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McDonald's is A Buy

Posted on Thursday, March 26th, 2020 by Sam Quirke

As the markets seem to find an at least temporary bottom for now and volatility starts to drop, investors are making moves back into equities. On Wednesday, the S&P 500 had its first back to back green days since February as upwards of 90% of the stocks in the index finished higher for the session. Like many other large-cap stocks such as Boeing (NYSE: BA), McDonalds’ (NYSE: MCD) stock is working hard to undo the damage of recent weeks.

Shares were trading close to all time highs as recently as the middle of February but suffered a 43% drop in the month since as the fast-food chain shut its doors across the country in an effort to halt the spread of coronavirus. Having briefly touched 2016 levels last week, there’s been an impressive bid present since and the stock is already up close to 40% from those lows.

Upgraded

This bounce hasn’t gone unnoticed. On Tuesday of this week, Stephens were out with a gutsy upgrade to the stock, moving it from equal weight to overweight and assigning a $200 price target. They noted how lowered expectations given the current level of uncertainty could mean for larger surprises to the upside in future earning reports and how fast-food chains with the depth of market that McDonald’s enjoys can oftentimes be a solid recession play. Additionally, only a small portion of the present value of any business is based on their near term revenue and cash flow and if / when we begin to return to social normality, it should be business as usual for the $120 billion company.

For investors looking to move back into equities and in particular, looking for big value plays, McDonald’s’ stock at these levels looks to be a solid buying opportunity.

The success of McDonald's business model has long been the envy of other fast-food chains. You’d be forgiven for thinking that most of their revenue comes from margins on their food sales when in reality it comes from rent, royalties and franchise fees. As most of their stores are capable of supporting a drive-through option that allows for social distancing measures, it’s unlikely they’ll see much of a drop from their core revenue drivers. On top of that, as the economy heads for a recession and cash tightens up in the ordinary person’s wallet, cheap and reliable food from the likes of McDonald's will be one of the last things people with struggling finances go without.

Fundamentally, things look impressive. Through 2019, comparable-store sales had risen to a 13 year high with management announcing daily orders in the region of 70 million. That’s 70 million people a day who go to McDonald's for food and the company has been able to consistently grow their margins. This kind of performance might help explain the 135% rally seen in their shares over the past five years through last month.

Getting Involved

At 3%, their dividend yield is attractive and while management has temporarily paused an aggressive share buyback program, that will surely be switched back on as economic uncertainty dwindles in the coming weeks and months. Technically, investors have a solid support level around $130 to work with for entries and stops and while the 50 day moving average just recently fell under the 200-day moving average, the rally from the past week has halted that divergence.

This is a business that’s been performing well and will likely continue to perform well but that has also been caught in one of the most aggressive market crashes in history. For the investor with the long term view, it feels as if shares are trading at a considerable discount that is already starting to be eaten up.

McDonalds is A Buy

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