With bond yields at historic lows, normally conservative investors have been forced to accept risks outside of their comfort zone.
These conditions are pushing activist investors to radically change the market’s landscape with creative financial engineering.
Just look at the increasing pressure placed on restaurant chains.
Activist investors are forcing restaurants to spin off their real estate holdings into publicly traded real estate investment trusts (REITs).
On the surface, the rationale seems logical. The REIT provides significant tax advantages and increased dividends to investors, and the spinoff can potentially unlock massive value to shareholders.
Now, while it’s true the ceding company would see added rental expenses, it’s assumed that the increased value of the REIT’s shares would far outweigh them.
In theory, it would be a win-win for corporations and investors alike.
And the Golden Arches could be next.
It’s this all-win theory that sent McDonald’s (MCD) shares up by more than 1.6% on Monday.
The increase came on the heels of comments made by Glenview Capital Management CEO Larry Robbins, who believes that McDonald’s can unlock upwards of $20 billion in shareholder value.
Robbins believes that since REITs are currently trading at roughly 20x earnings before interest, taxes, depreciation, and amortization (EBITDA), the company’s real estate assets aren’t being properly reflected in MCD’s current EBITDA valuation.
So, in a letter dated March 18, 2015, Robbins stated that McDonald’s shares could trade as high as $169 by monetizing its real estate assets, which, of course, includes his desire for a REIT conversion.
Robbins makes a valid point, but there are things for him to mull over, first.
A Few Financial Challenges to Consider
McDonald’s must re-establish its core mission before creating shareholder value via a REIT conversion. MCD shares have languished in a $15 range since 2011, amid lackluster sales and several years of losing customers to other fast-casual competitors.
And this shows in the company’s financial statements.
The company’s Q4 2014 results showed total revenue of $6.5 billion, a decline of 7.3% against the $7 billion reported in the same quarter a year ago.
MCD also saw a decline in operating income (-20%), as well as in its diluted earnings per share (EPS), which fell 19.3% from the year-ago period. Mind you, the falling EPS is a trend that has continued for roughly two years now.
For these reasons, my colleague, Chris Worthington, remains bearish on the stock.
Why I Still Like McDonald’s…
While the company’s current problems run deep, McDonald’s has experienced these same kinds of issues in the past. And it has always shown an innate ability to adapt to the changing times.
I’m confident that the company will make another amazing comeback this time, too.
Now, in the interim, investors can take some consolation knowing that McDonald’s treats its shareholders well. This is made evident by the company’s 38 consecutive years of dividend increases and a current yield of 3.4%, based on Monday’s close.
Add to that the potential of a REIT conversion at some future time, and MCD will have to change its sign to read “Billions of Dollars Made Here.”