UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM | |
For the fiscal year ended December 31, 2019
or
For the transition period from to
Commission File Number 1-5231
(Exact name of registrant as specified in its charter) | ||
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | |||
(Address of principal executive offices) | (Zip code) | |||
Registrant’s telephone number, including area code: (630) 623-3000
Securities registered pursuant to Section 12(b) of the Act:
Title of each class | Trading Symbol(s) | Name of each exchange on which registered |
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☒ No ☐
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☒
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Smaller reporting company ☐ Emerging growth company ☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
The aggregate market value of common stock held by non-affiliates of the registrant as of June 28, 2019 was $157,661,991,693 .
The number of shares outstanding of the registrant’s common stock as of January 31, 2020 was 745,446,655 .
DOCUMENTS INCORPORATED BY REFERENCE
McDONALD’S CORPORATION
TABLE OF CONTENTS
ORGANIZATION OF OUR ANNUAL REPORT ON FORM 10-K
The order and presentation of content in our Annual Report on Form 10-K ("Form 10-K") differs from the traditional U.S. Securities and Exchange Commission ("SEC") Form 10-K format. We believe that our format improves readability and better presents how we organize and manage our business. See "Form 10-K Cross-Reference Index" for a cross-reference index to the traditional SEC Form 10-K format.
Page reference | |
Forward-Looking Statements | |
About McDonald's | |
Business Summary | |
Management's Discussion and Analysis of Financial Condition and Results of Operations | |
Management's View of the Business | |
Financial Performance and Strategic Direction | |
Outlook | |
Consolidated Operating Results | |
Cash Flows | |
Financial Position and Capital Resources | |
Other Matters | |
Other Key Information | |
Selected Financial Data | |
Market for Registrant's Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities | |
Risk Factors | |
Legal Proceedings | |
Properties | |
Information About our Executive Officers | |
Availability of Company Information | |
Financial Statements and Supplementary Data | |
Controls and Procedures | |
Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters | |
Form 10-K Cross-Reference Index | |
All trademarks used herein are the property of their respective owners.
FORWARD-LOOKING STATEMENTS |
The information in this report includes forward-looking statements about future events and circumstances and their effects upon revenues, expenses and business opportunities. Generally speaking, any statement in this report not based upon historical fact is a forward-looking statement. Forward-looking statements can also be identified by the use of forward-looking words, such as "could," "should," "continue," "estimate," "forecast," "intend," "look," “may,” “will,” “expect,” “believe,” “anticipate” and “plan” or similar expressions. In particular, statements regarding our plans, strategies, prospects and expectations regarding our business and industry, including those under "Financial Performance and Strategic Direction", "Outlook", or "Risk Factors" are forward-looking statements. They reflect our expectations, are not guarantees of performance and speak only as of the date of this report. Except as required by law, we do not undertake to update such forward-looking statements. Therefore, you should not rely unduly on any forward-looking statements. Our business results are subject to a variety of risks, including those considerations or risks that are reflected in the "Risk Factors" section, as well as elsewhere in our filings with the SEC. If any of these considerations or risks materialize, our expectations may change or not be realized and our performance may be adversely affected.
ABOUT McDONALD'S |
McDonald’s Corporation, the registrant, together with its subsidiaries, is referred to herein as the "Company." The Company, its franchisees and suppliers, are referred to herein as the "System."
BUSINESS SUMMARY
a. General
Effective January 1, 2019, McDonald's operates under an organizational structure designed to support the Company's efforts toward efficiently driving growth through the Velocity Growth Plan (the "Plan"). The Company’s reporting segments are aligned with its strategic priorities and reflect how management reviews and evaluates operating performance. Significant reportable segments include the United States ("U.S.") and International Operated Markets. In addition, throughout this report we present the International Developmental Licensed Markets & Corporate segment, which includes markets in over 80 countries, as well as Corporate activities.
b. Description of business
• | General |
The Company franchises and operates McDonald’s restaurants, which serve a locally-relevant menu of quality food and beverages in 119 countries. Of the 38,695 restaurants at year-end 2019, 36,059 were franchised, which is 93% of McDonald's restaurants.
McDonald’s franchised restaurants are owned and operated under one of the following structures - conventional franchise, developmental license or affiliate. The optimal ownership structure for an individual restaurant, trading area or market (country) is based on a variety of factors, including the availability of individuals with the entrepreneurial experience and financial resources, as well as the local legal and regulatory environment in critical areas such as property ownership and franchising. The business relationship between McDonald’s and its independent franchisees is supported by adhering to standards and policies and is of fundamental importance to overall performance and to protecting the McDonald’s brand.
The Company is primarily a franchisor and believes franchising is paramount to delivering great-tasting food, locally relevant customer experiences and driving profitability. Franchising enables an individual to be their own employer and maintain control over all employment related matters, marketing and pricing decisions, while also benefiting from the strength of McDonald’s global brand, operating system and financial resources.
Directly operating McDonald’s restaurants contributes significantly to our ability to act as a credible franchisor. One of the strengths of the franchising model is that the expertise from operating Company-owned restaurants allows McDonald’s to improve the operations and success of all restaurants while innovations from franchisees can be tested and, when viable, efficiently implemented across relevant restaurants. Having Company-owned and operated restaurants provides Company personnel with a venue for restaurant operations training experience. In addition, in our Company-owned and operated restaurants, and in collaboration with franchisees, we are able to further develop and refine operating standards, marketing concepts and product and pricing strategies that will ultimately benefit McDonald’s restaurants.
The Company’s revenues consist of sales by Company-operated restaurants and fees from restaurants operated by franchisees. Fees vary by type of site, amount of Company investment, if any, and local business conditions. These fees, along with occupancy and operating rights, are stipulated in franchise/license agreements that generally have 20-year terms.
Conventional Franchise
Under a conventional franchise arrangement, the Company generally owns or secures a long-term lease on the land and building for the restaurant location and the franchisee pays for equipment, signs, seating and décor. The Company believes that ownership of real estate, combined with the co-investment by franchisees, enables us to achieve restaurant performance levels that are among the highest in the industry.
Franchisees are also responsible for reinvesting capital in their businesses over time. In addition, to accelerate implementation of certain initiatives, the Company may co-invest with franchisees to fund improvements to their restaurants or their operating systems. These investments, developed in collaboration with franchisees, are designed to cater to consumer preferences, improve local business performance, and increase the value of our brand through the development of modernized, more attractive and higher revenue generating restaurants.
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The Company requires franchisees to meet rigorous standards and generally does not work with passive investors. The business relationship with franchisees is designed to facilitate consistency and high quality at all McDonald’s restaurants. Conventional franchisees contribute to the Company’s revenue, primarily through the payment of rent and royalties based upon a percent of sales, with specified minimum rent payments, along with initial fees paid upon the opening of a new restaurant or grant of a new franchise. This structure enables McDonald’s to generate significant and predictable levels of cash flow.
Developmental License or Affiliate
Under a developmental license or affiliate arrangement, licensees are responsible for operating and managing the business, providing capital (including the real estate interest) and developing and opening new restaurants. The Company generally does not invest any capital under a developmental license or affiliate arrangement, and it receives a royalty based on a percent of sales, and generally receives initial fees upon the opening of a new restaurant or grant of a new license.
While developmental license and affiliate arrangements are largely the same, affiliate arrangements are used in a limited number of foreign markets (primarily China and Japan) where the Company also has an equity investment and records its share of net results in Equity in earnings of unconsolidated affiliates.
• | Supply chain, food safety, and quality assurance |
The Company and its franchisees purchase food, packaging, equipment, and other goods from numerous independent suppliers. The Company has established and enforces high food safety and quality standards. The Company has quality centers around the world designed to promote consistency of its high standards. The quality assurance process not only involves ongoing product reviews, but also on-site supplier visits. A Food Safety Advisory Council, composed of the Company’s internal food safety experts, as well as suppliers and outside academia, provides strategic global leadership for all aspects of food safety. We have ongoing programs to educate employees about food safety practices, and our suppliers and restaurant operators participate in food safety trainings where we share best practices on food safety and quality. In addition, the Company works closely with suppliers to encourage innovation and drive continuous improvement. Leveraging scale, supply chain infrastructure and risk management strategies, the Company also collaborates with suppliers toward a goal of achieving competitive, predictable food and paper costs over the long term.
Independently owned and operated distribution centers, approved by the Company, distribute products and supplies to McDonald’s restaurants. In addition, restaurant personnel are trained in the proper storage, handling and preparation of food for customers.
• | Products |
McDonald’s restaurants offer a substantially uniform menu, although there are geographic variations to suit local consumer preferences and tastes.
McDonald’s menu includes hamburgers and cheeseburgers, Big Mac, Quarter Pounder with Cheese, Filet-O-Fish, several chicken sandwiches, Chicken McNuggets, wraps, McDonald's Fries, salads, oatmeal, shakes, McFlurry desserts, sundaes, soft serve cones, pies, soft drinks, coffee, McCafé beverages and other beverages.
McDonald’s restaurants in the U.S. and many international markets offer a full or limited breakfast menu. Breakfast offerings may include Egg McMuffin, Sausage McMuffin with Egg, McGriddles, biscuit and bagel sandwiches and hotcakes.
In addition to these menu items, the restaurants sell a variety of other products during limited-time promotions.
Taste, quality, choice and nutrition are important to our customers, and we are continuously evolving our menu to meet our customers' needs, including testing new products on an ongoing basis.
• | Marketing |
McDonald’s global brand is well known. Marketing, promotional and public relations activities are designed to promote McDonald’s brand and differentiate the Company from competitors. Marketing and promotional efforts focus on value, quality, food taste, menu choice, nutrition, convenience and the customer experience.
• | Intellectual property |
The Company owns or is licensed to use valuable intellectual property including trademarks, service marks, patents, copyrights, trade secrets and other proprietary information. The Company considers the "McDonald's" trademark and the Golden Arches Logo to be of material importance to its business. Depending on the jurisdiction, trademarks and service marks generally are valid as long as they are used and/or registered. Patents, copyrights and licenses are of varying durations.
• | Seasonal operations |
The Company does not consider its operations to be seasonal to any material degree.
