The sale of the firm’s China operations to partners with more expertise in the region should enable faster unit growth, but we aren’t changing our wide moat rating or fair value estimate.
In a long-anticipated move, McDonald's
announced that it has sold the majority of its mainland China and Hong Kong operations to a consortium led by state-backed CITIC and private equity firm Carlyle for $2.1 billion. The new partnership will serve as McDonald's master franchisee in the area for 20 years, with CITIC having a 52% controlling stake, Carlyle owning 28%, and McDonald's accounting for the remaining 20%.
R.J. Hottovy, CFA, is a consumer strategist for Morningstar.
The move will not impact our wide moat or $128 fair value estimate, which assumes 4%-5% average annual systemwide sales growth and operating margins improving from 31% in 2016 to the mid- to high-40s driven largely by management's goal of moving to 93% franchise ownership by 2018 and 95% over a longer horizon. Although we'll make some adjustments to our model for the timing of the transaction, we had already anticipated the refranchising of 1,750 McDonald's company-owned locations in China and Hong Kong the next few years; as such, our longer-term assumptions remain largely unchanged. While trading at a modest discount to our fair value estimate, we'd prefer a wider margin of safety before investors added to current positions.
From a strategic perspective, we remain constructive about this transaction as well as future refranchising efforts. McDonald's China operations have been inconsistent over the past two decades, and we believe the CITIC and Carlyle's expertise in the region will enable faster unit growth--particularly outside Tier 1 and Tier 2 cities--while developing menu, operational, digital, and delivery strategies more suited to Chinese consumers. Additionally, between the proceeds from this transaction and reduced capital responsibilities from future refranchising activity, we would not be surprised to see management target between $15 billion-$20 billion for its 2017-19 shareholder return goal (combining share repurchases and dividends).
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