24/7 Wall St. 2007 Break-Up Value List: McDonald’s (MCD) $54 (Current Price $43)

By Ryan Barnes. Edited by Douglas A. McIntyre

McDonald’s is essentially a well-disguised real estate and leasing company.  Of their 31,000 locations worldwide, over 8500 are company-owned; compare that to say, a Wendy’s, which owns less than 600 locations and franchises the rest.  Some investors have long clamored for a way to unlock the value of the real estate on the balance sheet, many parcels of which have not been revalued since their original purchase decades ago. 

Bill Ackman of Pershing Square Capital Management presented a proposal about a year ago which called for

MCD

to spin off its company-owned stores, which provide steady cash flow but low margins and also take up the majority of the debt on the balance sheet.  At current income levels, a stand-alone company valued at 10x earnings (and a

PEG

of 1.2) would be worth nearly $19B. 

MCD

would likely retain a minority interest in spinoff, as they could transition company-owned stores into their franchise model in the future.  The franchise unit provides fantastic gross and net margins, as

MCD

collects revenue as a percentage of net sales at each location for use of the Golden Arches brand.  This low-fixed cost version of McDonalds, if given a P/E of 14, (lower than rivals Yum! Brands and Wendy’s) would be worth another $38B. 

Finally, the real estate company operating behind the scenes of both could exist as a REIT, throwing off the majority of their 10% rent fees to investors via dividends.  The precise value is hard to measure, but taking an average parcel value of $590,000, the real estate would be worth roughly $6B.  Add in cash & investments and a broken up McDonald’s could be worth $52-54 per share, even after the stunning run the stock has had over the past few years.

Ryan Barnes

Ryan Barnes has over 10 years’ experience in portfolio management and investment research, covering equities, fixed income, and derivative products. Ryan spent the past 5 years working as an institutional trader & manager for high-net worth investors, working with Merrill Lynch, Charles Schwab, Morgan Stanley, and many others.  Ryan is currently working as a writer and financial modeling consultant on hedging and capital appreciation strategies, and does not own securities in the companies being covered.

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