McDonald’s Stock Up 40% While Revenue Fell. What’s Wrong?

McDonald’s (NYSE:MCD) stock has gained 40% in the last 3 years or so, since the end of 2016, and was up even more prior to the pandemic-driven market fall. But how did the company manage to pull off this tremendous feat considering its revenue fell nearly 15% during the same period? Here is why – As it turns out, not only did McDonald’s manage to expand its earnings significantly, despite a steep revenue decline, the investors rewarded this achievement by putting a higher value on the company’s future growth – thus, expanding its P/E ratio significantly. That’s the reward for transitioning to a lean and efficient operating model that allows for higher profits and quicker expansion. Our dashboard Why McDonald’s stock is up 74.9% between 2016 and 2019 even though revenue decreased -14.4%? summarizes key factors that drove McDonald’s stock over the past 3 years.  

McDonald’s Earnings Surprise

Between 2016 and 2019, McDonald’s EPS (earnings per share) saw a 45% jump despite a revenue decline. This was largely due to 50% improvement in net margins – which went up from 19% in 2016 to nearly 29% in 2019.  What did the company do so right? It made a big change in its operating model – Instead of owning its own restaurants, McDonald’s now has a lot more restaurants that are franchised. This resulted in nearly $5 billion in savings as the company no longer had to pay salaries, benefits, rent, and maintenance. It is this shift to a franchise model that contributed to the revenue decline as McDonald’s no longer recorded the revenue in its books and instead, recorded fees earned from these franchises. On the revenue front, another meaningful change is in the revenue mix driven by McDonald’s expansion in international markets. 

Investors Loved This Change 

Driven by a 50% jump in net income margins and a slight reduction in share count, coupled with nearly 15% decline in revenue, McDonald’s EPS (earnings per share) increased from $5.49 per share to $7.95 per share. While the stock price increased based on the EPS improvement, investors further rewarded the stock – thanks to the increased interest in McDonald’s shift to an asset light model that paved the way for not only improved profitability but also quicker expansion in newer markets. As a result, the P/E ratio increased from 20.5 to 24.7, a jump of 20%. This is in contrast with the overall market (S&P 500) that saw barely any change in its implied P/E ratio.

Wondering how a solid brand like Chipotle has done during this time, and over the last few years? As a matter of fact, Chipotle’s revenues and margins have both grown. Find out more on How does Chipotle compare to McDonald’s

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