Dull 3Q at McDonald's

McDonald’s Corporation (MCD - Analyst Report) posted third quarter 2012 earnings of $1.43 per share, missing the Zacks Consensus Estimate of $1.47 as well as the year-ago level of $1.45 per share. Muted comparable-store sales (comps) coupled with increased costs led to the underperformance in earnings.

However, excluding the adverse effect of currency translation, earnings grew 4.0% year over year.

Quarter Highlights

Revenues dipped 0.2% year over year to $7,152.4 million, during the quarter which was ahead of the Zacks Consensus Estimate of $7,148 million. Excluding the negative impact of foreign currency translation, revenues grew 4.0% year over year.

Revenues from company-operated restaurants fell 0.4% to $4,838.4 million while the same from franchise-operated restaurants nudged up 0.1% to $2,314.0 million. Total operating income contracted 4% to $2,287.2 million.

In the United States, comps grew 1.2%. The comps in the quarter were backed by strong customer demand for core offerings like breakfast menu and the McCafe beverage line-up. The everyday value-menu was the other major contributor in the quarter.

Europe saw comps growth of 1.8%. The growth was backed by stronger performance in the U.K., France and Russia, partially offset by Germany. The efficient mix of premium as well as value-menu, food events and a restaurant reimaging program led the quarter’s performance.

In APMEA, comparable sales nudged up 1.4%. China and Australia put up a somewhat healthy performance in APMEA. However, Japan continues to be a dampener as the country struggles to recover from the after-effects of last year’s natural calamities, restricting consumers to dine out. A continued focus on daypart value options, variety in menu as well as locally relevant items drove the segment.

Company-operated expenses, franchised restaurant occupancy expenses and selling, general and administrative expenses escalated 1%, 2% and 7%, respectively.

In the third quarter of 2012, McDonald’s returned $1.3 billion to its shareholders through share repurchases and dividend payments.

Outlook

The Oakbrook, Illinois-based company expects near-term top- and bottom-line growth to reel under pressure.

Our Take

The fast-food chain’s performance in the reported quarter was below par, as the company is caught up with difficulties like implementation of austerity measures in Europe, increasing commodity costs in the U.S. and decelerating growth in Asia. With the focus on value proposition along with less pricing power and increasing investments towards media, margins will likely suffer, going ahead.

Besides, we believe that it will be difficult to maintain the positive comps momentum as the company will lap much stronger year-ago comps in late 2012. The current trend of negative comps in October is supportive of the view.

Presently, the company has little pricing power in Europe due to the wavering consumer confidence and shrinkage in the Europe's IEO industry. In Europe, the company will overlap lower pricing in the latter half of the year with year-ago level price increases.

On a positive note, we prefer the company’s consistent efforts to emerge out of its tough time. Its recent announcement of posting calorie content on restaurant and drive-thru menus nationwide to attract more nutrition-minded traffic is one such effort. Constant dividend hike irrespective of the economic peaks and valleys also calls for the company’s inherent strength.

McDonald’s which competes with the likes of Yum! Brands Inc. (YUM - Analyst Report), currently carries a Zacks #3 Rank (short-term Hold rating). We also reiterate our long-term Neutral recommendation.