• | Working capital practices |
Information about the Company’s working capital practices is incorporated herein by reference from Management’s Discussion and Analysis of Financial Condition and Results of Operations for the years ended December 31, 2019, 2018 and 2017 on pages 6 through 21 and the Consolidated Statement of Cash Flows for the years ended December 31, 2019, 2018 and 2017 on page 37 of this Form 10-K.
• | Customers |
The Company’s business is not dependent upon either a single customer or small group of customers.
• | Government contracts |
No material portion of the business is subject to renegotiation of profits or termination of contracts or subcontracts at government election.
• | Competition |
McDonald’s restaurants compete with international, national, regional and local retailers of food products. The Company competes on the basis of price, convenience, service, experience, menu variety and product quality in a highly fragmented global restaurant industry.
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In measuring the Company’s competitive position, management reviews data compiled by Euromonitor International, a leading source of market data with respect to the global restaurant industry. The Company’s primary competition, which is referred to as the informal eating out ("IEO") segment, includes the following restaurant categories defined by Euromonitor International: limited-service restaurants (which combines quick-service eating establishments and 100% home delivery/takeaway providers), street stalls or kiosks, cafés, specialist coffee shops, self-service cafeterias and juice/smoothie bars. The IEO segment excludes establishments that primarily serve alcohol and full-service restaurants other than providers with limited table service.
Based on data from Euromonitor International, the global IEO segment was composed of approximately 9 million outlets and generated $1.2 trillion in annual sales in 2018, the most recent year for which data is available. McDonald’s Systemwide 2018 restaurant business accounted for 0.4% of those outlets and 8.2% of the sales.
Management also on occasion benchmarks McDonald’s against the entire restaurant industry, including the IEO segment defined above and all full-service restaurants. Based on data from Euromonitor International, the restaurant industry was composed of approximately 20 million outlets and generated $2.7 trillion in annual sales in 2018. McDonald’s Systemwide restaurant business accounted for 0.2% of those outlets and 3.6% of the sales.
• | Environmental matters |
The Company continuously monitors developments related to environmental matters, and endeavors to improve its social responsibility and environmental practices to achieve long-term sustainability, which benefits McDonald’s and the communities it serves.
Actual or perceived effects of changes in weather patterns, climate, water resources, or packaging waste could have a direct or indirect impact on the operations of the System in ways which we cannot fully predict at this time.
The Company launched a framework in 2018, which includes the environment-related pillars of climate action, packaging and recycling, beef sustainability, and other sustainable sourcing efforts. These include goals and initiatives to reduce System greenhouse gas emissions, responsibly source ingredients and packaging, and increase the availability of recycling in restaurants to reduce waste, which the Company recognizes are also increasingly important to customers.
The Company monitors environment-related governmental initiatives and consumer preferences, and plans to respond in a timely and appropriate manner. Increased focus by certain governmental authorities or consumers on environmental matters may lead to new governmental initiatives or opportunities. While we cannot predict the precise nature of these initiatives, we expect that they may impact our business both directly and indirectly. Although the impact would likely vary by world region and/or market, we believe that adoption of new regulations may increase costs or operational complexity for the Company.
• | Number of employees |
The Company’s number of employees worldwide, including its corporate and other office employees as well as Company-owned and operated restaurant employees, was approximately 205,000 as of year-end 2019.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
MANAGEMENT'S VIEW OF THE BUSINESS
In analyzing business trends, management reviews results on a constant currency basis and considers a variety of performance and financial measures which are considered to be non-GAAP, including comparable sales and comparable guest count growth, Systemwide sales growth, return on incremental invested capital ("ROIIC"), free cash flow and free cash flow conversion rate, as described below. Management believes these measures are important in understanding the financial performance of the Company.
• | Constant currency results exclude the effects of foreign currency translation and are calculated by translating current year results at prior year average exchange rates. Management reviews and analyzes business results excluding the effect of foreign currency translation, impairment and other strategic charges and gains, as well as income tax provision adjustments related to the Tax Cuts and Jobs Act of 2017 ("Tax Act"), and bases incentive compensation plans on these results, because the Company believes this better represents underlying business trends. |
• | Comparable sales represent sales at all restaurants, whether operated by the Company or by franchisees, in operation at least thirteen months including those temporarily closed. Some of the reasons restaurants may be temporarily closed include reimaging or remodeling, rebuilding, road construction and natural disasters. Comparable sales exclude the impact of currency translation, and, since 2017, also exclude sales from Venezuela due to its hyper-inflation. Management generally identifies hyper-inflationary markets as those markets whose cumulative inflation rate over a three-year period exceeds 100%. Comparable sales are driven by changes in guest counts and average check, which is affected by changes in pricing and product mix. The goal is to achieve a relatively balanced contribution from both guest counts and average check. |
• | Comparable guest counts represent the number of transactions at all restaurants, whether operated by the Company or by franchisees, in operation at least thirteen months including those temporarily closed. |
• | Systemwide sales include sales at all restaurants, whether operated by the Company or by franchisees. While franchised sales are not recorded as revenues by the Company, management believes the information is important in understanding the Company’s financial performance because these sales are the basis on which the Company calculates and records franchised revenues and are indicative of the financial health of the franchisee base. The Company's revenues consist of sales by Company-operated restaurants and fees from franchised restaurants operated by conventional franchisees, developmental licensees and affiliates. |
• | ROIIC is a measure reviewed by management over one-year and three-year time periods to evaluate the overall profitability of the markets, the effectiveness of capital deployed and the future allocation of capital. The return is calculated by dividing the change in operating income plus depreciation and amortization (numerator) by the cash used for investing activities (denominator), primarily capital expenditures. The calculation uses a constant average foreign exchange rate over the periods included in the calculation. |
• | Free cash flow, defined as cash provided by operations less capital expenditures, and free cash flow conversion rate, defined as free cash flow divided by net income, are measures reviewed by management in order to evaluate the Company’s ability to convert net profits into cash resources, after reinvesting in the core business, that can be used to pursue opportunities to enhance shareholder value. |
2019 FINANCIAL PERFORMANCE
In 2019, global comparable sales increased 5.9% and global comparable guest counts increased 1.0%, reflecting the continued execution against the Velocity Growth Plan.
• | Comparable sales in the U.S. increased 5.0% and comparable guest counts decreased 1.9%. The increase in comparable sales reflected strong sales of our iconic core products driven by promotional activity and the continued positive impact from our Experience of the Future ("EOTF") deployment, as well as menu price increases. |
• | Comparable sales in the International Operated segment increased 6.1% and comparable guest counts increased 3.5%, reflecting positive results across all markets, primarily driven by the U.K. and France. |
• | Comparable sales in the International Developmental Licensed segment increased 7.2% and comparable guest counts increased 2.2%, reflecting positive sales performance across all geographic regions. |
In addition to improved comparable sales and guest count performance, the Company achieved the following financial results in 2019:
• | Consolidated revenues were relatively flat with the prior year (increased 3% in constant currencies) at $21.1 billion. |
• | Systemwide sales increased 4% (7% in constant currencies) to $100.2 billion. |
• | Consolidated operating income increased 3% (6% in constant currencies). Excluding the impact of current year and prior year impairment and strategic charges, operating income increased 1% (4% in constant currencies). Refer to the Operating Income section on page 15 for additional details. |
• | Operating margin, defined as operating income as a percent of total revenues, increased from 42.0% in 2018 to 43.0% in 2019. Excluding the items referenced in the previous bullet point, operating margin increased from 43.1% in 2018 to 43.4% in 2019. |
McDonald's Corporation 2019 Annual Report 6
• | Diluted earnings per share of $7.88 increased 5% (7% in constant currencies). Refer to the Net Income and Diluted Earnings Per Share section on page 10 for additional details. |
• | Cash provided by operations was $8.1 billion. |
• | Capital expenditures of $2.4 billion were allocated mainly to reinvestment in existing restaurants and, to a lesser extent, to new restaurant openings. |
• | Free cash flow was $5.7 billion, a 36% increase over the prior year. |
• | Across the System, about 1,200 restaurants (including those in our developmental licensee and affiliated markets) were opened. |
• | One-year ROIIC was 22.8% and three-year ROIIC was 40.6% for the period ended December 31, 2019. Excluding significant investing cash flows resulting from the Company's strategic refranchising initiatives, three-year ROIIC was 24.6% (see reconciliation in Exhibit 12). |
• | The Company increased its quarterly cash dividend per share by 8% to $1.25 for the fourth quarter, equivalent to an annual dividend of $5.00 per share. |
• | The Company returned $8.6 billion to shareholders through share repurchases and dividends for the year, marking successful achievement of the Company's targeted return of $25 billion for the three-year period ending 2019. |
STRATEGIC DIRECTION
The strength of the alignment among the Company, its franchisees and suppliers is key to McDonald's long-term success. By leveraging the System, McDonald’s is able to identify, implement and scale ideas that meet customers' changing needs and preferences. McDonald's continually builds on its competitive advantages of System alignment and geographic diversification to deliver consistent, yet locally-relevant restaurant experiences to customers as an integral part of their communities.
CUSTOMER-CENTRIC GROWTH STRATEGY
The Velocity Growth Plan, the Company’s customer-centric strategy, is rooted in extensive customer research and insights, along with a deep understanding of the key drivers of the business. The Plan is designed to drive sustainable comparable sales and guest count growth, reliable long-term measures of the Company's strength that are vital to growing shareholder value. In 2019, execution of the Plan drove further broad-based growth around the globe. In 2020, the Company will continue to focus on elevating the customer experience through improved restaurant execution and creating excitement around our food and value offerings, while continuing to leverage technology to enable greater convenience and customer personalization.
