If I say hamburger, chances are the first word that comes to your mind is Big Mac, right? The iconic McDonald's burger is known all over the world and is even used as a reference for an economic index comparing the cost of living on our planet. But if McDonald's is almost on every corner with its nearly 40,000 restaurants and franchises around the globe, is it still worth investing in, and how does the company make its money? Let's take a closer look.
If you had invested in McDonald's at the beginning of 2010, you would have made money. 1,000 euros invested in the company at that time would be worth around 3,340 euros today. However, McDonald's stock has underperformed over the last ten years compared to the American benchmark: the S&P 500. If you had invested the same amount over the same period in the index, you would have 3,990 euros today. These amounts would be considerably higher with dividends, but this is a rough estimate of how they would change.
This negative pattern has been confirmed during the past year, as McDonald's share price has risen by nearly 12% since September 2020, compared to a 35% growth for the S&P 500.
But do these disappointing stock market results mean that McDonald's is a company that is not doing well?
Maybe you didn't know it yet, but if you are in a McDonald's anywhere in the world, there is more than 93% chance that it is not managed by the American company, but is a franchise. Indeed, McDonald's business is not so much based on the sale of burgers, milkshakes and other fries as on the management of a huge real estate park.
In fact, when McDonald's franchises one of its restaurants to one of its partners, the company still owns the premises and receives rent based on a percentage of the restaurant's sales, as well as royalties and fees paid by the franchisees.
How does this reflect on the company's financials, then? To find out, let's take a look at our favorite document: the latest McDonald's earnings report, released on July 28, 2021.
One of the interesting aspects to note in the company's financials is that 42% of its revenue (nearly $4.7 billion) comes from the restaurants that McDonald's operates under its own name, even though they represent only 5% of the brand's restaurants worldwide. The rest of McDonald's revenue comes almost entirely from its franchised restaurants, which brought in about $6.2 billion in the first six months of 2021.
Of course, one might ask why McDonald's continues to work with franchises if the company can generate more than 40% of its revenue from just 5% of its restaurants. The answer lies in one word: expenses.
McDonald's has nearly $4 billion in expenses for the restaurants it operates under its name, compared to only $1.1 billion for those that are franchised. This means that for every dollar spent in a restaurant it operates under its own name, McDonald's earns $1.21, compared to $5.38 earned for every dollar the company spends in one of its franchises.
Clearly McDonald's is doing much better today than a year ago, when the Covid-19 pandemic was at its worst and many restaurants were forced to close around the world. The crisis severely affected the company, whose net profit dropped to $1.5 billion in the first half of 2020. This amount has more than doubled since then, as McDonald's has made more than 3.7 billion dollars in profits in the first half of 2021, an increase of 136% in one year.
But, to get a clearer picture of the shape of the business, let’s compare the 2019 figures with those of 2021. And there too, the progression is visible, although obviously less spectacular than between 2020 and 2021. McDonald's made $2.8 billion in profits in the first six months of 2019 versus $3.7 billion this year, a 32% increase.
Even in the midst of the pandemic, McDonald's still managed to turn a profit even though many of its restaurants had to close. This is mainly due to its business model, which required very little spending on its franchised restaurants and continued to receive rent, royalties and other fees from them.
In the end, investing in McDonald's raises the question of whether the fast-food giant will be able to continue to profit from its franchise-based business model in the same way, and whether it can also continue to grow rapidly, even though its restaurants already cover the four corners of the planet.
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