Bright Spots

2 February 2009



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Netflix and McDonald's Profits Rise

If one were to believe every bad scenario coming out of Wall Street, one would have to conclude that the apocalypse is nigh. Of course, that misses the one basic truth about a capitalist market system – one man's disaster is another's opportunity. In the case of today's reverse wealth effect, cheap food and entertainment are prospering, at least if one judges by the fourth quarter earnings from Netflix and McDonald's.

In the case of Netflix, the company has more or less put brick-and-mortar video stores out of business. No late fees, an “all-you-can-watch” model, and delivery by mail or download have revolutionized how people rent videos. When times get tough, families scale back on entertainment, but as anyone with children knows, one cannot cut it out entirely.

As a result, its fourth quarter sales grew 19% year-over-year. Earnings per share were up 45%. Its subscriber base expanded by 26%, which surpassed management's expectations. The question for investors is whether the money in Netflix stock has already been made. Shares trade at about 23 times 2009's expected earnings. That isn't really that attractive in this market.

Of course, if the family is going to sit at home and watch videos, something to munch on seems to be part of the deal. While delivered pizza remains a local favorite here, smaller children still prefer the McDonald's Happy Meal. And while the company's burgers are mediocre at best, the fries are more than worth the trip to the drive-through.

Customer demand has risen despite a small increase in prices to offset rising ingredient costs. Sales at established stores rose 7.2% in the fourth quarter. Earnings were off 19 cents year-over-year to 87 cents from $1.06, but the 2007 figures included a one-time tax benefit of 33 cents. Stripping that out, McDonald's position improved by 14 cents a share.

Once again, the question is whether the stock is going to move enough for it to be worthwhile. A trailing P/E of 16 looks better than Netflix, but there are single digit P/Es all over the place. On the upside, McDonald's does have a 3.4% dividend, which is useful and in a recession is doubly so.

Take the Wall Street worries with a grain or so of salt. The world isn't ending.

© Copyright 2009 by The Kensington Review, Jeff Myhre, PhD, Editor. No part of this publication may be reproduced without written consent. Produced using Fedora Linux.

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