Wednesday, December 9, 2009

Ackman on McDonald's

One of the great global franchise businesses is McDonald's (MCD). Yesterday, they reported some disappointing same store sales results for November. While that indicates some problems in the short run, I don't think it changes the long-term attractiveness of the business (though the news has the potential to bring the stock into a more attractive valuation range).

MCD has solid returns on capital that will likely improve over time and a durable wide moat.

Below is an excerpt of Bill Ackman's (Pershing Square Capital Management) recent take on MCD from his 2Q09 letter:

McDonald's makes money in principally two ways: first, by collecting an approximate 14%+ share of its franchisees' revenues for the use of McDonald’s brand...and second, by generating operating profits from a portfolio of company-operated stores.

Then later added...

McDonald's brand royalty business is one of the greatest businesses in the world because it generates an annuity-like revenue stream which can grow without the requirement for meaningful investment of capital from the company. Because the company's revenue share comes from more than 32,000 different stores spread around the globe, it is an inherently stable, currency-hedged, inflation-protected stream of cash flow. 

Despite its business quality and dominant global market position, McDonald's stock trades at only about 13 times multiple of 2010 earnings, a price which we believe does not adequately reflect the company’s fair value.

MCD has attractive long-term prospects and a reasonable valuation (reasonable but certainly not cheap). It's currently selling at around $ 60/share and should earn at least $ 4.30/share in 2010. As far as global franchises go I still prefer the likes of Coca-Cola, Pepsi and Diageo but McDonald's should do very well in the coming decades.

Adam

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