turn in solid comps, shareholders will be glad to forget today's issues. If not, the record highs of April 2013 may be a remember-when conversaion.

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