The Company continues to target the opportunity at the core of its business - its food, value and customer experience. The strategy is built on the following three pillars, all focusing on building a better McDonald’s:
• | Retaining existing customers - focusing on areas where it already has a strong foothold in the IEO category, including family occasions and food-led breakfast. |
• | Regaining customers who visit less often - recommitting to areas of historic strength, namely food taste and quality, convenience and speed, experience and value. |
• | Converting casual to committed customers - building stronger relationships with customers so they visit more often, by elevating and leveraging the McCafé coffee brand and enhancing snack and treat offerings. |
The Company continues to scale and optimize the Plan through the following growth accelerators:
• | Experience of the Future. The Company is building upon its investments in EOTF, focusing on restaurant modernization in order to transform the restaurant service experience and enhance our brand in the eyes of our customers. The modernization efforts are designed to provide a better customer experience, leading to increased frequency of customer visits and higher average check. As of the end of 2019, EOTF is deployed in over half of the restaurants in our global system, with most of the major markets substantially complete. In 2019, the U.S. converted about 2,000 restaurants to EOTF, resulting in about 70% of the U.S. restaurants now having EOTF. In 2020, the Company will further deploy EOTF around the globe, including converting about 1,800 of the remaining restaurants in the U.S. to EOTF. |
• | Digital. The Company is improving its existing service model with customers through technology. Digital technology is transforming the retail industry, and the Company is using it to transform McDonald’s for our customers at an accelerated pace. By evolving the technology platform, the Company is expanding choices for how customers order, pay and are served their food. The added functionality of the Company’s global mobile app, self-order kiosks, and other technologies enable greater convenience for the customer on their terms. In 2019, the Company built on its digital foundation, acquiring Dynamic Yield, a leader in personalization and decision logic technology. The Company has implemented this technology via outdoor digital menu boards in over 11,000 U.S. drive-thrus, offering customers a more customized experience and producing sales growth through higher average check. This technology is also deployed in nearly all drive-thrus in Australia, and we are looking to deploy across further international markets beginning in 2020. The Company continued to expand its technological capabilities via the acquisition of Apprente, an early-stage leader in conversational interface technology. This technology is expected to provide more efficient and accurate ordering in the drive-thru. In 2020, the Company will continue to utilize more personalized digital initiatives to engage customers, grow awareness and adoption of digital offerings, and support our menu offerings. |
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• | Delivery. The Company continues to build momentum with its delivery platform as a way of expanding the convenience for its customers. In 2019, McDonald’s continued to add third-party delivery partners in order to maximize the System’s delivery scale and potential. Across the global system, nearly 25,000 restaurants now offer delivery. Customers are responding positively, as demonstrated by high satisfaction ratings, strong reorder rates, and average checks that are generally two times higher than average non-delivery transactions. Further, in some of our top markets, delivery now represents as much as 10% of sales in those restaurants offering delivery. Consequently, McDonald’s global delivery business has grown to over $4 billion in Systemwide sales in 2019, up from $1 billion in 2016. We continue to see great runway ahead of us to drive awareness and trial of delivery, and are focusing on efforts to encourage frequency and retention in 2020 and beyond. |
The Plan is a global strategy that is tailored at a market level to allow for the best customer experience and most convenience for our valued customers. While the Plan provides a consistent framework on how to retain, regain, and convert customers, the execution varies across the globe. The U.S., for example, remains centered on returning to guest count growth by focusing on running better restaurant operations, introducing new menu items and offering compelling value. In addition, we will continue transforming the customer experience through aggressive execution of the growth accelerators of EOTF, digital and delivery. In 2020, the markets around the world will continue to make progress on the three pillars of the Plan and its growth accelerators, focusing on food, value and customer convenience.
Our Plan also includes the Company further embedding actions in response to certain social and environmental issues into the core of our business. As one of the world’s largest restaurant companies, our approach highlights our commitment to global actions that are consistent with our strategic priorities and provides an opportunity to collaborate with our franchisees and suppliers to drive meaningful progress. We recognize that our success in advancing these initiatives will be demonstrated as customers continue to feel good about visiting McDonald’s restaurants and eating our food.
While we are working to address many challenges facing society today, we are elevating global action where we believe we can make the greatest difference in driving industry-wide change. Our priorities reflect the social and environmental impacts of our food and our business. Highlights include science-based targets for greenhouse gas emissions reductions and climate action, advancing sustainable practices in beef production with suppliers and producers, driving innovative solutions for our packaging and recycling efforts, and ongoing commitments to support families and provide opportunities for youth in our communities. In 2019, for example, we made progress toward our 2030 climate action target with the addition of significant investments in renewable energy projects in the U.S.; we achieved our goal of 100% sustainably sourced McCafé coffee for U.S. restaurants; and we continued to make a difference for families through innovation in our food offerings, reading programs and support for Ronald McDonald House Charities.
The Company is confident, that under the Plan, we will continue to improve the taste of our delicious food, enhance convenience and service through running great restaurants, offer compelling value, and heighten the trust consumers place in our brand, which we believe will enable us to deliver long-term sustainable growth.
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OUTLOOK
2020 Outlook
The following information is provided to assist in forecasting the Company’s future results.
• | Changes in Systemwide sales are driven by comparable sales, net restaurant unit expansion, and the potential impacts of hyper-inflation. The Company expects net restaurant additions to add approximately 1.5 percentage points to 2020 Systemwide sales growth (in constant currencies). |
• | The Company expects full year 2020 selling, general and administrative expenses to increase about 5% to 7% in constant currencies as the Company invests in technology and research & development, and incurs costs related to the Worldwide Owner/Operator Convention, which will occur in the second quarter 2020. |
• | Based on current interest and foreign currency exchange rates, the Company expects interest expense for the full year 2020 to increase about 4% to 6% due primarily to higher average debt balances. |
• | A significant part of the Company's operating income is generated outside the U.S., and about 40% of its total debt is denominated in foreign currencies. Accordingly, earnings are affected by changes in foreign currency exchange rates, particularly the Euro, British Pound, Australian Dollar and Canadian Dollar. Collectively, these currencies represent approximately 80% of the Company's operating income outside the U.S. If all four of these currencies moved by 10% in the same direction, the Company's annual diluted earnings per share would change by about 35 cents. |
• | The Company expects the effective income tax rate for the full year 2020 to be in the 23% to 25% range. Some volatility may result in a quarterly tax rate outside of the annual range. |
• | The Company expects capital expenditures for 2020 to be approximately $2.4 billion. About $1.3 billion will be dedicated to our U.S. business, over half of which is allocated to approximately 1,800 EOTF projects. Globally, we expect to open roughly 1,400 restaurants. We will spend approximately $800 million in the U.S. and International Operated segments to open 400 restaurants and our developmental licensees and affiliates will contribute capital towards the remaining 1,000 restaurant openings in the International Developmental Licensed segment. The Company expects about 1,000 net restaurant additions in 2020. |
Long-Term Outlook
• | Over the long-term, the Company expects to achieve the following average annual (constant currency) financial targets: |
◦ | Systemwide sales growth of 3% to 5%; |
◦ | Operating margin in the mid-40% range; |
◦ | Earnings per share growth in the high-single digits; and |
◦ | Return on incremental invested capital in the mid-20% range. |
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CONSOLIDATED OPERATING RESULTS
Operating results | ||||||||||||||||||||
2019 | 2018 | 2017 | ||||||||||||||||||
Dollars and shares in millions, except per share data | Amount | Increase/ (decrease) | Amount | Increase/ (decrease) | Amount | |||||||||||||||
Revenues | ||||||||||||||||||||
Sales by Company-operated restaurants | $ | 9,421 | (6 | %) | $ | 10,013 | (21 | %) | $ | 12,719 | ||||||||||
Revenues from franchised restaurants | 11,656 | 6 | 11,012 | 9 | 10,101 | |||||||||||||||
Total revenues | 21,077 | 0 | 21,025 | (8 | ) | 22,820 | ||||||||||||||
Operating costs and expenses | ||||||||||||||||||||
Company-operated restaurant expenses | 7,761 | (6 | ) | 8,266 | (21 | ) | 10,410 | |||||||||||||
Franchised restaurants-occupancy expenses | 2,201 | 12 | 1,973 | 10 | 1,789 | |||||||||||||||
Selling, general & administrative expenses | 2,229 | 1 | 2,200 | (1 | ) | 2,231 | ||||||||||||||
Other operating (income) expense, net | (184 | ) | 22 | (237 | ) | 80 | (1,163 | ) | ||||||||||||
Total operating costs and expenses | 12,007 | (2 | ) | 12,202 | (8 | ) | 13,267 | |||||||||||||
Operating income | 9,070 | 3 | 8,823 | (8 | ) | 9,553 | ||||||||||||||
Interest expense | 1,122 | 14 | 981 | 7 | 922 | |||||||||||||||
Nonoperating (income) expense, net | (70 | ) | n/m | 26 | (56 | ) | 58 | |||||||||||||
Income before provision for income taxes | 8,018 | 3 | 7,816 | (9 | ) | 8,573 | ||||||||||||||
Provision for income taxes | 1,993 | 5 | 1,892 | (44 | ) | 3,381 | ||||||||||||||
Net income | $ | 6,025 | 2 | % | $ | 5,924 | 14 | % | $ | 5,192 | ||||||||||
Earnings per common share—diluted | $ | 7.88 | 5 | % | $ | 7.54 | 18 | % | $ | 6.37 | ||||||||||
Weighted-average common shares outstanding— diluted | 764.9 | (3 | %) | 785.6 | (4 | %) | 815.5 | |||||||||||||
n/m Not meaningful
IMPACT OF FOREIGN CURRENCY TRANSLATION ON REPORTED RESULTS
While changes in foreign currency exchange rates affect reported results, McDonald’s mitigates exposures, where practical, by purchasing goods and services in local currencies, financing in local currencies and hedging certain foreign-denominated cash flows.
In 2019, results reflected the weakening of the Euro and most other major currencies. In 2018, results reflected the stronger Euro and British Pound. In 2017, results reflected the stronger Euro, offset by the weaker British Pound.
Impact of foreign currency translation on reported results
Reported amount | Currency translation benefit/(cost) | ||||||||||||||||||||||||
In millions, except per share data | 2019 | 2018 | 2017 | 2019 | 2018 | 2017 | |||||||||||||||||||
Revenues | $ | 21,077 | $ | 21,025 | $ | 22,820 | $ | (606 | ) | $ | 123 | $ | 186 | ||||||||||||
Company-operated margins | 1,660 | 1,747 | 2,309 | (51 | ) | 4 | 17 | ||||||||||||||||||
Franchised margins | 9,455 | 9,039 | 8,312 | (256 | ) | 57 | 25 | ||||||||||||||||||
Selling, general & administrative expenses | 2,229 | 2,200 | 2,231 | 29 | (13 | ) | (10 | ) | |||||||||||||||||
Operating income | 9,070 | 8,823 | 9,553 | (280 | ) | 56 | 28 | ||||||||||||||||||
Net income | 6,025 | 5,924 | 5,192 | (165 | ) | 33 | 2 | ||||||||||||||||||
Earnings per common share—diluted | 7.88 | 7.54 | 6.37 | (0.21 | ) | 0.04 | — | ||||||||||||||||||
NET INCOME AND DILUTED EARNINGS PER COMMON SHARE
In 2019, net income increased 2% (4% in constant currencies) to $6.0 billion and diluted earnings per common share increased 5% (7% in constant currencies) to $7.88. Foreign currency translation had a negative impact of $0.21 on diluted earnings per share.
