Revenue Drivers Jump-Start McDonald's

Heading into wide-moat

On the first topic, McDonald's put up an impressive performance, with positive comps in each region. Two-year stacked comps of 7.1% in the U.S. were particularly noteworthy, as they represented the highest quarterly figure since the first quarter of 2013 and signaled that efforts to regain lost customers are gaining traction through food quality, convenience, and value efforts (notably, the expanded all-day breakfast, Big Mac, and value beverage promotions). Our model had initially assumed that McDonald's comps would remain in the low single digits this year, but we now see a clear path to mid- to high-single-digit growth--including low-single-digit guest-count increases--as further food quality (fresh Quarter Pounder beef patties and the launch of the Signature product line in the U.S.), digital ordering/marketing, delivery, and EOTF are rolled out. Though early, these initiatives have had a positive impact on guest counts in test markets and should be increasingly significant drivers over the medium term.

On the bottom line, McDonald's refranchising push is the most significant driver behind the 570-basis-point increase in operating margins to 35.8%, but investors shouldn't discount other restaurant-level operating and SG&A cost containment. We remain comfortable with operating margins reaching the high 40s over the next 10 years.

We plan to raise our fair value estimate by $5-$6 for the first-quarter upside and a more favorable medium-term top-line outlook. Shares appear fairly valued, but we don't see a lot of downside catalysts in the near future.

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