A Strong Overreaction To McDonalds’ Sales Declines in Japan

I was watching CNBC early this evening (perhaps that was my first mistake), and the headline blaring on the bottom was about McDonalds’ operations in Japan. McDonalds is currently planning to shutter 74 restaurants in the country of Japan, as net income generated by McDonalds operations this year will be just a bit below $50 million or so, about half of what analysts had been expecting ($91 million).

The question on CNBC then became: Should current shareholders of the stock sell?

All of the respondents relied on predictions about the McDonalds’ future growth in Japan to craft their answers.  Not one of them even took into consideration the overall profitability of McDonalds as a corporation or took a holistic view of what is going on at the company.

In 2012, McDonalds made shareholders $5.36 in total profits. By the end of 2013, McDonalds will be making their shareholders $5.57 in profits. McDonalds experienced 4% growth this year. Personally, I find that amazing considering the company’s rising input costs in North America, and the fact that McDonalds is holding steady in Europe, despite the double-digit employment in many of those countries.

Long-term investing does not grant you 10% annual growth year after year. That is a fantasyland prediction, and there is no way anyone could be a buy-and-hold investor if they had that kind of expectation for all of their holdings. Some years will be better than others. In the case of McDonalds, I have been very impressed by the fact that the company is actually increasing per share profits (the company’s total profits are only up 2.5%, but per share profits are actually up 4% due to a lower share count courtesy of stock buybacks).

Definitionally, this is what constitutes a hard operating environment for a company like McDonalds. Input costs are rising due to the inflation that naturally accompanies economies rising out of recession, and the company operates in the niche low-cost food industry where it is difficult to pass costs on to customers that are sensitive to $0.25 increases in item prices. Additionally, the company’s ability to tread water in Europe is something I consider a remarkable testament to the company’s brand, given that European headlines are currently filled with stalwarts dealing with 20-25% declines in profitability.

It’s one thing if profits are down 10%, 15%, 20% for a few years running. It’s one thing if the dividend goes down. Those factors require you to make judgment calls about the long-term earnings power of the company, and those are the kind of economies that can make long-term investing difficult.

But this is not the time to be freaking out about McDonalds’ performance. The earnings per share are currently going up, despite all the adverse conditions that are currently being cited. While 4% growth isn’t something to desire over a 10+ year period, it is not something that should be a cause to sell a long-term holding. When you have an excellent company with universal brand equity and recognition, I don’t understand the need to get alarmed while profits and dividends are actually growing in spite of the cited concerns. It’s just such. . . short-term thinking.