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American consumers are an economic paradox. Interest rates are at a 22-year high, inflation remains elevated and any pandemic-related personal savings are depleted. Yet they continue to spend freely, helping to propel the economy to a blistering pace of growth in the third quarter.
Their resilience was on display in McDonald’s earnings on Monday. The world’s largest fast-food chain served up a 14 per cent increase in third-quarter revenues. Operating profit income grew 16 per cent. Within this, US same-store sales expanded 8.1 per cent as consumers were willing to pay more for burgers, fries and shakes.
Not everyone is flush with cash. McDonald’s warned of a slowdown among lower-income customers. It said foot traffic in the US suffered a “slight dip” during the quarter. The chain noted fewer visits from customers with annual incomes of $45,000 or less across the fast-food industry.
But investors need not worry. McDonald’s size and scale means it can cope. Chief among them is its “barbell” pricing strategy, promoting traffic-driving deals on low-priced menu items alongside new, pricier offerings. The chain aims to capture diners from both ends of the income spectrum.
McDonald’s shares are down about 12 per cent from the record highs it achieved in June. That has knocked its valuation as well. It trades on about 22 times forward earnings, compared to its three-year average of about 25 times.
Burger King owner Restaurant Brands International and KFC owner Yum Brands are trading at about 20 and 22 times, respectively. Given McDonald’s strong digital offerings, size and brand, the stock deserves a premium.
Nevertheless, the business has a delicate balancing act to maintain. Profitability could fall if it leans too much on value items, worse if it prompts other fast-food chains to lower prices as well. For now, McDonald’s sits in an inflation sweet spot. Demand is robust and consumers seem relatively insensitive to price changes. A happy meal for shareholders.
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