Which of These 3 Fast Food Chains Should You Own?

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

Health-conscious individuals are far more common today than they were when major fast food chains started operating. This makes owning restaurants like McDonald's (NYSE: MCD), Wendy's (NASDAQ: WEN) and Burger King Worldwide (NYSE: BKW) a bit of a tricky game. These firms often have to pay closer attention to societal trends than most firms in order to secure their prosperity. In addition, business operations have to be tight as a shoelace so that the firms don't trip up in the attempt to reign supreme. So which companies come out on top.

McDonald's could be set for a drop

McDonald's share price has risen about 11% in the last year; however, shares are 4% lower from mid-April. Return on assets hasn't been great over the last several years, and this has investors skating on thin ice. The indicator is calculated by using the net income from a specific operating period and dividing it by the average total assets the company owns. In McDonald's case, the company has nearly 70% of its assets consumed by equipment and property. That is a considerable amount, and is due largely to the fact that there are about 34,000 McDonald's restaurants throughout the world.

In looking at McDonald's return on assets, we can see that the firm is accumulating just over a 16% return. Also, over the last 5 years, it becomes clear that the firm's share price rises as the return on assets rise.

Now, the company has a declining return on assets, and profit margins are about as low as they've been over the last four years. Even though the return on assets is steadily falling, the share price has risen, which indicates that over a longer-term period, the price will fall. That is if history repeats itself, which it usually does.

Wendy's is improving its look

Wendy's has been making a harder drive recently to ramp up profits. For example, the firm has added options such as the "Image Activation," (low-cost remodeling project) and "Right Price, Right Size," (value menu) to its offerings. Also, the firm is sure to attract new customers with the Pretzel Bacon Cheeseburger. While Wendy's has historically been near the top of the class in the fast-food industry, it has experienced a decline in sales due to increased competition. But these new initiatives could put the company, and shareholders, on top.

With the "Image Activation" initiative, company executives have reported an average 25% increase in revenue at stores that have already undergone the renovations. That indicates there will be further growth in sales as the company continues to transform all of its current restaurants by 2015 (the company's goal). However, the firm is balancing those increased sales with losses from stores that are closed due to remodeling.    

With the "Right Price, Right Size" initiative, the company is for the first time adding a value menu (other than their Triple Stack for $2 during a brief period). Most other fast-food chains have had a value menu for a long time, and this has helped them be relatively recession proof. I think the new value menu will help protect Wendy's investors from recessions. However, I would hold out in owning this stock until 2015, when all the stores are expected to be remodeled. The expenses associated with the renovations will be felt until around that time, and will damage profits.

Burger King has too much debt to grow

Burger King's PE ratio is relatively high right now at around 51. The firm announced a $200 million stock buyback and that has driven up the price. Even with the buyback, which would lower the PE ratio, it is still very expensive. Furthermore, the firm has about $3 billion of long-term debt, which equates to a debt to equity ratio of nearly 2.5. Not good in an industry where cash is needed to grow.

Where to invest

McDonald's has continued to impress me with its business savvy and ability to profit from an increasing global middle class. The firm has also improved its image with healthier menu items and a classier ambiance in the restaurant. However, the cost of the improvements have lowered the return on assets considerably, and makes the company overpriced. Wendy's is in a similar boat, but the improvements there have raked in healthy profits. The same can't be said for Burger King, which doesn't have operating expenses under control, and has too much debt to make any major improvements to its stores. I'd put my money with Wendy's for the long term. The company could experienced lower profits in the next two years due to the many renovations, but after that, I see major growth ahead.

If you're an investor who prefers returns to rhetoric, you'll want to read The Motley Fool's new free report "5 Dividend Myths... Busted!" In it, you'll learn which stocks provide premium growth and whether bigger dividends are better. Click here to keep reading.

Phillip Woolgar has no position in any stocks mentioned. The Motley Fool recommends Burger King Worldwide and 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!

blog comments powered by Disqus