In 2018, net income increased 14% (13% in constant currencies) to $5.9 billion and diluted earnings per common share increased 18% (18% in constant currencies) to $7.54. Foreign currency translation had a positive impact of $0.04 on diluted earnings per share.
Results in 2019 reflected stronger operating performance primarily due to an increase in sales-driven franchised margin dollars, partly offset by lower gains on sales of restaurant businesses (mostly in the U.S.) and higher G&A spend. Results in 2018 reflected a lower effective tax rate, and stronger operating performance due to an increase in sales-driven franchised margin dollars, partly offset by lower Company-operated margin dollars due to the impact of refranchising.
McDonald's Corporation 2019 Annual Report 10
Outlined below is additional information for the full year 2019, 2018, and 2017:
Diluted Earnings Per Common Share Reconciliation | ||||||||||||||||||||||||
Amount | Increase/(decrease) | Increase/(decrease) excluding currency translation | ||||||||||||||||||||||
2019 | 2018 | 2017 | 2019 | 2018 | 2019 | 2018 | ||||||||||||||||||
GAAP earnings per share-diluted | $ | 7.88 | $ | 7.54 | $ | 6.37 | 5 | % | 18 | % | 7 | % | 18 | % | ||||||||||
Income tax (benefit) cost, net | (0.11 | ) | 0.10 | 0.82 | ||||||||||||||||||||
Strategic charges | 0.07 | 0.26 | (0.53 | ) | ||||||||||||||||||||
Non-GAAP earnings per share-diluted | $ | 7.84 | $ | 7.90 | $ | 6.66 | (1 | )% | 19 | % | 2 | % | 18 | % | ||||||||||
Included in the 2019 results were:
◦ | $84 million, or $0.11 per share, of income tax benefit due to new regulations issued in the fourth quarter 2019 related to the Tax Act; and |
◦ | $74 million of pre-tax strategic charges, or $0.07 per share, primarily related to impairment associated with the purchase of our joint venture partner's interest in the India Delhi market, partly offset by gains on the sales of property at the former Corporate headquarters. |
Included in the 2018 results were:
◦ | $75 million, or $0.10 per share, of net tax cost associated with the final 2018 adjustments to the provisional amounts recorded in December 2017 under the Tax Act; |
◦ | $140 million of pre-tax, non-cash impairment charges, or $0.17 per share; and |
◦ | $94 million of pre-tax strategic restructuring charges, or $0.09 per share. |
Included in the 2017 results were:
◦ | $700 million of net tax cost associated with the Tax Act, or $0.82 per share; and |
◦ | a pre-tax gain of $850 million on the sale of the Company’s businesses in China and Hong Kong, offset in part by $150 million of restructuring and impairment charges in connection with the Company’s global G&A and refranchising initiatives, for a net benefit of $0.53 per share. |
Excluding the above 2019 and 2018 items, 2019 net income decreased 3% (1% in constant currencies), and diluted earnings per share decreased 1% (increased 2% in constant currencies). Excluding items impacting 2018 and 2017, 2018 net income increased 14% (14% in constant currencies), and diluted earnings per share increased 19% (18% in constant currencies).
The Company repurchased 25.0 million shares of its stock for $5.0 billion in 2019 and 32.2 million shares of its stock for $5.2 billion in 2018, driving reductions in weighted-average shares outstanding on a diluted basis in both periods, which positively benefited earnings per share.
REVENUES
The Company's revenues consist of sales by Company-operated restaurants and fees from franchised restaurants operated by conventional franchisees, developmental licensees and affiliates. Revenues from conventional franchised restaurants include rent and royalties based on a percent of sales with minimum rent payments, and initial fees. Revenues from restaurants licensed to developmental licensees and affiliates include a royalty based on a percent of sales, and generally include initial fees. Initial fees are recognized evenly over the franchise term.
Franchised restaurants represent 93% of McDonald's restaurants worldwide at December 31, 2019. The Company's current mix of Company-owned and franchised restaurants enables the Company to generate stable and predictable revenue and cash flow streams. Refranchising to a greater percentage of franchised restaurants may negatively impact consolidated revenues as Company-operated sales are replaced by franchised revenues, where the Company receives rent and/or royalty revenue based on a percent of sales.
In 2019, revenues were relatively flat with the prior year (increased 3% in constant currencies). The constant currency increase was primarily due to strong comparable sales, partly offset by the impact of refranchising. In 2018, revenues decreased 8% (8% in constant currencies), reflecting the Company's strategic refranchising initiatives, partly offset by positive comparable sales.
McDonald's Corporation 2019 Annual Report 11
Revenues | |||||||||||||||||||||||||
Amount | Increase/(decrease) | Increase/(decrease) excluding currency translation | |||||||||||||||||||||||
Dollars in millions | 2019 | 2018 | 2017 | 2019 | 2018 | 2019 | 2018 | ||||||||||||||||||
Company-operated sales: | |||||||||||||||||||||||||
U.S. | $ | 2,490 | $ | 2,665 | $ | 3,260 | (7 | %) | (18 | %) | (7 | %) | (18 | %) | |||||||||||
International Operated Markets | 6,334 | 6,668 | 6,845 | (5 | ) | (3 | ) | (1 | ) | (3 | ) | ||||||||||||||
International Developmental Licensed Markets & Corporate | 597 | 680 | 2,614 | (12 | ) | (74 | ) | * | (7 | ) | (75 | ) | * | ||||||||||||
Total | $ | 9,421 | $ | 10,013 | $ | 12,719 | (6 | %) | (21 | %) | (3 | %) | (22 | %) | |||||||||||
Franchised revenues: | |||||||||||||||||||||||||
U.S. | $ | 5,353 | $ | 5,001 | $ | 4,746 | 7 | % | 5 | % | 7 | % | 5 | % | |||||||||||
International Operated Markets | 5,064 | 4,839 | 4,271 | 5 | 13 | 10 | 11 | ||||||||||||||||||
International Developmental Licensed Markets & Corporate | 1,239 | 1,172 | 1,084 | 6 | 8 | 10 | 11 | ||||||||||||||||||
Total | $ | 11,656 | $ | 11,012 | $ | 10,101 | 6 | % | 9 | % | 9 | % | 8 | % | |||||||||||
Total revenues: | |||||||||||||||||||||||||
U.S. | $ | 7,843 | $ | 7,666 | $ | 8,006 | 2 | % | (4 | %) | 2 | % | (4 | %) | |||||||||||
International Operated Markets | 11,398 | 11,507 | 11,116 | (1 | ) | 4 | 4 | 2 | |||||||||||||||||
International Developmental Licensed Markets & Corporate | 1,836 | 1,852 | 3,698 | (1 | ) | (50 | ) | * | 4 | (50 | ) | * | |||||||||||||
Total | $ | 21,077 | $ | 21,025 | $ | 22,820 | 0 | % | (8 | %) | 3 | % | (8 | %) | |||||||||||
* Reflects the impact of refranchising the Company's businesses in China and Hong Kong in 2017.
• | U.S.: Revenues in 2019 and 2018 reflected positive comparable sales. The impact of refranchising partly offset these benefits in 2019 and more than offset these benefits in 2018. |
• | International Operated Markets: In 2019 and 2018, the constant currency increase in revenues reflected positive comparable sales across all markets, partly offset by the impact of refranchising. |
The following tables present comparable sales, comparable guest counts and Systemwide sales increases/(decreases):
Comparable sales and guest count increases/(decreases) | |||||||||||||||
2019 | 2018 | 2017 | |||||||||||||
Sales | Guest Counts | Sales | Guest Counts | Sales | Guest Counts | ||||||||||
U.S. | 5.0 | % | (1.9 | %) | 2.5 | % | (2.2 | %) | 3.6 | % | 1.0 | % | |||
International Operated Markets | 6.1 | 3.5 | 6.1 | 2.8 | 5.6 | 2.7 | |||||||||
International Developmental Licensed Markets & Corporate** | 7.2 | 2.2 | 5.6 | 1.0 | 8.0 | 2.5 | |||||||||
Total** | 5.9 | % | 1.0 | % | 4.5 | % | 0.2 | % | 5.3 | % | 1.9 | % | |||
** The Company excludes sales from markets identified as hyper-inflationary (currently, only Venezuela) from the comparable sales calculation as the Company believes this more accurately reflects the underlying business trends.
Systemwide sales increases/(decreases)*** | ||||||||||||
Increase/(decrease) excluding currency translation | ||||||||||||
2019 | 2018 | 2019 | 2018 | |||||||||
U.S. | 5 | % | 2 | % | 5 | % | 2 | % | ||||
International Operated Markets | 3 | 10 | 8 | 8 | ||||||||
International Developmental Licensed Markets & Corporate | 5 | 6 | 10 | 9 | ||||||||
Total | 4 | % | 6 | % | 7 | % | 6 | % | ||||
*** Unlike comparable sales, the Company has not excluded hyper-inflationary market results (currently, only Venezuela) from Systemwide sales as these sales are the basis on which the Company calculates and records revenues. The difference between comparable sales growth rates and Systemwide sales growth rates are due to both restaurant expansion and the hyper-inflationary impact.
