McDonald's (MCD) fourth-quarter update solidified our view that its velocity drivers--including Experience of the Future, or EOTF, digital menu boards, mobile order, and delivery--are having a positive impact on system sales (global comps increased 4.4%) and helping the company adapt to evolving consumer preferences. While headlines about U.S. franchisee unrest have called into question the efficacy of the velocity drivers as well as other value platforms, we believe the ongoing top-line strength of advanced EOTF markets like the U.K., France, Australia, and Canada and sales lift from early adopting U.S. restaurants justify the costs involved. Although management has adjusted the pace of EOTF remodels in the U.S.--giving franchisees the flexibility to push EOTF remodels beyond 2020 (although with less coinvestment from McDonald's)--the fact that most franchisees still plan to complete EOTF remodels over the next two years validates the efficacy of the program while reinforcing the franchisee system intangible asset behind our wide moat rating.
Looking ahead to 2019, we expect top-line momentum as EOTF and other operational technologies to improve speed of service, order accuracy, and in-app mobile ordering are deployed. Collectively, we expect this to result in 3%-4% global comps (and 3% in the U.S.), with two-three points of contribution from price increases and menu mix/bundling and a point in transaction growth. Management noted labor costs, foreign currency translation, higher depreciation tied to EOTF remodels, and reduced franchising gains, but we still see a path to high-single-digit EPS growth in 2019 (versus $7.54 posted in 2018) through operating expense leverage and G&A reductions.
We're not planning changes to our $190 fair value estimate outside of time value of money adjustments. While we see shares only slightly undervalued, we continue to believe velocity should keep McDonald's ahead of industry trends and protected from cyclical downturns.
|Morningstar Premium Members gain exclusive access to our full analyst reports, including fair value estimates, bull and bear breakdowns, and risk analyses. Not a Premium Member? Get this and other reports immediately when you try Morningstar Premium free for 14 days.|
R.J. Hottovy does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.