Time to Place an Order: Fast Food Is Delivering

Marie is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Every now and again I like to treat myself to some fast food. Nothing makes me feel more American than eating a burger with fries. While I generally try to limit my caloric intake, I think over the next few months I’m going to splurge on more fast food. Why? Because companies are delivering.

I’m not talking about 30 minute pizza delivery, or McDelivery; instead, fast food companies are delivering profits. Here are some of this seasons winners:

Get a slice of these profits

One of the biggest winners in fast food, the second largest pizza chain in America Domino’s Pizza, (NYSE: DPZ)  reported a profit increase of 19% year-over-year. Domino’s credits its profit to what it does best: making pizza. It released its handmade pan pizza earlier this year, and this pizza now accounts for 20% of all sales. While the pan pizza has cannibalized other pizza sales, it’s a trade Domino’s will gladly make. Its pan pizza is priced higher, yet it requires minimally more ingredients to make. This translates into higher gross margins for Domino’s and trickles down to a higher bottom line. In addition to higher margins, Domino’s saw its same store sales increase by 7%. Large sales and raised margins created “supreme” quarterly earnings. As CEO Patrick Doyle plans on rolling out new items to raise Domino’s margins ever further, it might be worth your while to invest some dough in this stock.

Franchising the fries

It appears Domino’s borrowed its new margin strategy from competitor Wendy’s (NASDAQ: WEN). In the past year, Wendy’s launched several premium burgers, salads, and sandwiches in order to generate a higher gross margin and profits. The company's margin grew from 23.6% to 27.25% year-over-year. Wendy's revenue increased from $-5.5 million a year ago, to $12.2 million in the second quarter. While this growth is promising, Wendy’s said it would begin to focus more on low-price menu items in order to compete with McDonalds' (NYSE: MCD) dollar menu and other low price competitors.

If the company wants to lower prices, it has to cut costs as well in order to maintain margins. In response to this problem, Wendy’s board opted to franchise 425 corporately owned stores. The move will reduce corporate ownership from 22% to 15% of all locations, and should lower costs and boost rent and royalty income long-term. Even if Wendy’s low-cost strategy fails in the short-term, franchising stores is a long-term success.

Things get Loco

While many smaller brands have performed well, industry giants Yum! Brands (NYSE: YUM) and McDonalds haven’t been among the top performers. This quarter has not been kind to them, but I believe this has created a profitable entry point to buy in.

An avian flu scare saw Yum’s sales fall 20% in China. Fortunately, analysts expected the decrease, yet the stock fell even though CEO David Novak confirmed that sales were recovering as expected. Poor performance in China has overshadowed the stock, but there was still plenty of positive news. The company’s U.S operating profit skyrocketed 26% year-over-year as Taco Bell sold over 100 million of its Doritos Locos Tacos. While Taco Bell has been Yum’s strongest performer, its Pizza Hut and KFC brands saw sales increases of 4% and 1%, respectively. Despite a 16% decrease in net income, the market anticipated the fall and the stock is quickly rising as the company reaffirmed its full-year EPS growth of 12%.

While Yum’s fall has been muted by low expectations, McDonalds was not as fortunate. The company delivered profits of 1.4 billion, up 4% year-over-year, and revenue of 7.1 billion, up 2%, yet failed to meet analyst expectations on both accounts. International and United States same store sales were up 1%, a small number for a big company. In addition to low growth and slowing sales, the company leadership said that more tough months lie ahead. The market did not want to hear this, and the stock subsequently dropped about 4%.

Yum and McDonalds were up 8% and 13% on the year before earnings. Both companies saw a drop in earnings, but I believe those losses will be short-lived. These companies are the bread of the fast food industry; they won’t stay down for long.

It’s time to order

Smaller restaurants have seen their profits rise, while larger companies are lagging behind. As domestic and global economies slowly recover, the fast food industry is poised to profit.

Buying fast food is a special occasion for many. If you are looking for the best value, I would recommend Yum! Brands. The fast food conglomerate is well diversified and growing. After a disappointing first half, its stock is poised to rebound. My taste buds aren't complaining, and I doubt my portfolio will either. 

This article was written by Joshua Sauer and edited by Marie Palumbo and Chris Marasco. Chris Marasco is Head Editor of ADifferentAngle. None has a position in any of the stocks mentioned. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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