McDonald's Corporation 2019 Annual Report 12
Franchised sales are not recorded as revenues by the Company, but are the basis on which the Company calculates and records franchised revenues and are indicative of the financial health of the franchisee base. The following table presents franchised sales and the related increases/(decreases):
Franchised sales
Amount | Increase/(decrease) | Increase/(decrease) excluding currency translation | |||||||||||||||||||||||
Dollars in millions | 2019 | 2018 | 2017 | 2019 | 2018 | 2019 | 2018 | ||||||||||||||||||
U.S. | $ | 37,923 | $ | 35,860 | $ | 34,379 | 6 | % | 4 | % | 6 | % | 4 | % | |||||||||||
International Operated Markets | 28,853 | 27,557 | 24,386 | 5 | 13 | 10 | 11 | ||||||||||||||||||
International Developmental Licensed Markets & Corporate | 23,981 | 22,717 | 19,426 | 6 | 17 | * | 10 | 20 | * | ||||||||||||||||
Total | $ | 90,757 | $ | 86,134 | $ | 78,191 | 5 | % | 10 | % | 8 | % | 10 | % | |||||||||||
Ownership type | |||||||||||||||||||||||||
Conventional franchised | $ | 66,415 | $ | 63,251 | $ | 59,151 | 5 | % | 7 | % | 7 | % | 6 | % | |||||||||||
Developmental licensed | 14,392 | 13,519 | 12,546 | 6 | 8 | 13 | 13 | ||||||||||||||||||
Foreign affiliated | 9,950 | 9,364 | 6,494 | 6 | 44 | * | 7 | 42 | * | ||||||||||||||||
Total | $ | 90,757 | $ | 86,134 | $ | 78,191 | 5 | % | 10 | % | 8 | % | 10 | % | |||||||||||
* Reflects the impact of refranchising the Company's businesses in China and Hong Kong in 2017.
FRANCHISED MARGINS
Franchised margin dollars represent revenues from franchised restaurants less the Company’s costs associated with those restaurants, primarily occupancy costs (rent and depreciation). Franchised margin dollars represented about 85% of the combined restaurant margins in 2019 and 2018, and about 80% in 2017.
In 2019, franchised margin dollars increased $416 million or 5% (7% in constant currencies). In 2018, franchised margin dollars increased $727 million or 9% (8% in constant currencies). For both 2019 and 2018, the increases were due to positive comparable sales performance across all segments, as well as expansion and the impact of refranchising.
Franchised margins
Amount | % of Revenue | Amount | % of Revenue | Amount | % of Revenue | Increase/(decrease) | Increase/(decrease) excluding currency translation | ||||||||||||||||||||||
Dollars in millions | 2019 | 2018 | 2017 | 2019 | 2018 | 2019 | 2018 | ||||||||||||||||||||||
U.S. | $ | 4,227 | 79.0 | % | $ | 4,070 | 81.4 | % | $ | 3,913 | 82.4 | % | 4 | % | 4 | % | 4 | % | 4 | % | |||||||||
International Operated Markets | 4,018 | 79.3 | 3,829 | 79.1 | 3,365 | 78.8 | 5 | 14 | 10 | 11 | |||||||||||||||||||
International Developmental Licensed Markets & Corporate | 1,210 | 97.7 | 1,140 | 97.3 | 1,034 | 95.4 | 6 | 10 | 11 | 13 | |||||||||||||||||||
Total | $ | 9,455 | 81.1 | % | $ | 9,039 | 82.1 | % | $ | 8,312 | 82.3 | % | 5 | % | 9 | % | 7 | % | 8 | % | |||||||||
The adoption of Accounting Standard Codification ("ASC") Topic 842, "Leases" ("ASC 842") had no impact on franchised margin dollars, but had a negative impact on the Company's franchised margin percent for 2019 of approximately 1.3% in the U.S. and 0.7% on a consolidated basis. ASC 842 clarified the presentation of sub-lease income and lease expense, requiring the straight-line impact of fixed rent escalations to be presented on a gross basis in lease income and lease expense.
• | U.S.: In 2019 and 2018, the decreases in the franchised margin percents were primarily due to higher depreciation costs related to investments in EOTF, partly offset by the benefit from positive comparable sales. 2019 also reflected the impact of the new lease standard. |
• | International Operated Markets: In 2019 and 2018, the increases in the franchised margin percent primarily reflected the benefit from strong comparable sales. |
McDonald's Corporation 2019 Annual Report 13
COMPANY-OPERATED MARGINS
Company-operated margin dollars represent sales by Company-operated restaurants less the operating costs of these restaurants. In 2019, Company-operated margin dollars decreased $87 million or 5% (2% in constant currencies). In 2018, Company-operated margin dollars decreased $562 million or 24% (25% in constant currencies) primarily reflecting the Company's sale of its businesses in China and Hong Kong in 2017.
Company-operated margins
Amount | % of Revenue | Amount | % of Revenue | Amount | % of Revenue | Increase/(decrease) | Increase/(decrease) excluding currency translation | ||||||||||||||||||||||
Dollars in millions | 2019 | 2018 | 2017 | 2019 | 2018 | 2019 | 2018 | ||||||||||||||||||||||
U.S. | $ | 388 | 15.6 | % | $ | 397 | 14.9 | % | $ | 523 | 16.0 | % | (2 | %) | (24 | %) | (2 | %) | (24 | %) | |||||||||
International Operated Markets | 1,266 | 20.0 | 1,327 | 19.9 | 1,336 | 19.5 | (5 | ) | (1 | ) | (1 | ) | (1 | ) | |||||||||||||||
International Developmental Licensed Markets & Corporate | n/m | n/m | n/m | n/m | n/m | n/m | n/m | n/m | n/m | n/m | |||||||||||||||||||
Total | $ | 1,660 | 17.6 | % | $ | 1,747 | 17.4 | % | $ | 2,309 | 18.2 | % | (5 | %) | (24 | %) | (2 | %) | (25 | %) | |||||||||
n/m Not meaningful
• | U.S.: In 2019, the increase in the Company-operated margin percent primarily reflected the benefit from positive comparable sales, partly offset by higher commodity costs, wages and depreciation expense associated with EOTF deployment. In 2018, the Company-operated margin percent decreased, reflecting the impact of accelerated deployment of EOTF (including the related decrease in labor productivity and higher depreciation expense), and higher wages and commodity costs, which more than offset the benefit from positive comparable sales and refranchising. |
• | International Operated Markets: In 2019 and 2018, the increase in the Company-operated margin percent was primarily due to strong comparable sales partly offset by higher labor and occupancy & other costs. |
SELLING, GENERAL & ADMINISTRATIVE EXPENSES
Consolidated selling, general and administrative expenses increased 1% (3% in constant currencies) in 2019 and decreased 1% (2% in constant currencies) in 2018. The results for 2019 and 2018 reflected investments in technology and research & development. The decrease in 2018 also reflected lower employee-related costs, partly offset by costs related to the 2018 Worldwide Owner/Operator Convention and sponsorship of the 2018 Winter Olympics.
Selling, general & administrative expenses
Amount | Increase/(decrease) | Increase/(decrease) excluding currency translation | ||||||||||||||||||||||
Dollars in millions | 2019 | 2018 | 2017 | 2019 | 2018 | 2019 | 2018 | |||||||||||||||||
U.S. | $ | 587 | $ | 591 | $ | 624 | (1 | %) | (5 | %) | (1 | %) | (5 | %) | ||||||||||
International Operated Markets | 629 | 641 | 654 | (2 | ) | (2 | ) | 3 | (4 | ) | ||||||||||||||
International Developmental Licensed Markets & Corporate(1) | 1,013 | 968 | 953 | 5 | 2 | 5 | 2 | |||||||||||||||||
Total Selling, General & Administrative Expenses | $ | 2,229 | $ | 2,200 | $ | 2,231 | 1 | % | (1 | %) | 3 | % | (2 | %) | ||||||||||
Less: Incentive-Based Compensation(2) | 289 | 284 | 336 | 2 | % | (16 | %) | 3 | % | (16 | %) | |||||||||||||
Total Excluding Incentive-Based Compensation | $ | 1,940 | $ | 1,916 | $ | 1,895 | 1 | % | 1 | % | 3 | % | 1 | % | ||||||||||
(1) | Included in International Developmental Licensed Markets & Corporate are home office support costs in areas such as facilities, finance, human resources, information technology and R&D, legal, marketing, restaurant operations, supply chain and training. |
(2) | Includes all cash incentives and share-based compensation expense. |
Selling, general and administrative expenses as a percent of Systemwide sales was 2.2% in 2019, 2.3% in 2018 and 2.5% in 2017. Management believes that analyzing selling, general and administrative expenses as a percent of Systemwide sales is meaningful because these costs are incurred to support the overall McDonald's business.
McDonald's Corporation 2019 Annual Report 14
OTHER OPERATING (INCOME) EXPENSE, NET
Other operating (income) expense, net
In millions | 2019 | 2018 | 2017 | ||||||||
Gains on sales of restaurant businesses | $ | (127 | ) | $ | (304 | ) | $ | (295 | ) | ||
Equity in earnings of unconsolidated affiliates | (154 | ) | (152 | ) | (184 | ) | |||||
Asset dispositions and other (income) expense, net | 23 | (13 | ) | 19 | |||||||
Impairment and other charges (gains), net | 74 | 232 | (703 | ) | |||||||
Total | $ | (184 | ) | $ | (237 | ) | $ | (1,163 | ) | ||
• | Gains on sales of restaurant businesses |
In 2019, gains on sales of restaurant businesses decreased primarily due to fewer restaurant sales in the U.S.
• | Impairment and other charges (gains), net |
In 2019, impairment and other charges (gains), net primarily reflected $99.4 million of impairment associated with the purchase of our joint venture partner's interest in the India Delhi market. Impairment was recorded to reflect the write-down of net assets to fair value in accordance with accounting rules. This was partly offset by $20.3 million of gains on the sales of property at the former Corporate headquarters which were impaired in 2015 based on estimated fair values.
The results in 2018 reflected $140 million of impairment charges due to the Company’s assessment of the recoverability of long-lived assets as well as the strategic restructuring charge in the U.S. of $85.0 million.
The results in 2017 reflected a gain on the Company's sale of its businesses in China and Hong Kong of $850 million, partly offset by $150 million of restructuring and impairment charges.
