McDonald's makeover has 'tremendous potential'
- McDonald's sales remain sluggish but will pick up in the second half of 2018, according to RBC.
- Same-store sales rose slightly in March, driven by improving industry trends and a recovery breakfast demand.
- RBC sees potential in McDonald's makeover efforts.
- Watch McDonald's trade in real time here.
McDonald's $1, $2, $3 Dollar Menu promotion came at a significant opportunity cost in the first quarter and the menu's long term success to win customers remains uncertain, RBC analyst David Palmer writes in a note to clients. However, he believes "tremendous potential upside remains" as the company works to execute the basics better and continues its brand makeover.
The fast-food giant's new Dollar Menu, which debuted in January and attempted to win customers with price cuts, launched with disappointing results as competing chains followed suit by also lowering prices. As a result, Palmer lowered his first-quarter same store sales estimate to 1% from 3.5%.
"Our sense is that the $1, $2, $3 platform stole attention from local marketing, particularly at breakfast, which likely slowed as a consequence," Palmer said in a March note that slammed the initiative. "In addition, we believe the menu's position as a variety play... lacked the 'hero' item necessary to resonate with value-conscious consumers."
Shares of McDonald's tumbled nearly 5% in response to Palmer's note, posting their biggest percentage decline since October 2008.
But Palmer has started to change his tune on McDonald's as March same-store sales growth rose slightly to an estimated 3% range, driven by improving industry trends and a recovery in breakfast demand following the restaurant's 2 for $4 deal, he said.
And although second-quarter sales got off to a slow start because of the April weather, Palmer maintains a US SSS estimate of 2.5% and sees the quarter ending on a positive note with the addition of fresh, made-to-order quarter-pounders to the menu.
"We believe the US improvement story will continue, with quality improvements to food, digital conveniences, and restaurant assets," Palmer wrote. "That said, recent sluggish US sales imply that adjustments to the value platform may be needed."
Palmer lowered his first-quarter 2018 earnings-per-share estimate to $1.65 from $1.67, noting sales in key markets such as the UK may have been impacted by severe weather conditions.
"While the $1,$2, $3 value platform has been a less-than-perfect platform, we still see McDonald's at the beginning of a multi-year journey of improvement starting with the atmosphere but including in-restaurant execution (partly as a result of franchisee consolidation)," Palmer said.
He has a $170 price target, which he says is "based largely on our outlook for an ongoing US turnaround, re-accelerating in the final three quarters of the year, with solid ongoing international performance, and FCF conversion of 105%+ by 2021."
The company is scheduled to report its first-quarter results on April 30, with Wall Street analysts surveyed by Bloomberg expecting earnings of $1.66 a share on revenue of $4.97 billion.
Shares of McDonald's is down 9.2% this year.
