McDonald’s Corporation — FY2014 Form 10-K
Reporting period: Fiscal year ended December 31, 2014. The filing is an annual report, not a standalone fourth-quarter filing. Amounts are in U.S. dollars unless stated otherwise.
Business context and reporting period
McDonald’s franchises and operates restaurants in 119 countries. At year-end, it had 36,258 restaurants, more than 80% franchised. The company’s revenues include Company-operated restaurant sales and rent, royalties and fees from franchised restaurants.
Financial performance and position
| Metric | 2014 | 2013 |
|---|---|---|
| Total revenue | $27.44 billion | $28.11 billion |
| Operating income | $7.95 billion | $8.76 billion |
| Net income | $4.76 billion | $5.59 billion |
| Diluted EPS | $4.82 | $5.55 |
| Operating margin | 29.0% | 31.2% |
| Cash from operations | $6.73 billion | $7.12 billion |
| Capital expenditures | $2.58 billion | $2.82 billion |
| Cash and equivalents at year-end | $2.08 billion | $2.80 billion |
| Total debt | $14.99 billion | $14.13 billion |
| Total assets | $34.28 billion | $36.63 billion |
| Shareholders’ equity | $12.85 billion | $16.01 billion |
Company-operated restaurant margin was 15.9% of sales, down from 17.5%; franchised margin was $7.58 billion, approximately 70% of combined restaurant margins. Cash from operations exceeded capital expenditures by $4.15 billion. Debt was 54% of total capitalization, versus 47% in 2013; the weighted-average debt interest rate was 4.0%. The company reported a $2.5 billion unused committed credit line and continuing access to commercial paper and credit markets.
For the fourth quarter, revenue was $6.57 billion versus $7.09 billion a year earlier; operating income was $1.75 billion versus $2.20 billion; net income was $1.10 billion versus $1.40 billion; and diluted EPS was $1.13 versus $1.40.
Material changes versus the prior comparable period
- Full-year revenue declined 2% as reported and was flat in constant currencies. Systemwide sales fell 2% as reported but rose 1% in constant currencies.
- Global comparable sales decreased 1.0% and comparable guest counts decreased 3.6%. Comparable sales declined in the U.S. (2.1%), Europe (0.6%) and APMEA (3.3%).
- Operating income fell 9% as reported and 8% in constant currencies; net income declined 15% and diluted EPS fell 13% as reported. Excluding the disclosed tax and supplier impacts, EPS was down 3% as reported and 1% in constant currencies.
- Company-operated margin dollars declined $415 million, or 13%; franchised margin dollars were nearly flat. APMEA operating income fell 28%, including an estimated $290 million impact from the supplier issue.
- The effective tax rate rose to 35.5% from 31.9%, principally due to increased reserves for foreign tax matters. Excluding these items, the company said the rate would have been 31.4%.
- Cash returned to shareholders increased to $6.4 billion from $4.9 billion: $3.2 billion in dividends and $3.2 billion in share repurchases. Total debt rose by approximately $0.9 billion, while shareholders’ equity declined by approximately $3.2 billion.
Outlook, management commentary, risks and unusual items
- Management characterized 2014 performance as disappointing, citing weak comparable sales, negative guest traffic, operating cost pressures, competitive challenges and unforeseen events. It expected many headwinds, particularly in the first half of 2015, to persist.
- For 2015, the company expected net restaurant additions to contribute about 2 percentage points to Systemwide sales growth in constant currencies. It did not provide specific diluted EPS or comparable-sales guidance.
- Management forecast 2015 commodity basket costs to rise 1.5%–2.5% in the U.S. and Europe; SG&A to increase 7%–8% in constant currencies (about 1%–2% excluding incremental incentive compensation); interest expense to increase slightly; and an effective tax rate of 31%–33%.
- Planned 2015 capital expenditures were approximately $2.0 billion. The company expected more than 1,000 restaurant openings, net additions of 600–700, and continued refranchising; its three-year cash-return target was $18–$20 billion for 2014–2016.
- Food-quality problems at a supplier in China, identified in mid-2014, hurt sales and profitability in China, Japan and certain other markets and required customer-recovery spending. The company estimated a $0.23 per-share full-year EPS impact.
- Foreign tax matters, including an unfavorable lower-court ruling and audit developments, increased tax reserves and reduced EPS by an estimated $0.31. Gross unrecognized tax benefits were $988 million at year-end; the company intended to contest certain assessments.
- Other risks include intense competition, changing consumer preferences, commodity and labor costs, foreign exchange, geopolitical and economic conditions (including Russia and Ukraine), food safety, franchisee performance, regulation, litigation, climate and supply-chain disruptions, and technology or cybersecurity failures.
- The company targeted refranchising at least 1,500 restaurants over 2014–2016; more than 400 were refranchised in 2014. Management noted that this mix shift may dilute franchised margin percentage even as it supports franchised margin dollars.
- Donald Thompson was to retire as CEO effective March 1, 2015, with Stephen Easterbrook appointed successor. The company reported no subsequent events requiring disclosure. Ernst & Young issued unqualified opinions on the financial statements and internal control over financial reporting.
Investor verification priorities
- Assess whether comparable sales and guest traffic recover, especially in the U.S., China and Japan, and whether the supplier-related recovery is sustained.
- Track operating margins, commodity and labor costs, and the company’s ability to meet its stated 2015 cost and capital-spending expectations.
- Review the resolution and cash/tax consequences of foreign tax disputes, including the significant unrecognized tax benefits.
- Evaluate debt growth, liquidity, currency exposure, and whether dividends and repurchases remain supportable alongside investment and refranchising plans.
- Monitor the impact of refranchising on revenue, cash flow, restaurant margins and franchisee financial health; confirm progress against the $18–$20 billion shareholder-return target.