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Earnings Preview: MCD, CMG and KO Report Results This Week

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October 23, 2017
Tray full of different fast food and soda
istockphoto.com/dolgachov

Some big names in food and beverage open the books this week. McDonald’s (MCD) reports before market open on Tuesday, Oct. 24 and Chipotle Mexican Grill (CMG) reports after market close that same day. The following morning, Coca-Cola (KO) is scheduled to release its quarterly results.

Looking at the broader restaurant industry, the third quarter appears to have been a tougher one. According to market research firm TDn2K, comparable-store sales—a metric used to compare sales at stores that have been open more than one year—declined 1.9% year-over-year and comparable traffic declined 4%. One factor that likely impacted those results was the string of hurricanes that hit the Southeast U.S. in August and September.

While the impact of hurricanes is expected to be transitory as areas recover, there are other broader trends that have been facing the industry as well. A tight labor market and growing wages, particularly in the face of minimum-wage hikes, has been a common concern among industry professionals. To address this potential headwind, many companies have been increasingly using technology like apps and ordering kiosks to reduce costs, as well as focusing on improving efficiency through automation.

Beyond some of the broader trends, below we’ll take a look at what might be expected from these company’s upcoming quarterly results. 

Chart showing YTD performance of MCD, CMG and KO

FIGURE 1: YTD PERFORMANCE.

The chart above shows the year-to-date performance as a percentage for McDonald’s (MCD) as the yellow line, Chipotle (CMG) as the purple line and Coca-Cola (KO) as the teal line. Chart source: thinkorswim® by TD Ameritrade.  Data source: Standard & Poor’s. Not a recommendation. For illustrative purposes only. Past performance does not guarantee future results.

McDonald’s Earnings and Options Trading Activity

MCD announced it had generated its best comparable-store sales, or comp sales, growth in over five years in the second quarter. On a global level, the company said comp sales in Q2 increased 6.6%. U.S. comp sales increased 3.9%, its International Lead segment that is comprised of more developed markets saw a 6.3% comp-sales increase and its high growth segment that includes China. Comp sales in its foundational markets and corporate segment rose 13%.

Revenues have declined and operating margin has grown in recent quarters as the company executes its refranchising initiative. MCD has been selling corporate-owned locations to franchisees, which has shifted the revenue from restaurant sales to rent and franchise fees and royalties. By 2019, the company has said it expects 95% of its restaurants will be owned by franchisees. Since the company generates higher margins on those restaurants, management expects operating margin to increase to 45% by then as well.

In addition to its refranchising initiative, MCD has focused on other initiatives like home delivery, mobile ordering, and modernizing and upgrading stores as part of what it calls the “Experience of the Future”.

For the third quarter, MCD is expected to report earnings of $1.75 per share, up from $1.62 in the prior-year quarter, on revenue of $5.77 billion, according to third-party consensus analyst estimates. Revenues are expected to decline as a result of the company’s ongoing refranchising initiative.

The stock has had quite a run so far this year and is up about 39%, versus a 14% rise in the S&P 500 (SPX). Over the past three months, the stock has gained about 9%. Options traders have priced in about a 2.5% potential share price move in either direction around its upcoming earnings release, according to the Market Maker Move indicator on the thinkorswim® platform.

In short-term trading at the October 27 weekly expiration, calls have been active at the 165 and 167.5 strike prices and puts have been active at the 165 strikes. Puts have also seen a decent amount of activity at the 160 and 162.5 strikes. As of this morning, implied volatility is at the 73rd percentile, an elevated level for the stock. 

Note: Call options represent the right, but not the obligation, to buy the underlying security at a predetermined price over a set period of time. Put options represent the right, but not the obligation to sell the underlying security at a predetermined price over a set period of time.

McDonald's Company Divisions

FIGURE 2: MCDONALD’S COMPANY DIVISIONS.