OPERATING INCOME
Operating income
Amount | Increase/(decrease) | Increase/(decrease) excluding currency translation | |||||||||||||||||||||
Dollars in millions | 2019 | 2018 | 2017 | 2019 | 2018 | 2019 | 2018 | ||||||||||||||||
U.S. | $ | 4,069 | $ | 4,016 | $ | 4,023 | 1 | % | 0 | % | 1 | % | 0 | % | |||||||||
International Operated Markets | 4,789 | 4,643 | 4,173 | 3 | 11 | 8 | 9 | ||||||||||||||||
International Developmental Licensed Markets & Corporate | 212 | 164 | 1,357 | 29 | (88 | ) | 59 | (86 | ) | ||||||||||||||
Total | $ | 9,070 | $ | 8,823 | $ | 9,553 | 3 | % | (8 | %) | 6 | % | (8 | %) | |||||||||
• | Operating Income: Results for 2019 included $74 million of net impairment and strategic charges. Results for 2018 included $140 million of impairment charges and $94 million of strategic restructuring charges. Results for 2017 included a gain on the Company's sale of its businesses in China and Hong Kong of $850 million, partly offset by $150 million of restructuring and impairment charges. Excluding these current year and prior year items, operating income increased 1% (4% in constant currencies) for 2019 and increased 2% (2% in constant currencies) for 2018. |
• | U.S.: Excluding the 2018 strategic restructuring charge of $85 million, operating income decreased 1% for 2019 and increased 2% for 2018. 2019 results reflected lower gains on sales of restaurant businesses, partly offset by higher franchised margin dollars. 2018 results reflected higher franchised margin dollars and lower G&A costs, partly offset by lower Company-operated margin dollars. |
• | International Operated Markets: In 2019 and 2018, the constant currency operating income increase was primarily due to sales-driven improvements in franchised margin dollars. 2018 results also reflected higher gains on sales of restaurant businesses in the U.K. and Australia compared to 2017. |
• | Operating margin: Operating margin was 43.0% in 2019, 42.0% in 2018 and 41.9% in 2017. Excluding the impact of the current and prior year impairment and strategic charges, as well as the 2017 refranchising gain, operating margin was 43.4%, 43.1% and 38.8% for the years ended 2019, 2018 and 2017, respectively. |
INTEREST EXPENSE
Interest expense increased 14% (16% in constant currencies) and 7% (6% in constant currencies) in 2019 and 2018, respectively. Both periods reflected higher average debt balances. Interest expense in 2019 also reflected the impact of interest incurred on certain Euro denominated deposits due to the current interest rate environment, while 2018 results reflected lower average interest rates.
McDonald's Corporation 2019 Annual Report 15
NONOPERATING (INCOME) EXPENSE, NET
Nonoperating (income) expense, net
In millions | 2019 | 2018 | 2017 | |||||||||
Interest income | $ | (37 | ) | $ | (4 | ) | $ | (7 | ) | |||
Foreign currency and hedging activity | (48 | ) | 5 | 26 | ||||||||
Other expense | 15 | 25 | 39 | |||||||||
Total | $ | (70 | ) | $ | 26 | $ | 58 | |||||
Foreign currency and hedging activity includes net gains or losses on certain hedges that reduce the exposure to variability on certain intercompany foreign currency cash flow streams.
PROVISION FOR INCOME TAXES
In 2019, 2018 and 2017, the reported effective income tax rates were 24.9%, 24.2% and 39.4%, respectively.
The effective income tax rate for 2019 reflected $84 million of income tax benefit due to new regulations issued in the fourth quarter 2019 related to the Tax Act. Excluding the income tax benefit, the effective income tax rate was 25.9% for the year 2019.
The effective income tax rate for 2018 reflected the final 2018 adjustments to the provisional amounts recorded in 2017 under the Tax Act of $75 million net tax cost. Excluding the 2018 impact of the Tax Act and impairment charges, the effective income tax rate was 22.9% for the year 2018.
Excluding these current year and prior year items, the lower effective income tax rate for 2018 primarily reflected a benefit from a change in tax reserves as a result of global audit progression, as well as lower tax costs in 2018 related to ongoing taxes under the Tax Act.
Consolidated net deferred tax liabilities included tax assets, net of valuation allowance, of $5.3 billion in 2019 and $2.0 billion in 2018. Substantially all of the net tax assets are expected to be realized in the U.S. and other profitable markets.
RECENTLY ISSUED ACCOUNTING STANDARDS
Recently issued accounting standards are included on page 39 of this Form 10-K.
CASH FLOWS
The Company generates significant cash from its operations and has substantial credit availability and capacity to fund operating and discretionary spending such as capital expenditures, debt repayments, dividends and share repurchases.
Cash provided by operations totaled $8.1 billion in 2019, an increase of $1.1 billion or 17%. Free cash flow was $5.7 billion in 2019, an increase of $1.5 billion or 36%. The Company’s free cash flow conversion rate was 95% in 2019 and 71% in 2018 (see reconciliation in Exhibit 12). Cash provided by operations increased in 2019 compared to 2018 primarily due to a decrease in accounts receivable and lower income tax payments. In 2018, cash provided by operations totaled $7.0 billion, an increase of $1.4 billion or 25% compared with 2017, primarily due to lower tax payments.
Cash used for investing activities totaled $3.1 billion in 2019, an increase of $616 million compared with 2018. The increase was primarily due to the Company’s strategic acquisitions of a real estate entity, Dynamic Yield and Apprente, partly offset by lower capital expenditures. Cash used for investing activities totaled $2.5 billion in 2018, an increase of $3.0 billion compared with 2017. The increase was primarily due to lower proceeds from the sale of restaurant businesses in 2018 including the comparison to the proceeds received in 2017 associated with the sale of the Company's businesses in China and Hong Kong, as well as higher capital expenditures.
Cash used for financing activities totaled $5.0 billion in 2019, a decrease of $955 million compared with 2018, primarily due to net debt activity. Cash used for financing activities totaled $5.9 billion in 2018, an increase of $639 million compared with 2017, primarily due to higher treasury stock purchases.
The Company’s cash and equivalents balance was $899 million and $866 million at year end 2019 and 2018, respectively. In addition to cash and equivalents on hand and cash provided by operations, the Company can meet short-term funding needs through its continued access to commercial paper borrowings and line of credit agreements.
RESTAURANT DEVELOPMENT AND CAPITAL EXPENDITURES
In 2019, the Company opened 1,231 restaurants and closed 391 restaurants. In 2018, the Company opened 1,081 restaurants and closed 467 restaurants.
Systemwide restaurants at year end
2019 | 2018 | 2017 | ||||||
U.S. | 13,846 | 13,914 | 14,036 | |||||
International Operated Markets | 10,465 | 10,263 | 10,098 | |||||
International Developmental Licensed Markets & Corporate | 14,384 | 13,678 | 13,107 | |||||
Total | 38,695 | 37,855 | 37,241 | |||||
Approximately 93% of the restaurants at year-end 2019 were franchised, including 95% in the U.S., 84% in International Operated Markets and 98% in the International Developmental Licensed Markets.
Capital expenditures decreased $348 million or 13% in 2019 primarily due to lower reinvestment in existing restaurants, partly offset by an increase in new restaurant openings that required the Company's capital. Capital expenditures increased $888 million or 48% in 2018, primarily due to reinvestment in existing restaurants (including investment in EOTF).
McDonald's Corporation 2019 Annual Report 16
Capital expenditures
In millions | 2019 | 2018 | 2017 | ||||||||
New restaurants | $ | 605 | $ | 488 | $ | 537 | |||||
Existing restaurants | 1,702 | 2,111 | 1,236 | ||||||||
Other(1) | 87 | 143 | 81 | ||||||||
Total capital expenditures | $ | 2,394 | $ | 2,742 | $ | 1,854 | |||||
Total assets | $ | 47,511 | $ | 32,811 | $ | 33,804 | |||||
(1) | Primarily corporate equipment and other office-related expenditures |
New restaurant investments in all years were concentrated in markets with strong returns and/or opportunities for long-term growth. Average development costs vary widely by market depending on the types of restaurants built and the real estate and construction costs within each market. These costs, which include land, buildings and equipment, are managed through the use of optimally-sized restaurants, construction and design efficiencies, as well as leveraging the Company's global sourcing network and best practices. Although the Company is not responsible for all costs for every restaurant opened, total development costs for new traditional McDonald’s restaurants in the U.S. averaged approximately $4.0 million in 2019.
The Company owned approximately 55% and 50% of the land for restaurants in its consolidated markets at year-end 2019 and 2018, respectively, and approximately 80% of the buildings for restaurants in its consolidated markets at year-end 2019 and 2018.
SHARE REPURCHASES AND DIVIDENDS
In 2019, the Company returned approximately $8.6 billion to shareholders through a combination of shares repurchased and dividends paid, marking the achievement of the Company's targeted return of $25 billion for the three-year period ended 2019.
Shares repurchased and dividends
In millions, except per share data | 2019 | 2018 | 2017 | ||||||||
Number of shares repurchased | 25.0 | 32.2 | 31.4 | ||||||||
Shares outstanding at year end | 746 | 767 | 794 | ||||||||
Dividends declared per share | $ | 4.73 | $ | 4.19 | $ | 3.83 | |||||
Treasury stock purchases (in Shareholders' equity) | $ | 4,980 | $ | 5,247 | $ | 4,651 | |||||
Dividends paid | 3,582 | 3,256 | 3,089 | ||||||||
Total returned to shareholders | $ | 8,562 | $ | 8,503 | $ | 7,740 | |||||
In July 2017, the Company's Board of Directors authorized the purchase of up to $15 billion of the Company's outstanding stock, with no specified expiration date. In 2019, approximately 25.0 million shares were repurchased for $5.0 billion, bringing total purchases under the program to approximately 74.5 million shares or $12.9 billion. In December 2019, the Company's Board of Directors terminated the 2017 program and replaced it with a new share repurchase program, effective January 1, 2020, that authorized the purchase of up to $15 billion of the Company's outstanding common stock with no specified expiration date.
The Company has paid dividends on its common stock for 44 consecutive years and has increased the dividend amount every year. The 2019 full year dividend of $4.73 per share reflects the quarterly dividend paid for each of the first three quarters of $1.16 per share, with an increase to $1.25 per share paid in the fourth quarter. This 8% increase in the quarterly dividend equates to a $5.00 per share annual dividend and reflects the Company’s confidence in the ongoing strength and reliability of its cash flow. As in the past, future dividend amounts will be considered after reviewing profitability expectations and financing needs, and will be declared at the discretion of the Company’s Board of Directors.
