E. Coli outbreak raises key questions for investors

McDonald’s is under scrutiny following an E. coli outbreak linked to its popular Quarter Pounder hamburgers. The US Centers for Disease Control and Prevention has reported 49 cases across 10 states, resulting in 10 hospitalizations and one death. McDonald’s has already pulled key ingredients from some states as the investigation intensifies to determine which food item is responsible for the contamination.

Key risks

Unidentified ingredient: The exact source of the contamination is still unknown, but slivered onions are emerging as a “likely source,” according to the CDC. Beef patties are also being investigated by the USDA for possible contamination. As investigations continue, there could be risks that other products may also have been contaminated.

Delayed symptom onset: E. coli symptoms usually appear 3-4 days after exposure but can take upto 14 days to develop, meaning more cases are still likely to surface in the coming weeks. It can effectively take upto 3-4 week to determine ifm a sick person was part of an outbreak. The CDC also said the “true number” of sick people is likely “much higher” than the number reported because many people recover without medical care and are not tested for E. coli.

Consumer confidence: Public caution could lead to a reduction in foot traffic as customers may avoid McDonald’s until the issue is resolved.

Quarter Pounder’s revenue impact: The Quarter Pounder, alongside the Big Mac, is a major revenue generator for McDonald’s, with reports suggesting that these classic items account for about 70% of food sales in top markets.

Comparison to Chipotle’s 2015 E. Coli crisis

McDonald’s situation is reminiscent of Chipotle’s E. coli outbreak in late 2015, which severely impacted the chain’s sales and reputation for years. Chipotle’s issues began in October 2015, but the company continued to struggle for 2-3 years as consumer confidence took time to rebound. During the crisis, Chipotle’s stock plummeted by over 45% over a period of next several months, and recovery took a long time as they implemented new safety measures and worked to rebuild trust.

Mc Donald’s situation could be somewhat different to Chipotle back in 2015. The latter did not use a centralized kitchen model, while Mc Donald’s has already responded saying that they have identified the problem to be with a single supplier that serves three distribution centres.

Chipotle’s EPS dropped by over 90% in 2016. Source: Bloomberg

Chipotle’s stock price plunged over 45% in the months after the first outbreak in Oct 2015. Source: Bloomberg

What happens next?

Food safety concerns are key for restaurant operators. As McDonald’s grapples with this unfolding crisis, its revenues, earnings and stock price could face pressure. While the initial drop may tempt some investors, there could be room for further downside in case the number of cases continue to rise and spread to other states.

Stocks closed at $315 on Tuesday ahead of the reports and key support for the stock comes in around $250. Caution is key as the full impact of the outbreak remains uncertain.

Related stocks to watch

While McDonald’s navigates the fallout, other restaurant and fast-food chains could stand to benefit from this disruption:

• Wendy’s, Jack in the box and shake shack: Other burger chains could attract McDonald’s customers, especially in regions where Quarter Pounders are unavailable.

• Yum! Brands (parent company of KFC, Taco Bell, and Pizza Hut): With a diversified portfolio across different food categories, Yum! could see increased traffic from customers avoiding McDonald’s.

• Domino’s Pizza: Known for its delivery services, Domino’s may also experience a bump as consumers shift toward different fast food options.

• Chipotle: While it has recovered from its own food safety challenges, Chipotle may now benefit from cautious customers moving away from McDonald’s amid the outbreak.

List of McDonald’s competitors and their valuation metrics. Source: Bloomberg

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