McDonald's (NYSE: MCD)
Initiation of coverage · Consumer discretionary
A great business, thirty percent cheaper than it was, at a price that still asks for growth the current quarter is not producing.
The full 11-page research note
The cash flow normalization, the reverse DCF, the sensitivity grid, and full disclosures. Free, no email required.
The call
We are initiating on McDonald's with a HOLD and a $225 fair value.
The business is not in question. Operating margin was 47.0% in the second quarter. Systemwide sales reached $37 billion. Nearly 220 million people are active in the loyalty program, which now drives $40 billion of trailing systemwide sales, up over 20 percent. The dividend was raised again this month, a fiftieth consecutive year, and it is covered 1.42 times by free cash flow. Almost nothing about the franchise has deteriorated.
What has deteriorated is the trajectory, and the price has not fully followed it down.
Global comparable sales went from 3.8% in the first quarter to 1.3% in the second. US comparable sales grew 0.8%, with guest counts turning negative.
At $236.50 the shares require free cash flow to compound at 5.16% for a decade. The business is currently growing systemwide sales at 4% in constant currency. The price is asking for an acceleration at the moment the largest market is decelerating.
Why book value is useless here
Our last two reports valued banks on price to tangible book against return on tangible equity. That framework cannot be used on McDonald's, and the reason is worth understanding rather than skipping.
McDonald's has negative book equity. Decades of debt-funded share repurchases have returned more capital to shareholders than the accounting equity could support, so the balance sheet shows a deficit. That is not distress. It is a deliberate capital structure for a business whose economics do not depend on holding assets.
Because most restaurants are franchised, McDonald's is closer to a royalty stream than an operator. It collects rent and fees on systemwide sales it does not have to fund. That is why the operating margin is 47.0% and why the right question is not what the assets are worth but what the cash stream is worth.
So the primary method here is a reverse discounted cash flow: take the price as given, because it is the one number we can observe, and solve for the growth it requires. Readers can run the same calculation on their own inputs with the reverse DCF calculator.
The denominator is flattered
Before reversing anything, the cash flow figure needs checking, and this is where the report earns its keep.
Normalizing free cash flow
Trailing twelve months to June 2026, against the company's own stated guidance for how much of net income should convert to cash
- Reported trailing free cash flow
- $7,761M
- Trailing net income
- $8,790M
- Implied conversion rate
- 88.3%
- Company's own guidance
- low-to-mid 80%
- Normalized at 83%
- $7,296M
The trailing figure converts above the range management itself guides to. The first quarter filing attributes the pattern to working capital, and second quarter operating cash flow jumped 40 percent. This is timing, not a step change in earning power.
Valuing off the reported number would be valuing off a flattered denominator, which is the error we have written about at length in the one-time item that happens every year and applied to Nike. It applies to cash flow as readily as to earnings.
The adjustment is not cosmetic. On reported cash flow the price implies 4.37% growth. On normalized cash flow it implies 5.16%. One working-capital swing moves the hurdle by most of a percentage point, and a percentage point of perpetual growth is worth a great deal.
What the price assumes
| If free cash flow compounds at | Growth | Value per share |
|---|---|---|
| Q2 comparable sales, annualized | 1.30% | $174.99 |
| first-half comparable sales | 2.50% | $192.14 |
| systemwide sales, constant currency | 4.00% | $216.00 |
| implied by today's price | 5.16% | $236.50 |
Read the bottom row against the three above it. The price requires 5.16%. The business delivered 4% systemwide growth in constant currency last quarter, 2.5% comparable sales across the first half, and 1.3% in the most recent quarter.
Every one of those is below what the price asks. That does not make the stock a short; it makes the valuation dependent on a recovery rather than on continuation.
Our $225 sits on 4.50% growth, slightly above what the business currently delivers. We give credit for unit expansion of roughly 2.5% a year toward a 50,000-restaurant target, for international markets that are working, and for a loyalty program scaling faster than the business as a whole. We decline to credit a US recovery that has not started.
What the investor day actually promised
Two days before our reference price, management set out the financial detail of its NEXT strategy, and the shares fell 4.81 percent on it. That reaction is worth taking seriously rather than dismissing as noise.
The plan targets operating margins into the low-to-mid 50 percent range, from 47.0% today. Supporting it is roughly $8.5 billion of rent relief and capital support for franchisees through 2036, against franchisee investment of around $800k per store with a promised four-year payback.
The margin target is the part that deserves scrutiny. A franchise business can raise its reported operating margin by refranchising company-operated restaurants and cutting corporate cost, neither of which requires a single additional customer. That is not the same achievement as margin expansion driven by traffic, and the two are indistinguishable in the headline figure.
It also lands awkwardly against the timing. The spending is committed now and through the next decade, while the benefits depend on remodelling schedules and technology rollouts that run well past the coming quarters. Franchisees absorb the cost first. Our model does not credit the margin target, because a target running to 2030 is a forecast and this report values what the business currently produces.
The bull case, and why this is a HOLD
The price has already fallen a long way. The stock is 30.8% below its 52-week high, which it set two sessions before our reference price, and is working on its seventh consecutive weekly decline. Most of the de-rating has happened rather than lying ahead.
The cash returns are real and covered. A 3.26% dividend yield, raised for a fiftieth consecutive year, covered 1.42 times by normalized free cash flow at a 70% payout. You are paid to wait, and the payment is not at risk on these numbers.