FINANCIAL POSITION AND CAPITAL RESOURCES
TOTAL ASSETS
Total assets increased $14.7 billion or 45% in 2019, primarily due to the addition of the Lease Right-of-Use Asset, Net, which was recorded upon adoption of ASC 842 effective January 1, 2019. Refer to the Lease Accounting section under Recent Accounting Pronouncements on page 39 for additional information on ASC 842. Net property and equipment increased $1.3 billion in 2019, primarily due to capital expenditures, partly offset by depreciation. Net property and equipment and the Lease Right-of-Use Asset, Net represented over 50% and approximately 30%, respectively, of total assets at year-end. Approximately 93% of total assets were in the U.S. and International Operated Markets at year-end 2019.
FINANCING AND MARKET RISK
The Company generally borrows on a long-term basis and is exposed to the impact of interest rate changes and foreign currency fluctuations. Debt obligations at December 31, 2019 totaled $34.2 billion, compared with $31.1 billion at December 31, 2018. The net increase in 2019 was primarily due to net long-term issuances of $2.5 billion.
McDonald's Corporation 2019 Annual Report 17
Debt highlights(1)
2019 | 2018 | 2017 | ||||||
Fixed-rate debt as a percent of total debt(2,3) | 92 | % | 91 | % | 89 | % | ||
Weighted-average annual interest rate of total debt(3) | 3.2 | 3.2 | 3.3 | |||||
Foreign currency-denominated debt as a percent of total debt(2) | 38 | 38 | 42 | |||||
Total debt as a percent of total capitalization (total debt and total Shareholders' equity)(2) | 131 | 125 | 112 | |||||
Cash provided by operations as a percent of total debt(2) | 24 | 22 | 19 | |||||
(1) | All percentages are as of December 31, except for the weighted-average annual interest rate, which is for the year. See reconciliation in Exhibit 12. |
(2) | Based on debt obligations before the effects of fair value hedging adjustments and deferred debt costs. These effects are excluded as they have no impact on the obligation at maturity. See Debt Financing note to the consolidated financial statements. |
(3) | Includes the effect of interest rate swaps used to hedge debt. |
Standard & Poor’s and Moody’s currently rate, with a stable outlook, the Company’s commercial paper A-2 and P-2, respectively; and its long-term debt BBB+ and Baa1, respectively. To access the debt capital markets, the Company relies on credit-rating agencies to assign short-term and long-term credit ratings.
Certain of the Company’s debt obligations contain cross-acceleration provisions and restrictions on Company and subsidiary mortgages and the long-term debt of certain subsidiaries. There are no provisions in the Company’s debt obligations that would accelerate repayment of debt as a result of a change in credit ratings or a material adverse change in the Company’s business. In October 2016, the Company's Board of Directors authorized the borrowing of up to $15.0 billion of funds, of which $1.9 billion remained outstanding as of December 31, 2019. In December 2019, the Company's Board of Directors terminated the 2016 borrowing authority and authorized a new $15 billion of borrowing capacity with no specified expiration date. These borrowings may include (i) public or private offering of debt securities; (ii) direct borrowing from banks or other financial institutions; and (iii) other forms of indebtedness. In addition to debt securities available through a medium-term notes program registered with the SEC and a Global Medium-Term Notes program, the Company has $3.5 billion available under a committed line of credit agreement as well as authority to issue commercial paper in the U.S. and global markets (see Debt Financing note to the consolidated financial statements). In 2020, the Company plans to issue long-term debt to refinance $2.4 billion of maturing corporate debt. As of December 31, 2019, the Company's subsidiaries also had $242 million of borrowings outstanding, primarily under uncommitted foreign currency line of credit agreements.
The Company uses major capital markets, bank financings and derivatives to meet its financing requirements. The Company manages its debt portfolio in response to changes in interest rates and foreign currency rates by periodically retiring, redeeming and repurchasing debt, terminating swaps and using derivatives. The Company does not hold or issue derivatives for trading purposes. All swaps are over-the-counter instruments.
In managing the impact of interest rate changes and foreign currency fluctuations, the Company uses interest rate swaps and finances in the currencies in which assets are denominated. The Company uses foreign currency debt and derivatives to hedge the foreign currency risk associated with certain royalties, intercompany financings and long-term investments in foreign subsidiaries and affiliates. This reduces the impact of fluctuating foreign currencies on cash flows and shareholders’ equity. Total foreign currency-denominated debt was $12.9 billion and $11.8 billion for the years ended December 31, 2019 and 2018, respectively. In addition, where practical, the Company’s restaurants purchase goods and services in local currencies resulting in natural hedges. See the Summary of significant accounting policies note to the consolidated financial statements related to financial instruments and hedging activities for additional information regarding the accounting impact and use of derivatives.
The Company does not have significant exposure to any individual counterparty and has master agreements that contain netting arrangements. Certain of these agreements also require each party to post collateral if credit ratings fall below, or aggregate exposures exceed, certain contractual limits. At December 31, 2019, the Company was required to post an immaterial amount of collateral due to negative fair value of certain derivative positions. The Company's counterparties were not required to post collateral on any derivative position, other than on hedges of certain of the Company’s supplemental benefit plan liabilities where the counterparties were required to post collateral on their liability positions.
The Company’s net asset exposure is diversified among a broad basket of currencies. The Company’s largest net asset exposures (defined as foreign currency assets less foreign currency liabilities) at year end were as follows:
Foreign currency net asset exposures
In millions of U.S. Dollars | 2019 | 2018 | |||||
British Pounds Sterling | $ | 811 | $ | 1,840 | |||
Canadian Dollars | 699 | 684 | |||||
Russian Ruble | 577 | 631 | |||||
Australian Dollars | 560 | 1,499 | |||||
Polish Zloty | 396 | 340 | |||||
McDonald's Corporation 2019 Annual Report 18
The Company prepared sensitivity analyses of its financial instruments to determine the impact of hypothetical changes in interest rates and foreign currency exchange rates on the Company’s results of operations, cash flows and the fair value of its financial instruments. The interest rate analysis assumed a one percentage point adverse change in interest rates on all financial instruments, but did not consider the effects of the reduced level of economic activity that could exist in such an environment. The foreign currency rate analysis assumed that each foreign currency rate would change by 10% in the same direction relative to the U.S. Dollar on all financial instruments; however, the analysis did not include the potential impact on revenues, local currency prices or the effect of fluctuating currencies on the Company’s anticipated foreign currency royalties and other payments received from the markets. Based on the results of these analyses of the Company’s financial instruments, neither a one percentage point adverse change in interest rates from 2019 levels nor a 10% adverse change in foreign currency rates from 2019 levels would materially affect the Company’s results of operations, cash flows or the fair value of its financial instruments.
LIQUIDITY
The Company has significant operations outside the U.S. where we earn approximately 65% of our operating income. A significant portion of these historical earnings have been reinvested in foreign jurisdictions where the Company has made, and will continue to make, substantial investments to support the ongoing development and growth of our international operations.
The Company's cash and equivalents held by our foreign subsidiaries totaled approximately $425 million as of December 31, 2019.
Consistent with prior years, we expect existing domestic cash and equivalents, domestic cash flows from operations, issuance of domestic debt, and repatriation of a portion of foreign earnings to continue to be sufficient to fund our domestic operating, investing, and financing activities. We also continue to expect existing foreign cash and equivalents and foreign cash flows from operations to be sufficient to fund our foreign operating, investing and financing activities.
In the future, should we require more capital to fund activities in the U.S. than is generated by our domestic operations and is available through the issuance of domestic debt, we could elect to repatriate a greater portion of future periods' earnings from foreign jurisdictions.
CONTRACTUAL OBLIGATIONS AND COMMITMENTS
The Company has long-term contractual obligations primarily in the form of lease obligations (related to both Company-operated and franchised restaurants) and debt obligations. In addition, the Company has long-term revenue and cash flow streams that relate to its franchise arrangements. Minimum rent under franchise arrangements are based on the Company’s underlying investment in owned sites and parallel the Company’s underlying lease obligations and escalations on properties that are leased. The Company believes that control over the real estate enables it to achieve restaurant performance levels that are amongst the highest in the industry. Cash provided by operations (including cash provided by these franchise arrangements) along with the Company’s borrowing capacity and other sources of cash will be used to satisfy the obligations. The following table summarizes the Company’s contractual obligations and their aggregate maturities as well as future minimum rent payments due to the Company under existing franchise arrangements as of December 31, 2019.
Contractual cash outflows | Contractual cash inflows | |||||||||||||
In millions | Operating leases (1) | Debt obligations (2) | Minimum rent under franchise arrangements | |||||||||||
2020 | $ | 1,147 | $ | 59 | $ | 3,008 | ||||||||
2021 | 1,096 | 2,132 | 2,884 | |||||||||||
2022 | 1,014 | 2,250 | 2,750 | |||||||||||
2023 | 933 | 6,007 | 2,631 | |||||||||||
2024 | 854 | 2,819 | 2,541 | |||||||||||
Thereafter | 7,090 | 21,038 | 20,510 | |||||||||||
Total | $ | 12,134 | $ | 34,305 | $ | 34,324 | ||||||||
(1) | For sites that have lease escalations tied to an index, future minimum payments reflect the current index adjustments through December 31, 2019. In addition, future minimum payments exclude option periods that have not yet been exercised. |
(2) | The maturities include reclassifications of short-term obligations to long-term obligations of $3.5 billion, as they are supported by a long-term line of credit agreement expiring in December 2023. Debt obligations do not include the impact of non-cash fair value hedging adjustments, deferred debt costs and accrued interest. |
In the U.S., the Company maintains certain supplemental benefit plans that allow participants to (i) make tax-deferred contributions and (ii) receive Company-provided allocations that cannot be made under the qualified benefit plans because of Internal Revenue Service ("IRS") limitations. At December 31, 2019, total liabilities for the supplemental plans were $435 million.
At December 31, 2019, total liabilities for gross unrecognized tax benefits were $1.4 billion.
There are certain purchase commitments that are not recognized in the consolidated financial statements and are primarily related to construction, inventory, energy, marketing and other service related arrangements that occur in the normal course of business. Such commitments are generally shorter term in nature, will be funded from operating cash flows, and are not significant to the Company’s overall financial position.
