McDonald’s Corporation — FY2017 Form 10-K
Reporting period: Fiscal year ended December 31, 2017. This is an annual filing, not a standalone fourth-quarter report. Financial amounts are in U.S. dollars.
Business context and strategy
McDonald’s franchises and operates restaurants in 120 countries. At year-end, it had 37,241 restaurants, of which 34,108 were franchised. The company is pursuing a long-term goal of approximately 95% franchised restaurants; it was 92% franchised at year-end 2017. Its Velocity Growth Plan focuses on retaining, regaining and converting customers, supported by restaurant modernization (Experience of the Future), digital services and delivery.
In July 2017, McDonald’s sold its China and Hong Kong businesses to a licensee while retaining a 20% ownership interest. The transaction shifted those restaurants to the foreign-affiliate model.
Financial performance
| Metric | FY2017 | FY2016 | Change or context |
|---|---|---|---|
| Total revenue | $22.82 billion | $24.62 billion | Down 7% reported; down 8% in constant currencies, primarily from refranchising |
| Company-operated restaurant sales | $12.72 billion | $15.30 billion | Down 17%, reflecting refranchising |
| Franchised revenue | $10.10 billion | $9.33 billion | Up 8% |
| Systemwide sales | Up 7% | Up 3% | 2017 growth was 7% in constant currencies |
| Global comparable sales | Up 5.3% | Up 3.8% | Comparable guest counts rose 1.9%, versus a 0.3% decline |
| Operating income | $9.55 billion | $7.74 billion | Up 23%; benefited materially from China/Hong Kong sale gain |
| Operating margin | 41.9% | 31.5% | 2017 margin was 38.8% excluding the specified sale gain and strategic charges |
| Net income | $5.19 billion | $4.69 billion | Up 11% |
| Diluted EPS | $6.37 | $5.44 | Up 17%; management reported $6.66 excluding specified items and prior-year strategic charges |
| Cash from operations | $5.55 billion | $6.06 billion | Down $508 million, mainly due to higher income tax payments and working-capital changes |
| Capital expenditures | $1.85 billion | $1.82 billion | Primarily restaurant reinvestment |
| Free cash flow | $3.70 billion | $4.24 billion | Conversion rate was 71%, versus 90% |
Financial position, capital returns and material changes
- Cash and equivalents were $2.46 billion at year-end, compared with $1.22 billion in 2016. Current assets were $5.33 billion and current liabilities were $2.89 billion.
- Total debt was $29.54 billion, up from $25.96 billion. The weighted-average annual interest rate was 3.3%; 89% of debt was fixed-rate. Shareholders’ equity was a deficit of $3.27 billion, compared with a deficit of $2.20 billion.
- The company reported a $1.16 billion net credit in other operating income, including an approximately $850 million gain on the China and Hong Kong sale, partly offset by impairment and restructuring charges. The sale generated $1.60 billion in cash proceeds.
- The Tax Act produced a provisional net tax cost of approximately $700 million in 2017: a $1.2 billion deemed-repatriation tax charge partly offset by an approximately $500 million benefit from remeasuring deferred tax balances. The reported effective tax rate was 39.4%, versus 31.7%; excluding the Tax Act impact, management reported 31.6%.
- McDonald’s returned $7.74 billion to shareholders in 2017 through dividends and share repurchases. It declared dividends of $3.83 per share and increased the quarterly dividend to $1.01 in the fourth quarter.
Outlook, risks and contingencies
- 2018 outlook: Net restaurant additions were expected to contribute about 1 percentage point to Systemwide sales growth in constant currencies. Management expected U.S. and International Lead commodity-basket costs to rise about 1%–2% and 2%, respectively; SG&A to decline about 1% in constant currencies; interest expense to increase 5%–7%; and the effective tax rate to be 25%–27%.
- 2018 capital expenditures were forecast at approximately $2.4 billion, including about $1.5 billion for the U.S., chiefly Experience of the Future upgrades. The company expected approximately 1,000 restaurant openings and net additions of about 600.
- Longer-term targets beginning in 2019 included annual constant-currency Systemwide sales growth of 3%–5%, operating margin in the mid-40% range, high-single-digit EPS growth and ROIIC in the mid-20% range. Management targeted approximately $24 billion in shareholder returns over 2017–2019 and $500 million in cumulative annual net G&A savings by 2019.
- Key risks include intense competition and changing customer preferences; execution and returns on modernization, digital and delivery investments; dependence on franchisee performance and cooperation; food safety and supply-chain disruption; labor, commodity and currency-cost volatility; cybersecurity and technology outages; regulatory and litigation exposure; and international political and economic conditions.
- Tax contingencies included $1.18 billion of gross unrecognized tax benefits. IRS transfer-pricing disputes for 2009–2012 and a European Commission investigation concerning Luxembourg tax treatment remained unresolved. Management stated it did not believe pending legal matters would materially affect financial condition or results, while acknowledging unfavorable rulings could materially affect income in a period.
- Management said approximately 5%–10% of goodwill could be at risk of future impairment because certain reporting-unit fair values were not substantially above carrying values. Adoption of the new lease standard in 2019 was expected to materially increase balance-sheet lease assets and liabilities, with minimal initial income-statement impact.
Most important facts for investors to verify
- Reconcile reported earnings and the 41.9% operating margin for the China/Hong Kong sale gain, Tax Act costs and benefits, and restructuring or impairment charges.
- Assess whether comparable-sales and guest-count momentum, especially across segments, persisted after 2017; note that Venezuela was excluded from comparable sales beginning in 2017.
- Evaluate the implications of rising debt, negative shareholders’ equity, shareholder distributions and planned debt growth for credit metrics and financial flexibility.
- Track the final Tax Act accounting, payment of the deemed-repatriation liability, and outcomes of the transfer-pricing and Luxembourg tax matters.
- Test whether planned 2018 restaurant modernization, digital and delivery investments, refranchising, and G&A savings deliver expected sales, margins and returns.
The filing reports unqualified independent-auditor opinions on the financial statements and internal control over financial reporting.