Arcos Dorados Holdings Inc. — 2016 Form 20-F Summary
Reporting period: Fiscal year ended December 31, 2016. This is an audited annual report, not a standalone fourth-quarter filing. Financial statements are prepared under U.S. GAAP and presented in U.S. dollars; amounts below are in millions unless stated otherwise.
Business context
Arcos Dorados operates and franchises McDonald’s restaurants in 20 Latin American and Caribbean territories under master franchise agreements (MFAs). At year-end, it had 2,156 systemwide restaurants: 1,553 company-operated and 603 franchised. Brazil, Argentina, Mexico and Puerto Rico together generated 73.9% of revenue. The audited financial statements received an unqualified opinion, and management and the auditor reported effective internal control over financial reporting.
Financial and operating performance
| Metric | FY 2016 | FY 2015 | Change / context |
|---|---|---|---|
| Total revenue | $2,928.6 | $3,052.7 | Down 4.1% in reported dollars |
| Company-operated restaurant sales | $2,803.3 | $2,930.4 | Down 4.3% |
| Franchised restaurant revenue | $125.3 | $122.4 | Up 2.4% |
| Systemwide sales | $3,793.6 | $3,904.1 | Down 2.8% reported; up 15.4% at constant currency |
| Systemwide comparable sales growth | 14.4% | 9.9% | Growth was driven mainly by higher average checks and price increases |
| Operating income / margin | $178.6 / 6.1% | $93.4 / 3.1% | Operating income increased 91.2% |
| Adjusted EBITDA / margin | $238.4 / 8.1% | $230.2 / 7.5% | Non-GAAP measure; company-defined |
| Net income (loss) attributable to Arcos Dorados | $78.8 | $(51.6) | Returned to profitability; diluted EPS was $0.37 versus $(0.25) |
| Net interest expense | $66.9 | $64.4 | Up 3.8% |
| Cash from operating activities | $164.2 | $112.7 | Increased $51.5 |
| Capital expenditures | $92.3 | $91.0 | 33 restaurant openings; 81 restaurant reimages |
Food and paper costs were 36.1% of company-operated sales, up 0.7 percentage points; payroll and benefits were 21.7%, down 0.9 points. The company cited imported-goods hedging rates and promotional product mix for food-cost pressure, while operational efficiencies helped reduce labor costs.
Cash and cash equivalents were $194.8 at year-end, versus $112.5 a year earlier. Current assets were $445.2 and current liabilities $548.3, leaving negative working capital of $103.1. Reported debt carrying value was $579.7, including $28.1 current and $551.6 long-term; management described total financial debt of $610.2 including $30.5 of derivative fair value. Total liabilities were $1,153.5 and equity $351.6.
Changes versus prior year and unusual items
- Reported revenue and sales declined largely because most local currencies weakened against the U.S. dollar. Comparable sales and constant-currency systemwide sales nevertheless grew.
- Net income improved from a loss to a profit. The company attributed the improvement in part to higher operating income and a foreign-exchange result that shifted from a $54.0 loss in 2015 to a $32.4 gain in 2016, partly associated with Brazilian real appreciation and Venezuela remeasurement.
- Other operating income was $41.4, versus $6.6 in 2015. Asset monetization contributed materially: the company cited $56.4 of proceeds-related income, and reported $71.7 of gains from property, equipment and restaurant-business sales. These items are not necessarily recurring.
- Cash from investing activities was positive $23.0, compared with $60.1 used in 2015, mainly reflecting asset and restaurant sale proceeds. The company reported $88.4 of proceeds from property sales and $25.1 from restaurant-business sales.
- The company repaid its 2016 notes at maturity, entered a $167.3 secured loan in March 2016, and repurchased $80.0 principal of 2023 notes. The secured loan was subsequently repaid in April 2017 using proceeds from a new $265.0 issue of 2027 notes; these are post-year-end developments.
Outlook, risks and contingencies
- Plans and funding: Under the 2017–2019 MFA plan, Arcos Dorados committed to open 180 restaurants and reinvest $292 in existing restaurants. Total 2017–2019 capital expenditures were expected to be approximately $500. For 2017, it expected $150–$180 of capital expenditures and 45–50 gross restaurant openings. Management said it expected operating cash flow and available liquidity to meet anticipated needs for at least 12 months, while noting the possibility of additional financing.
- Franchise economics: McDonald’s agreed to growth support for 2017–2019; the company projected an effective royalty rate of 5.3% in 2017, 5.7% in 2018 and 5.9% in 2019. The MFA’s broader renewal and operating requirements remain material: rights generally run through 2027, and breach or failure to meet investment, opening or financial requirements could permit McDonald’s to terminate or acquire interests in the business. The company reported compliance with relevant financial ratios at year-end after prior waivers.
- Currency and regional exposure: Devaluations, inflation, exchange controls, price controls, recession and political or regulatory changes may affect sales, costs, debt service and the ability to transfer cash. Venezuela is particularly exposed to currency restrictions, price controls and economic instability; its 2016 revenue was $51.6 and operating loss $8.6. The company said it could not access the official exchange rate for dividends and had limited ability to pay royalties at that rate.
- Operating risks: Key exposures include food and commodity costs, labor costs and disputes, competition, consumer preferences, food safety, supplier continuity, franchisee financial health, regulation of children’s advertising and restaurant leases. The company noted that most supplier relationships were oral and its 16 largest suppliers represented about 55% of purchases.
- Legal matters: At year-end, the provision for contingencies, net of judicial deposits, was $18.1. Separately, the filing disclosed possible losses of $89–$122 related to tax and labor-law matters; outcomes and timing are uncertain. In Brazil, an administrative labor review included a preliminary demand for approximately R$104 of penalties, which the company contested and for which review was ongoing. Puerto Rico franchisee and association claims sought $66.7, $30 and $31, respectively; the company reported no provision for these claims and considered a final adverse outcome unlikely.
- Capital returns and governance: No dividends were declared for 2016. Woods Staton beneficially controlled 76.8% of voting interests, limiting public shareholders’ influence. The company is a British Virgin Islands issuer and relies on foreign-private-issuer exemptions from certain NYSE governance requirements.
Important facts for investors to verify
- How much of the 2016 earnings improvement reflects sustainable restaurant performance versus foreign-exchange movements and asset-sale gains.
- Whether comparable-sales growth and operating margins can be maintained as local currencies, inflation and consumer demand change.
- Cash generation, liquidity and covenant headroom against the $292 MFA reinvestment commitment and planned restaurant openings.
- Current debt, derivative exposures, lease obligations and the effects of the April 2017 refinancing and 2023-note tender on interest costs and maturities.
- Developments in the disclosed $89–$122 possible-loss range, the Brazilian labor review and the Puerto Rico franchisee disputes.
- Venezuela’s exchange-rate treatment, restrictions on repatriation and the potential effects of further price or currency controls.
- Terms and compliance requirements of the MFAs, including McDonald’s renewal, call-option and investment-plan rights.