The Company also has guaranteed certain other loans totaling approximately $75 million at December 31, 2019. These guarantees are contingent commitments generally issued by the Company to support borrowing arrangements of the System. At December 31, 2019, there was no carrying value for obligations under these guarantees in the Consolidated Balance Sheet.
McDonald's Corporation 2019 Annual Report 19
OTHER MATTERS
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Management’s Discussion and Analysis of Financial Condition and Results of Operations is based upon the Company’s consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the U.S. The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses as well as related disclosures. On an ongoing basis, the Company evaluates its estimates and judgments based on historical experience and various other factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates.
The Company reviews its financial reporting and disclosure practices and accounting policies quarterly to confirm that they provide accurate and transparent information relative to the current economic and business environment. The Company believes that of its significant accounting policies, the following involve a higher degree of judgment and/or complexity:
• | Property and equipment |
Property and equipment are depreciated or amortized on a straight-line basis over their useful lives based on management’s estimates of the period over which the assets will generate revenue (not to exceed lease term plus options for leased property). The useful lives are estimated based on historical experience with similar assets, taking into account anticipated technological or other changes. The Company periodically reviews these lives relative to physical factors, economic factors and industry trends. If there are changes in the planned use of property and equipment, or if technological changes occur more rapidly than anticipated, the useful lives assigned to these assets may need to be shortened, resulting in the accelerated recognition of depreciation and amortization expense or write-offs in future periods.
• | Leasing Arrangements |
The Company is the lessee in a significant real estate portfolio, primarily through ground leases (the Company leases the land and generally owns the building) and through improved leases (the Company leases the land and buildings). The Right of Use Asset and Lease Liability reflect the present value of the Company’s estimated future minimum lease payments over the lease term, which includes options that are reasonably assured of being exercised, discounted using a collateralized incremental borrowing rate.
Typically, renewal options are considered reasonably assured of being exercised if the associated asset lives of the building or leasehold improvements exceed that of the initial lease term, and the sales performance of the restaurant remains strong. Therefore, the Right of Use Asset and Lease Liability include an assumption on renewal options that have not yet been exercised by the Company.
As the rate implicit in each lease is not readily determinable, the Company uses an incremental borrowing rate to calculate the lease liability that represents an estimate of the interest rate the Company would incur to borrow on a collateralized basis over the term of a lease within a particular currency environment.
• | Share-based compensation |
The Company has a share-based compensation plan which authorizes the granting of various equity-based incentives including stock options and restricted stock units ("RSUs") to employees and nonemployee directors. The expense for these equity-based incentives is based on their fair value at date of grant and generally amortized over their vesting period. The Company estimates forfeitures when determining the amount of compensation costs to be recognized in each period.
The fair value of each stock option granted is estimated on the date of grant using a closed-form pricing model. The pricing model requires assumptions, which impact the assumed fair value, including the expected life of the stock option, the risk-free interest rate, expected volatility of the Company’s stock over the expected life and the expected dividend yield. The Company uses historical data to determine these assumptions and if these assumptions change significantly for future grants, share-based compensation expense will fluctuate in future years. The fair value of each RSU granted is equal to the market price of the Company’s stock at date of grant, and prior to 2018 included a reduction for the present value of expected dividends over the vesting period. For performance-based RSUs, the Company includes a relative Total Shareholder Return ("TSR") modifier to determine the number of shares earned at the end of the performance period. The fair value of performance-based RSUs that include the TSR modifier is determined using a Monte Carlo valuation model.
• | Long-lived assets impairment review |
Long-lived assets (including goodwill) are reviewed for impairment annually in the fourth quarter and whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. In assessing the recoverability of the Company’s long-lived assets, the Company considers changes in economic conditions and makes assumptions regarding estimated future cash flows and other factors. Estimates of future cash flows are highly subjective judgments based on the Company’s experience and knowledge of its operations. These estimates can be significantly impacted by many factors including changes in global and local business and economic conditions, operating costs, inflation, competition, and consumer and demographic trends. A key assumption impacting estimated future cash flows is the estimated change in comparable sales. If the Company’s estimates or underlying assumptions change in the future, the Company may be required to record impairment charges. Based on the annual goodwill impairment test, conducted in the fourth quarter, the Company does not have any reporting units (defined as each individual market) with risk of material goodwill impairment.
• | Litigation accruals |
In the ordinary course of business, the Company is subject to proceedings, lawsuits and other claims primarily related to competitors, customers, employees, franchisees, government agencies, intellectual property, shareholders and suppliers. The Company is required to assess the likelihood of any adverse judgments or outcomes to these matters as well as potential ranges of probable losses. A determination of the amount of accrual required, if any, for these contingencies is made after careful analysis of each matter. The required accrual may change in the future due to new developments in a particular matter or changes in approach such as a change in settlement strategy in dealing with these matters. The Company does not believe that any such matter currently being reviewed will have a material adverse effect on its financial condition or results of operations.
McDonald's Corporation 2019 Annual Report 20
• | Income taxes |
The Company records a valuation allowance to reduce its deferred tax assets if it is considered more likely than not that some portion or all of the deferred tax assets will not be realized. While the Company has considered future taxable income and ongoing prudent and feasible tax strategies, including the sale of appreciated assets, in assessing the need for the valuation allowance, if these estimates and assumptions change in the future, the Company may be required to adjust its valuation allowance. This could result in a charge to, or an increase in, income in the period such determination is made.
The Company operates within multiple taxing jurisdictions and is subject to audit in these jurisdictions. The Company records accruals for the estimated outcomes of these audits, and the accruals may change in the future due to new developments in each matter. The most significant new developments in 2019 and 2018 are described below.
In 2019 and 2018, the Company increased the balance of unrecognized tax benefits by $96 million and $162 million, respectively. In both 2019 and 2018, there was audit progression in the U.S. federal and state audits, as well as multiple foreign tax jurisdictions. The Company has considered this new information in evaluating the unrecognized tax benefits and in certain situations, the Company changed its judgment on the measurement of the related unrecognized tax benefits. These changes have been reflected in the Unrecognized Tax Benefits table that is included in the Income Taxes footnote on page 50.
In 2015, the Internal Revenue Service (“IRS”) issued a Revenue Agent Report (“RAR”) that included certain disagreed transfer pricing adjustments related to the Company’s U.S. Federal income tax returns for 2009 and 2010. Also in 2015, the Company filed a protest with the IRS related to these disagreed transfer pricing matters. During 2017, the Company received a response to its protest. In December 2018, the Company met with the IRS Appeals team and during 2019, the Company and the IRS Appeals team continued to have a dialogue regarding these disagreed transfer pricing matters. As of December 31, 2019, the Company does not yet have a signed closing agreement with the IRS related to the settlement of these issues. The Company expects resolution on these issues in 2020.
In 2017, the IRS completed its examination of the Company’s U.S. Federal income tax returns for 2011 and 2012. In 2018, the IRS issued a RAR for these years. As expected, the RAR included the same disagreed transfer pricing matters as the 2009 and 2010 RAR. Also in 2018, the Company filed a protest with the IRS related to these disagreed transfer pricing matters. The transfer pricing matters for 2011 and 2012 are being addressed along with the 2009 and 2010 transfer pricing matters as part of the 2009-2010 appeals process, such that resolution is expected in 2020.
While the Company cannot predict the ultimate resolution of the aforementioned tax matters, we believe that the liabilities recorded are appropriate and adequate as determined in accordance with Topic 740 - Income Taxes of the ASC.
The Tax Act was enacted in the U.S. on December 22, 2017. The Tax Act reduced the U.S. federal corporate income tax rate to 21% from 35% and required companies to pay a one-time transition tax on earnings of certain foreign subsidiaries that were previously tax deferred. In 2017, the Company recorded provisional amounts for certain enactment-date effects of the Tax Act by applying the guidance in Staff Accounting Bulletin ("SAB") 118. In 2018, the Company recorded adjustments to the provisional amounts and completed its accounting for all of the enactment-date income tax effects of the Tax Act.
SAB 118 measurement period
At December 31, 2017, the Company had not completed its accounting for all of the enactment-date income tax effects of the Tax Act under ASC 740, Income Taxes, primarily for the following aspects: remeasurement of deferred tax assets and liabilities, one-time transition tax, and its accounting position related to indefinite reinvestment of unremitted foreign earnings.
One-time transition tax: The one-time transition tax is based on the Company's total post-1986 earnings and profits ("E&P"), the tax on which it previously deferred from U.S. income taxes under U.S. law. The Company recorded a provisional amount for its one-time transition tax liability for each of its foreign subsidiaries, resulting in a transition tax liability of approximately $1.2 billion at December 31, 2017.
Upon further analysis of the Tax Act and notices and regulations issued and proposed by the IRS and the U.S. Department of the Treasury, the Company finalized its calculations of the transition tax liability during 2018 and increased its December 31, 2017 provisional amount by approximately $75 million. The Company has elected to pay its transition tax over the eight-year period provided in the Tax Act.
Deferred tax assets and liabilities: As of December 31, 2017, the Company remeasured certain deferred tax assets and liabilities based on the rates at which they were expected to reverse in the future (generally 21%), by recording a provisional amount of approximately $500 million. No adjustment to the provisional amount was made in 2018.
EFFECTS OF CHANGING PRICES—INFLATION
The Company has demonstrated an ability to manage inflationary cost increases effectively. This ability is because of rapid inventory turnover, the ability to adjust menu prices, cost controls and substantial property holdings, many of which are at fixed costs and partly financed by debt made less expensive by inflation.
McDonald's Corporation 2019 Annual Report 21
Other Key Information |
SELECTED FINANCIAL DATA
5-Year Summary | Years ended December 31, | ||||||||||||||||||
In millions, except per share and unit amounts | 2019 | 2018 | 2017 | 2016 | 2015 | ||||||||||||||
Consolidated Statement of Income Data | |||||||||||||||||||
Revenues | |||||||||||||||||||
Sales by Company-operated restaurants | $ | 9,421 | $ | 10,013 | $ | 12,719 | $ | 15,295 | $ | 16,488 | |||||||||
Revenues from franchised restaurants | 11,656 | 11,012 | 10,101 | 9,327 | 8,925 | ||||||||||||||
Total revenues | 21,077 | 21,025 | 22,820 | 24,622 | 25,413 | ||||||||||||||
Operating income | |||||||||||||||||||