International is working. Comparable sales grew 1.5% in international operated markets and 1.9% in developmental licensed markets, led by Germany, Australia and the UK. Management describes the same value playbook delivering results where it is executed well, which frames the US problem as execution rather than concept.
And the cost of equity is doing a lot of work. We use 8%. This is a business with a beta of 0.41, which would imply 6.0%. At that discount rate the shares are plainly cheap. We used a higher hurdle deliberately, and it is the single assumption most worth attacking.
Why not a SELL. The gap to fair value is 4.9%, far narrower than the Nike HOLD at 13.3 percent. Issuing a sell here would apply a lower bar than one already on our scoreboard. That constraint is an assertion in the model, not a matter of our restraint.
Why not a BUY. The price requires an acceleration while the largest market is posting 0.8% comparable sales with falling guest counts. Paying today for a recovery that has not begun is not a margin of safety.
Risks, and what would change our mind
To the upside. US comparable sales returning above 2 percent with positive guest counts. The chicken and beverage platforms delivering the market share gains management targeted at its investor day. Free cash flow conversion sustaining above the guided range for reasons other than working capital. A lower cost of equity, which for a business with this beta is defensible.
To the downside. Further deceleration, particularly if international follows the US. Value perception problems proving structural rather than executional. Margin pressure from the franchisee support commitments announced at the investor day. And the mechanical risk in a franchise model: it is the franchisees who absorb cost inflation first, and their health is not visible in these numbers.
To our reasoning. The cost of equity is the load-bearing assumption. At 7.5% the implied growth falls to 3.91% and this is roughly fairly valued. At 7.0% it falls to 2.59% and the stock is cheap. We have shown the whole range rather than one cell.
| Cost of equity | 2.0% terminal | 2.5% terminal | 3.0% terminal |
|---|---|---|---|
| 7.0% | 3.47% | 2.59% | 1.60% |
| 7.5% | 4.71% | 3.91% | 3.03% |
| 8.0% | 5.89% | 5.16% | 4.36% |
| 8.5% | 7.01% | 6.34% | 5.61% |
| 9.0% | 8.08% | 7.46% | 6.79% |
The second soft spot is the normalization itself. If the higher conversion rate proves durable rather than a working-capital swing, the implied growth is 4.37% rather than 5.16%, and this report is too cautious by roughly the difference.
Related research
Reports that make a similar argument about a different business. Every call on this site is dated, public and scored the same way, whether it worked or not.
- Nike, the other consumer brand where a flattered figure changed the multiple.
- Costco, a wonderful retailer priced for perfection, which is the recurring reason we reach HOLD.
- UnitedHealth, another excellent operator whose reported numbers were better than the run rate.
The full list, with the price each call was made at, is on the scoreboard.
Methodology, sources & disclosures
Methodology
Every figure is computed by a model script rather than typed, and the script runs three self-checks: that the reverse solve reconciles to the market capitalization, that normalized cash flow sits below the flattered trailing figure, and that this rating does not apply a lower bar than a hold already published on our scoreboard. Valuation is a reverse discounted cash flow on free cash flow rather than any price to book measure, because McDonald's carries negative book equity and that framework would be meaningless here. Free cash flow uses the company's own definition, stated in its 10-Q, of cash provided by operations less capital expenditures. Because US accounting places interest paid inside operating cash flow, that figure is already after debt service and is therefore compared against market capitalization rather than enterprise value.
The reference price
The $236.50 reference price is the close on Friday, September 25, 2026, verified before any modeling against four independent sources, Yahoo Finance, stockanalysis, Morningstar and CNN, each reporting the same $0.52 decline from a $237.02 previous close. We deliberately did not use the September 23 close: that was the company's investor day, when the shares fell 4.81 percent and set a 52-week low of $234.03 intraday. Anchoring a twelve-month call to a single unusually eventful session is a choice worth avoiding when a later, quieter close is available.
Primary sources
Second quarter 2026 results, segment detail and the outlook from the Form 10-Q for the quarter ended June 30, 2026 and the Form 8-K earnings release of August 4, 2026, read directly from the filings. First quarter figures and the capital expenditure and free cash flow conversion guidance from the Form 10-Q for the quarter ended March 31, 2026. Trailing free cash flow of $7,761 million was confirmed by two independent sources, each computing it from the company's own quarterly filings, and we then normalized it against management's stated conversion guidance rather than using it as reported. The investor day figures are as reported from the September 23 presentation. Company filings at corporate.mcdonalds.com; filings as submitted via SEC EDGAR, CIK 0000063908.
One figure carries a caveat: reported beta differs slightly between sources, at 0.41 and 0.44. We use 0.41. Nothing in our valuation depends on it, since we deliberately used a cost of equity well above what any of those figures would imply.
Conflicts
The author holds no position in MCD and has no plans to initiate one, and received no compensation from any party in connection with this report. 2 Comma Investor accepts no payment for coverage, has no banking, advisory or consulting relationships, and does not accept sponsored research.
Scoring
This call is dated and public. It joins the scoreboard as an open position at $236.50 and will be scored against the S&P 500 on September 26, 2027, on the same terms as every other call we have made, whether it works or not. Our standing view on hit rates applies to us before it applies to anyone else.