Pick Your Favorite Fast Food to Hedge Against the Dollar
Edgar is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
McDonald's (NYSE: MCD) is one of the best multi-nationals one can own for their portfolio as a hedge against the dollar. Despite the inclusion of Yum Brands into the mix, the one year chart below highlights the inverse relationship of McDonalds and EUR/USD. Although the majority of the time the chart holds true to its purpose, there are areas where instead of the pair diverging from one another, they have trended in a parallel fashion.
This margin of error could be attributed to a number of variables, including but not limited to, company specific problems, restaurant sector weakness, European risk, and earnings misses. For McDonald's, the inverse relationship symmetry is almost perfect for the period between December 2011 and March 2012 and again from mid-June of 2012 until now.
At its second quarter earnings release, McDonald's saw its net income fall by 4% due to a sluggish economy and partially due to a stronger dollar. Its $1.32 earnings per share came in $0.05 below the analyst consensus of $1.37 on $6.95 billion of sales. Unfavorable foreign currency exchange rates mixed with higher commodity and labor costs resulted in a recent reduced target EPS of $5.37 for 2012.
McDonald's competes in the global fast food industry where it arguably has the most dominant brand name presence. Having said that, the company's expansion of 33,500 restaurants into 119 countries creates a smooth diversification of conversion rates when the risk of said currencies are converted to the greenback.
However, the case is a bit different for Yum! Brands (NYSE: YUM), its $30.27 billion large cap rival that has similar international exposure. Yum Brands could be considered the 2nd favored quick service restaurant multi-national hedge against the dollar. Since the inverse relationship between YUM and EUR/USD is not present, it's imperative to gauge how the Chinese Yuan has performed against the Dollar, since over 40% of YUM's 2nd quarter revenue came from China. Contrast those figures to the 22% of total sales and only 3% in profits that McDonald's generates from the Republic of China.
The brand names KFC, Taco Bell, Pizza Hut, and now Little Sheep are heavily favored in the Chinese markets. Last quarter Yum! Brands saw an increase of 18% in new established units and 10% same store sales growth. It has opened 160 new restaurants and raised its projection to build 700 new units a year from its previous 600. The Colonel was able to stand behind a 12% EPS growth with the help of a country that is the gold mine for its top-line substantial growth. Only four restaurants are open for every 1 million Chinese versus 60 restaurants opened for 1 million U.S. citizens.
Yum's Wing Street operates only in the U.S., Canada, Germany and Cyprus. In 2011, Yum announced its intentions to divest itself of its Long John Silver and A&W businesses and shift its focus on its three core brand names: KFC, Taco Bell, and Pizza Hut, which have shown aggressive same store sales growth even in international markets excluding China. During the same year, Great American Brand LLC purchased A&W and LJS Partners LLC purchased Long John Silver, which were originally acquired for $320 million by Yum! Brands almost a decade ago. Yum Brand's corporate profile domestically is also something to be wary of. Taco Bell remains to be the leader in the U.S Mexican quick service food segment with 50% market share. Last year it recorded 5,670 Taco Bells in United States versus 275 in Yum Restaurants International. KFC holds approximately 40% market share in U.S. chicken quick service segment with 4,780 units versus 3,700 units in China. For its domestic business, YUM expects to grow its operating profit at 5% a year.
It is difficult to pinpoint how much the dollar strengthened itself by taking the Euro and Yuan out of the equation, and how the greenback will precisely affect the margins for both quick service restaurant giants. McDonalds and Yum Brands have made phenomenal progress and have waged a continuous war in China with Yum! Brands maintaining its dominant stance. The Yuan price continues to be the key factor as both quick service restaurant companies have aggressive expansion plans until 2020 set in place. McDonald's was the center of attention several times when it was cited in selling expird food in China. While the company plans to increase its golden arch units to 2000 from 1300 in 2013, Yum Brands is more focused on quality and adapting its menues to local tastes to boost its same store margins.
edgarambart30 has no positions in the stocks mentioned above. The Motley Fool owns shares of McDonald's. Motley Fool newsletter services recommend McDonald's and Yum! Brands. 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.If you have questions about this post or the Fool’s blog network, click here for information.