Why McDonald’s Will Outperform In A Recession

The following is a guest post coming from Bob Ciura of Sure Dividend. Please enjoy!

The spread of the coronavirus in the U.S. and around the world is likely to result in a recession. Even if the recession is short, it is likely to be severe, particularly when it comes to industries most vulnerable to economic downturns.

The restaurant industry is particularly at risk, as consumers typically curtail eating out in a recession. Job losses and falling stock markets usually lead to consumers tightening their belts. But not all restaurant stocks are at risk. For example, McDonald’s Corporation (MCD) is likely to outperform both its own industry, as well as the S&P 500 Index if a recession occurs in 2020.

McDonald’s is a Dividend Aristocrat that has increased its dividend for over 40 years in a row. With a strong current yield of 3.1% and a defensive business model, risk-averse income investors should consider McDonald’s to be a recession-resistant dividend stock.

Business Overview

McDonald’s is the world’s largest publicly-traded restaurant company, with more than 38,000 restaurants in more than 100 countries around the world. Over 90% of McDonald’s restaurants are franchised, which is a lucrative operating structure for the parent company. Under this structure, McDonald’s receives a steady stream of royalty income from franchisees, while placing the burden of many costs like maintenance, taxes, and insurance onto the franchise owner. McDonald’s has accelerated its franchising of restaurants over the past few years.

While this had the impact of lowering net sales, it resulted in significantly higher earnings-per-share due to margin expansion. For example, McDonald’s net sales declined from $22.82 billion to $21.08 billion from 2017-2019, but diluted earnings-per-share increased from $6.37 to $7.88 in the same time, representing 24% earnings-per-share growth.

Today, McDonald’s operates three business segments: the U.S. market, where the company has more than 14,000 stores, International Operated Markets, which includes developed markets France, the U.K, Canada and Australia, International Developed Licensee, which includes high-growth markets such as China, Italy and Russia. McDonald’s has a current market capitalization of $120 billion.

2019 was another strong year of growth for McDonald’s. Revenue increased 4% to $5.4 billion for the quarter. Global comparable sales, which measures sales growth at restaurant locations open at least one year, increased nearly 6% compared with estimates of 5.3% growth. U.S. sales increased 5.1%, the International segment grew 6.2% and the International Development Licensed segment increased 6.6%.

For the year, revenues were flat but earnings-per-share improved 4.5% thanks in large part to share repurchases. Global same-store sales were higher by 5.9%, with 5% growth in the U.S., a 6.1% increase for International Operated segment and a 7.2% improvement for the International Development Licensed segment.

Future growth will be fueled by continued expansion of comparable sales, led by new initiatives such as digital kiosks, mobile ordering, and delivery partnerships with third-party services. Store renovations will also help boost traffic, as McDonald’s has completed renovations on nearly 10,000 of its restaurants in the U.S. at the end of 2019.

Serving Dividends To Shareholders

McDonald’s has the longest history of consecutive annual dividend increases of any restaurant stock. Since it paid its first dividend in 1976, it has increased its dividend for 43 consecutive years. This is a very long period of consecutive dividend increases that proves McDonald’s has a time-tested business model that can outlast recessions. The past 43 years included multiple recessions and global challenges, and yet, McDonald’s continued to increase its dividend each year.

The fundamental reason for this is because McDonald’s sees steady demand each year, even during recessions. Its status as a fast-food operator means that in economic downturns, cost-conscious consumers looking to tighten their belts typically scale down their spending on dining. In this way, McDonald’s might actually benefit from a recession. McDonald’s grew its earnings-per-share each year from 2007-2010, during the “Great Recession”. This was a very impressive performance that few other companies could match. In fact, McDonald’s was one of only two stocks in the Dow Jones Industrial Average (the other being Walmart) that saw its share price increase in 2008.

As a result, investors should be confident that the company will continue to increase its dividend in 2020 and beyond, even in a deep recession. With an expected dividend payout ratio of approximately 60% for 2020, the dividend appears highly secure.

McDonald’s has a current dividend payout of $5.00 per share, which represents a solid yield of 3.1% based on the recent share price. By contrast, the S&P 500 Index has an average dividend yield of just 2.3%. Therefore, McDonald’s stock provides significantly higher dividend income than the average stock in the broader stock market index, with the added bonus of yearly dividend increases—even in economic recessions. Because of these qualities, McDonald’s is among the safest stocks to own in a recession, in terms of dividend sustainability.