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McDonald’s net income rises 15 percent on strong sales

OAK BROOK, Ill. — McDonald’s said Friday net income rose 15 percent in the second quarter as the world’s biggest burger chain continues to get customers to buy new menu items even as they cut back spending in other areas during the economic downturn.

McDonald’s Corp. has consistently outperformed its fast-food peers throughout the recession and its aftermath despite that it’s raised prices this year, in part because of its strategy to give customers more reasons to frequent its restaurants.

The chain is upgrading its restaurants, offering wireless access, expanding the number of locations with 24-hour service, introducing healthier food like oatmeal and smoothies, and selling fancy coffee drinks. It’s also testing changes to improve customer service, such as sending an employee to walk through the drive-thru and punch orders into a hand-held device.

Pete Bensen, the chief financial officer, said customers are telling McDonald’s that “the service is friendlier, the food is hotter, the restroom is cleaner.”

McDonald’s has bucked the trend as the recession has been brutal for the restaurant industry as economic woes have caused consumers to scrutinize their discretionary spending. At the same time, companies have been squeezed by higher costs for everything from tomatoes to fuel. They’ve had to walk a fine line between raising their prices to offset their costs without turning off customers completely.

Grappling with higher costs

McDonald’s, which has raised its prices twice this year, said it, too, is grappling with higher costs and trying to figure out how much of those it can pass on to customers. McDonald’s increased menu prices an average of 1.4 percent at the end of May, on top of a 1 percent increase in March. The price increases also helped the company’s results.

McDonald’s net income rose 15 percent to $1.4 billion, or $1.35 per share, during the quarter. Revenue was up 16 percent to $6.9 billion, topping analysts’ estimates of $6.6 billion.

Bensen said the company will continue to consider more price increases but doesn’t want to drive away customers. Normally, he said, a price increase of 2 to 3 percent is enough for the company to maintain margins, so “something more” could be needed this year. The restaurant has some flexibility, he said, because customers are paying more for groceries anyway.

McDonald’s, based in Oak Brook, Ill., said it expects costs for most of its ingredients to rise 4 to 4.5 percent in the U.S. and Europe this year. That’s the same prediction it made three months ago, implying costs may have stabilized. The costs for beef, corn and fuel and other materials that McDonald’s needs to make and transport its products are down from highs this spring but still up from a year ago.

McDonald’s will also face rising costs in other areas. It said it expects an income tax rate of 31 to 32 percent for the year, up from the 29.3 percent effective tax rate it paid last year. It expects interest expenses to rise 8 to 10 percent in 2011, based on current rates. Also, McDonald’s employees are staying longer, which leads to higher pay. So labor costs have also increased slightly.

Growth in emerging markets

Like many companies, McDonald’s is investing in emerging markets like China and seeing strong growth there. What sets McDonald’s apart is that it is still making strides in the U.S.

Revenue in the U.S. grew 4 percent. That’s a metric that many companies would envy, but it was lethargic compared with the 25 percent revenue growth in Africa, the Middle East and Asia, and 21 percent in Europe. McDonald’s President Don Thompson did caution that Europe “is still fragile,” citing high unemployment rates.

The U.S. continues to become a smaller proportion of overall revenue. The U.S. accounted for 31 percent of total revenue, down from 35 percent in the same period a year ago. Europe made up 41 percent of revenue, up from 39 percent a year ago. Asia, the Middle East and Africa accounted for 22 percent of revenue, up from 20 percent a year ago.

McDonald’s stock rose 3 percent mid-day trading to $89.11.