As MCD reduces its number of corporate-owned locations by selling them to franchisees, its revenue mix has shifted more towards franchise rent and fees, as well as franchisee royalties. Those three segments make up a large portion of the company’s revenue. TD Ameritrade clients can analyze a company’s potential revenue drivers on the Fundamentals tab on the thinkorswim® platform. Trefis information and estimates used in Company Profile are provided by Insight Guru, a separate and unaffiliated firm. Not a recommendation. For illustrative purposes only. Past performance does not guarantee future results

Chipotle Earnings and Options Trading Activity

It’s no secret that CMG has faced challenges over the past several years. While still recovering from an outbreak of E. coli in 2015, a norovirus outbreak at a Virginia location in July sent the stock back down below the $300 level towards the end of August. The company’s recent queso launch was also met with mixed reviews.

Beyond its core brand, the company has also tested several different concepts. In the second quarter, CMG decided to close all 15 locations of its Southeast Asian chain ShopHouse. Management has indicated that it still has its eye on pizza and burgers though. At the end of September, CMG announced it had partnered with chef Richard Blais to rework and expand the existing menu at its Tasty Made burger concept, which currently only has one location. Its pizza chain formed through a partnership, Pizzeria Locale, is also still a small concept at 7 stores. CMG’s upcoming quarterly results might shed some light on the impact of the July incident, the new queso rollout and the company’s other concepts.

In the second quarter, revenue increased 17.1% year-over-year to $1.17 billion, which was driven by 50 new restaurant openings and an 8.1% increase in comparable store sales according to management. For the third quarter, CMG is expected to report earnings of $1.60 per share, up from $0.79 in the prior-year quarter, on revenue of $1.14 billion, a 10.1% year-over-year increase, according to consensus third-party analyst estimates.

Around the upcoming earnings release, options traders have priced in just over a 6% potential share price move in either direction according to the Market Maker Move indicator. In short-term trading at the October 27 weekly expiration, the 315-strike put has seen the most activity. Other than that, there’s been a smattering of activity across strikes for both calls and puts. Looking at the November monthly expiration, the 325-strike call has been the most active. Implied volatility is high and at the 96th percentile as of this morning.

Coca-Cola Earnings and Options Trading Activity

KO and parts of the broader beverage industry have also faced some challenges in the U.S. as certain states implement sugar taxes and consumers have increasingly shifted away from drinks with added sugars of their own accord. Part of the company’s initiatives has been focused on growing revenue in its sugar-free lines and non-sparkling beverages. One way it has done that is through partnerships to sell ready-to-drink coffee, most recently with Dunkin’ Donuts (DNKN), and next year it has said it plans to launch ready-to-drink McCafe Frappes with MCD.  

Like MCD, KO has been focused on its own refranchising initiative with its bottling operations. According to the company, they acquired bottling partners over the years “with the aim of improving performance, optimizing manufacturing and distribution systems, and ultimately refranchising the bottling territories back to independent status.” The company has said it expects to complete the initiative before the end of 2017.

That initiative has pressured revenue in recent quarters. Revenue declined 16% year-over-year in the second quarter, which management attributed to a 17% headwind from the refranchising and a negative foreign exchange impact of 3%. Organic revenues on a non-GAAP basis increased 3% on even concentrate sales and price/mix growth of 3%, according to the company. For the third quarter, earnings are expected to be flat to last year at $0.49 per share and revenue is projected to decline 5.7% year-over-year to $8.84 billion, according to third-party consensus analyst estimates.

Options traders have priced in about a 1.5% potential share price move in either direction around the upcoming earnings release, according to the Market Maker Move indicator. In short-term trading at the October 27 expiration, most of the activity for both calls and puts has been at the 46 and 46.5 strikes, right around the money. As of this morning, the implied volatility is at the 49th percentile.

Looking Ahead

This week is packed full of earnings releases. A lot of eyes will be on Thursday when tech giants Microsoft (MSFT), Alphabet (GOOGL), Amazon (AMZN) and Intel (INTC) report after the market closes. The European Central Bank is also meeting that same day, potentially adding some more volatility to the mix. And Twitter (TWTR) also reports before the open on Thursday, Oct. 26 and the following week Facebook (FB) reports after the close on Wednesday, Nov. 1. Check out today’s market update to see what else is happening in this jam-packed week.  

Good Trading,
JJ
@TDAJJKinahan

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