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TheStreet Open House

5 Short Sighted Stock Spinoffs

Stocks in this article: MCD CMG MHS MRK BKS GME MS DFS KMX

5. McDonalds 2006 Chipotle Spin

In 1998, as the U.S. fast food pioneer McDonald's (MCD - Get Report) was rolling out Chicken McGrill and Crispy Chicken sandwiches to complement its burger supremacy, the company made a bold diversification into new foods by taking a minority stake in a popular Denver-based taco's and burrito's chain called Chipotle Mexican Grill (CMG - Get Report).

By 2001, McDonald's had a controlling interest in Chipotle Mexican Grill and was investing heavily in its U.S. growth. In Sept. 2005, after a more than thirty-fold store expansion, newly minted McDonald's Chief Executive Jim Skinner decided to spin Chipotle Mexican Grill, preferring to focus on customer and profit growth at McDonald's, which celebrated its 50th anniversary earlier that year. In the IPO of over 20% of its stake in Chipotle on Jan. 25, McDonald's raised $173.4 million, pricing the stock at $22 a share, according to Thomson Financial.

"Since we made our initial investment in 1998, Chipotle has grown from 16 restaurants in the Denver area to a strong and popular restaurant concept with more than 500 locations throughout the U.S.," said Skinner of the rationale to spin Chipotle.

As CEO, Skinner decided that wrenching out comparable store sales growth would be key to growing the then struggling McDonald's business, which was suffering an image problem from Morgan Spurlock's Super Size Me documentary on fast food. "Just 1 percent growth in McDonald's global comparable sales translates to approximately $100 million in additional operating profit for the company and a substantial cash flow increase for all of our McDonald's owner/operators," said Skinner.

When Chipotle stock hit markets the next day, investors bought relentlessly into the company's growth prospects, more than doubling shares to over $44 and leading to one of the biggest IPO rallies since just after the burst of the dotcom bubble in 2001.

At the time, Chipotle had opened roughly 500 stores and had $627 million in annual sales and $37.7 million in profit. In a follow-on offering that May, McDonald's sold an additional $250 million worth of shares priced at over $60 and arranged a tax-free share exchange to fully divest its stake later that October.

McDonald's and Chipotle shares have both soared since the spin as the companies followed different growth trajectories and were able to successfully navigate the financial crisis.

After opening its first store in China in 1990 and bringing drive through to the region in 2005, McDonald's opened its 1000th store in the fast growing region in 2008. Its overall sales have grown nearly 30% to $27 billion since 2006, while profits have grown nearly 60% on a near doubling of revenue in the Asia Pacific, Middle East and African regions, proving many doubters wrong. Meanwhile, Chipotle more than doubled its stores in the U.S. and Canada, growing sales by over 175% and profits by over 400% to a forecasted $2.3 billion in sales and $216 million in 2011 profits, respectively, according to consensus estimates compiled by Bloomberg.

For stock investors there's been a clear winner among the two, however. While McDonald's shares have risen 175% since spinning Chipotle, it's paled in comparison to Chipotle's share gains of 767%.

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While both companies have fared well since the spin, making it an exemplar of the belief that freed assets can create growth all around, Chipotle would rival emerging markets as McDonald's fastest growing business, potentially lifting shares significantly above their already near record-high levels.

For more on McDonalds and Chipotle shares see TheStreet ratings portfolio of top rated restaurant stocks.

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