Why These Fast Food Chains Have Plenty of Momentum Left
Sep 19th 2013 2:37PM
Updated Sep 19th 2013 2:38PM
Cash-strapped consumers continue to hold onto their purse strings with an ironclad grip. Due to the threat of higher taxes, stagnant wages, and a frustratingly slow-to-recover labor market, Americans are widely ratcheting down their spending habits. While this is bad news for many companies dependent on consumer spending, it's good news for America's fast food chains.
Within the consumer discretionary sector, there are many stocks that thrive when consumers pinch pennies. These include fast food chains like McDonald's , Wendy's , and Jack in the Box , which are each seeing strong same-restaurant sales in recent months, a trend that should provide positive momentum going forward.
Strong sales in a weak economy
Consumers are still keeping a lid on spending, and as they choose cheaper eating options, fast food chains are prospering. Consider that McDonald's has now posted same-store restaurant sales growth (which measures only sales at locations open at least one year) of 1.9% in August, 0.7% in July, and 2.6% in May. While these might not seem like much, they're a marked improvement from the struggles McDonald's faced earlier this year, when it routinely posted same-restaurant sales declines (in January, February, and April, to be exact).
And, McDonald's may have more good things in store for investors. It's revamped its menu to include new items like its already-popular Chicken McWraps and Mighty Wings. Moreover, McDonald's is continuing to branch out overseas. McDonald's has identified new avenues for growth all across the globe, particularly in the emerging markets, where expanding middle classes mean millions of potential new customers.
In that vein, I'd point investors to the company's plans for China. McDonald's has put huge efforts into developing its operations there. McDonald's is currently executing on its plan to open 225 to 250 new restaurants every year until it reaches its stated goal of 2,000 restaurants in China by the end of this year.
Moreover, the company has now targeted growth in Russia. McDonald's has 357 restaurants in more than 85 Russian cities, with plans to open at least 150 self-operated restaurants in Russia over the next three years.
This is an area I think McDonald's has a leg up on close competitor Wendy's, which does not yet have a strong presence in international markets. Just 5% of the company's total restaurant system is outside North America. But, there's no denying Wendy's own momentum over the past several months. The company has launched a completely new 'Right Price Right Size' menu, as well as very popular new items such as the Pretzel Bacon Cheeseburger, which is selling extremely well.
As the saying goes, the proof is in the pudding: Wendy's reported great 15% growth in adjusted EBITDA (earnings before interest, taxes, depreciation, and amortization) and its stock has doubled over the past year.
Where growth investors should focus
Growth investors may want to consider Jack in the Box, a smaller industry player that also operates the Qdoba chain. Jack in the Box holds just a $1.75 billion market capitalization, but is growing rapidly at above-average rates for the industry. Over the first nine months of the fiscal year, Jack in the Box reported impressive same-restaurant sales growth in both of its segments. Qdoba put up strong 3.9% same-restaurant sales growth, while the company's flagship Jack in the Box system beefed up sales by 4.9% through the same period.
This growth doesn't come without a price, however, as Jack in the Box trades for a healthy premium to its industry peers. The stock trades for 45 times trailing earnings, compared to a trailing P/E multiple of 17 for McDonald's. Moreover, while Wendy's and McDonald's both pay solid dividends, Jack in the Box doesn't offer a dividend payout, meaning there's even less downside protection. On that subject, there's no beating McDonald's: the company has raised its dividend every year since its first payout in 1976, including a very recently announced 5% dividend increase. At recent prices, McDonald's yields a healthy 3.3%.
Offering heaping helpings of cash
The argument can be made that McDonald's and Wendy's days of strongest growth are likely behind them. The fast food industry in the U.S. is fiercely competitive. However, don't let this deter you from considering the stocks. There are plenty of reasons left to own them.
McDonald's is busy building its empire overseas, and Wendy's is making great strides in reorganizing its business, some of which include transitioning to the more lucrative franchise model, as well as paying down debt and buffering its balance sheet. Moreover, their compelling dividends continue to be attractive in a market where yield is hard to come by. Jack in the Box is growing strongly as well, but its lofty valuation and lack of dividend are causes for concern.
As a result, for the best mix of growth, value, and income, give preference to McDonald's and Wendy's among the fast food stocks.
The article Why These Fast Food Chains Have Plenty of Momentum Left originally appeared on Fool.com.Robert Ciura owns shares of McDonald's. The Motley Fool recommends McDonald's. The Motley Fool owns shares of McDonald's. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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