Inflation fears in 2022 have dominated the news cycle, however it is now clear one American fast food company has a fix.
McDondalds (MCD) posted strong third-quarter financial results October 27, thanks to a big investment is digital strategies, and the ability to pass along higher costs to customers.
The business is a rarity. Investors should take note.
Digital may not be top of mind for investors when they think of McDonalds. The Chicago, Ill.-based company is synonymous with its iconic burger and fry combinations. For decades employees have been serving up billions of burgers that looked and tasted exactly the same, regardless where in the world they were purchased and consumed. Scale is still at the heart of the empire, however in 2017 executives began to focus more intensely on steering patrons down a more profitable path.
The future is digital, and self-serve.
Globally McDonalds is making a massive investment in kiosks, mobile applications, and technology for drive-thru customers that changes dynamically. Everything is designed to speed customers through the ordering and payment process. Digital strategies accelerate more sales per hour, and bigger profits.
The strategy is not really that far from McDonalds’ origin story.
Dick and Mac McDonald left New England in the late 1920’s for California. The brothers wanted to make their fortune in the movies, however by 1940 the pair were deep into the drive-in restaurant business. Their Speedee Service System, introduced in 1948 at their San Bernardino store, sped up service by offering customers far fewer choices. It was an instant efficiency revelation. McDondalds began selling its 15-cent hamburgers as fast as they could make them.
Today executives are still in search of efficiencies. They determined that the fastest way to bigger profits is to completely avoid the ordering window altogether, by gently encouraging customers to self-serve. This entails in-store kiosks, and the ability to place and pay for orders with the McDonalds smartphone application.
Drive-thru is also a big part of this strategy.
The fast food chain garners 70% of sales in top markets from customers who prefer not to get out of their car. A complicated choice can back up the whole line, and poison profits.
McDonalds acquired Dynamic Yield for $300 million in 2019, an Israeli startup that used artificial intelligence to dynamically change ordering window menus. Choices update based on weather, previous orders, and local trends. Other digital strategies at drive-thru use image recognition to scan license plates to recognize previous customers, or natural language processing algorithms to automate order taking. Together, the initiatives helped shave a full minute off drive-thru times in 2021 within the United States.
All of these strategies were helpful during the pandemic. Since then the changes have been force multipliers. Global inflation is running rampant as supply chain woes ultimately cause higher food, labor and transportation costs. Digital is mitigating these negative factors while leading to greater customer loyalty. And brand allegiance helps McDonalds pass along higher costs to loyal customers.
Chris Kempczinski, chief executive officer, said in October that increased traffic at its U.S. restaurants helped Q3 sales grow by 6.1%, versus a year ago. Worldwide same store sales jumped 9.5% year-over-year, smashing analyst expectations for growth of only 5.8%. The expansion was especially strong in the United Kingdom, Germany, France and Australia. The lone laggard was China, where ongoing covid-19 restrictions hampered sales.
Earnings in Q3 reached $1.98 billion, or $2.68 per share according to documents filed with the Securities and Exchange Commission.
The stock has performed well during 2022, rising by 10%, against a 19.6% decline for the S&P 500. At a share price of $278.40, the stock trades at 26.6x forward earnings, and 8.8x sales. The operating margin is rock solid at 42.5%.
McDonalds may be eons removed from 15-cent burgers in the 1940s, yet its storied legacy of business efficiency is intact. This is more important than ever as inflation plagues the global economy. This is a solid growth story for longer-term investors.
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