Is There Money to Be Made in Fast Food?

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

As consumers continue to struggle to make ends meet, eating out has become less of a priority. As a result, major fast food operators have shown less than stellar year over year sales and tepid earnings forecasts. Nonetheless, as the economy gradually ekes its way out of the “Great Recession” and the employment situation slowly improves, these stocks below look to be great beneficiaries.

Should we take a bite of McDonald's?

Surely, you have heard of McDonald's (NYSE: MCD) and quite possibly even eaten there as the “Golden Arches” are simply ubiquitous with approximately 34,000 restaurants in operation in 120 countries. With the juggernaut now churning over $27.5 billion in annual revenue and a market capitalization well in excess of $95 billion, it clearly is not going anywhere. The stock, though, has shown some volatility due to continued world-wide economic angst and some disappointing year over year sales data. However, looking at it from a value lens, the company looks worthy of a buy now.

The company is continuing to benefit from the rising worldwide middle class as "BRIC" countries continue to grow rapidly. In addition, the company continues to listen to the marketplace by adding healthy salads and other menu options, further growing its customer base. The stock is now historically cheap at just 18 times trailing earnings and 15.5x forward P/E.

With the company able to run its business efficiently, it continues to sport mouthwatering operating margins exceeding 30% and return on equity at approximately 36%. Perhaps, most importantly, the company yields a consistently growing 3.20% dividend yield compared to the average Fortune 500 company yielding a much smaller 2%. Add the fact that at its current dividend, the payout ratio is considerably below 60%, signaling that it has a strong chance of raising the dividend again soon. I think McDonald's is a solid buy here.

Is Yum! Brands ripe for investors?

Yum! Brands (NYSE: YUM) is a formidable competitor of McDonald's, operating 38,000 total restaurants in 120 countries with the popular Taco Bell, KFC, and Pizza Hut brands under its umbrella. The company has recently shown some improving trends and I think there is a buying opportunity.

Yum! has the distinct advantage of having a diversified revenue base. In fact, its operations in China now account for approximately 50% of its total revenue and should continue to be a strong growth driver in years to come. Earlier in the year, Yum! saw sales plunge on the avian flu scare which is still causing damage. However, recent reports, show that while same store sales are not pretty, they are falling more slowly and heading back in the right direction. 

The company has exceeded analysts’ estimates in each of the previous three quarters, showing that the company is performing well operationally. Moreover, like McDonald's, management does a wonderful job running its business as operating margins are in excess of 16% and returns on equity an impressive 63%. Add in the reasonable 23x trailing and 19.5x forward P/E and that further proves that Yum! is showing nice value.

Lastly, the company pays a nice and consistently growing 2% dividend yield. At a current payout ratio below 40%, investors can be confident that the dividend will probably be raised again soon.

Should we buy Starbucks' stock rather than just its coffee?

Starbucks (NASDAQ: SBUX), like the above two, is very well-known worldwide. The company has annual revenue of approximately $14 billion and nearly $50 billion in market capitalization. The company has had a nice run recently, sitting at a new 52-week high, leading one to ask is now the time to buy the stock?

I believe that the answer is yes. Starbucks has an immensely valuable brand name that should only grow as the BRIC countries continue to evolve. Even though the company is more expensive than the previous two from an earnings standpoint, now at a 33x trailing and 25x forward P/E, it is expected grow considerably faster. In fact, more than double McDonald's per annum growth rate over the next five years (9%) and 50% more than Yum! (12%) as analysts’ expect an 18.5% growth rate over the same time-frame.

Therefore, the company is actually trading lower than both from a price to expected growth rate valuation, and it is seen that analysts have actually been conservative as the company has met or exceeded consensus estimates in three of the past four quarters. Operating margins came in strong at 14% while return on equity is a pretty 29%. Throw in its consistently growing 1.30% dividend yield and I think Starbucks should serve investors well over the long-term.

The Foolish conclusion

The economy continues to find it tough to get back on solid footing. Fast food restaurants have been experiencing the same dilemma. However, if investors are able to look at the long-term scenario, I believe the three stocks listed above will serve them well, while they also collect a nice dividend in the process.

McDonald’s turned in a dismal year in 2012, underperforming the broader market by 25%. Looking ahead, can the Golden Arches reclaim its throne atop the restaurant industry, or will this unsettling trend continue? Our top analyst weighs in on McDonald's future in a recent premium report on the company. Click here now to find out whether a buying opportunity has emerged for this global juggernaut.


Brian Gorban has no position in any stocks mentioned. The Motley Fool recommends McDonald's and Starbucks. The Motley Fool owns shares of McDonald's and Starbucks. 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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