McDonaldโs Corporation is an American operator and franchisor of fast food restaurants represented worldwide and the biggest fast food company in the world.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
OR
Commission File Number 1-5231
MCDONALD’S CORPORATION
(Exact Name of Registrant as Specified in Its Charter)
(State or Other Jurisdiction of
Incorporation or Organization)
(I.R.S. Employer
Identification No.)
McDonald’s Plaza
Oak Brook, Illinois
Registrant’s Telephone Number, including Area Code: (630) 623-3000
Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report.
Indicate by check ü 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 þ No ¨
Indicate by check ü whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
1,259,408,088
(Number of shares of common stock
outstanding as of March 31, 2004)
McDONALD’S CORPORATION
INDEX
Condensed consolidated balance sheet, March 31, 2004 (unaudited) and December 31, 2003
Condensed consolidated statement of income (unaudited), first quarters ended March 31, 2004 and 2003
Condensed consolidated statement of cash flows (unaudited), first quarters ended March 31, 2004 and 2003
Notes to condensed consolidated financial statements (unaudited)
Equity Securities
(a) Exhibits
The exhibits listed in the accompanying Exhibit Index are filed as part of this report
(b) Reports on Form 8-K
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PART I – FINANCIAL INFORMATION
CONDENSED CONSOLIDATED BALANCE SHEET
(unaudited)
March 31,
2004
December 31,
2003
Assets
Current assets
Cash and equivalents
Accounts and notes receivable
Inventories, at cost, not in excess of market
Prepaid expenses and other current assets
Total current assets
Other assets
Investments in and advances to affiliates
Goodwill, net
Miscellaneous
Total other assets
Property and equipment
Property and equipment, at cost
Accumulated depreciation and amortization
Net property and equipment
Total assets
Liabilities and shareholders’ equity
Current liabilities
Accounts payable
Income taxes
Other taxes
Accrued interest
Accrued restructuring and restaurant closing costs
Accrued payroll and other liabilities
Current maturities of long-term debt
Total current liabilities
Long-term debt
Other long-term liabilities and minority interests
Deferred income taxes
Shareholders’ equity
Preferred stock, no par value; authorized – 165.0 million shares; issued – none
Common stock, $.01 par value; authorized – 3.5 billion shares; issued – 1,660.6 million
Additional paid-in capital
Unearned ESOP compensation
Retained earnings
Accumulated other comprehensive income (loss)
Common stock in treasury, at cost; 401.2 and 398.7 million shares
Total shareholders’ equity
Total liabilities and shareholders’ equity
See notes to condensed consolidated financial statements.
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CONDENSED CONSOLIDATED STATEMENT OF INCOME (UNAUDITED)
Quarters ended
March 31
In millions, except
per common share data
Revenues
Sales by Company-operated restaurants
Revenues from franchised and affiliated restaurants
Total revenues
Operating costs and expenses
Company-operated restaurant expenses
Franchised restaurants – occupancy expenses
Selling, general, and administrative expenses
Other operating (income) expense, net
Total operating costs and expenses
Operating income
Interest expense
Nonoperating expense, net
Income before provision for income taxes and cumulative effect of accounting change
Provision for income taxes
Income before cumulative effect of accounting change
Cumulative effect of accounting change, net of tax benefit of $9.4
Net income
Per common share:
Cumulative effect of accounting change
Per common share–diluted:
Weighted average shares
Weighted average shares–diluted
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CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS (UNAUDITED)
Operating activities
Adjustments to reconcile to cash provided by operations
Depreciation and amortization
Changes in working capital items
Other
Cash provided by operations
Investing activities
Property and equipment expenditures
Purchases and sales of restaurant businesses and sales of property
Cash used for investing activities
Financing activities
Notes payable and long-term financing issuances and repayments
Treasury stock purchases
Cash used for financing activities
Cash and equivalents increase
Cash and equivalents at beginning of period
Cash and equivalents at end of period
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
Basis of Presentation
The accompanying condensed consolidated financial statements should be read in conjunction with the consolidated financial statements contained in the Company’s December 31, 2003 Annual Report on Form 10-K. In the opinion of management, all adjustments (consisting of normal recurring accruals) necessary for a fair presentation have been included. The results for the quarter ended March 31, 2004 do not necessarily indicate the results that may be expected for the full year.
The results of operations of restaurant businesses purchased and sold were not material to the condensed consolidated financial statements for periods prior to purchase and sale.
Change in Accounting Standard
Effective January 1, 2003, the Company adopted SFAS No. 143, Accounting for Asset Retirement Obligations. The Statement requires legal obligations associated with the retirement of long-lived assets to be recognized at their fair value at the time the obligations are incurred. Upon initial recognition of a liability, the cost is capitalized as part of the related long-lived asset and allocated to expense over the useful life of the asset. In first quarter 2003, the Company recorded a noncash charge of $36.8 million after tax ($0.03 per diluted share) related to lease obligations in certain international markets to reflect the cumulative effect of this accounting change. There is not a material effect to the Company’s ongoing results of operations or financial position as a result of adopting SFAS No. 143.
Comprehensive Income
The following table presents the components of comprehensive income for the first quarters ended March 31, 2004 and 2003:
Other comprehensive income (loss):
Foreign currency translation adjustments
Deferred hedging adjustments
Total other comprehensive income (loss)
Total comprehensive income
Accrued Restructuring and Restaurant Closing Costs
In 2003 and 2002, the Company recorded special charges primarily related to the disposition of certain non-McDonald’s brands, restaurant closings, and restructuring markets and eliminating positions. During the first quarter ended March 31, 2004, the Company made cash payments of $14.0 million primarily related to lease obligations. The remaining balance of $101.7 million at March 31, 2004 primarily related to lease obligations and employee-related costs.
Per Common Share Information
Diluted net income per common share is calculated using net income divided by diluted weighted-average shares. Diluted weighted-average shares include weighted-average shares outstanding plus the dilutive effect of stock options, calculated using the treasury stock method, of 13.8 million shares and 0.7 million shares for the first quarter 2004 and 2003, respectively. Stock options that were not included in diluted weighted-average shares because they would have been antidilutive were 100.1 million shares and 208.1 million shares for the first quarter 2004 and 2003, respectively.
Stock-Based Compensation
The Company accounts for all stock-based compensation as prescribed by Accounting Principles Board Opinion No. 25. The Company discloses pro forma net income and net income per common share, as provided by Statement of Financial Accounting Standards (SFAS) No. 123, as amended by SFAS No. 148, Accounting for Stock-Based Compensation.
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The pro forma information was determined as if the Company had accounted for its employee stock options under the fair value method of SFAS No. 123. The fair value of these options was estimated at the date of grant using an option pricing model. The model was designed to estimate the fair value of exchange-traded options that, unlike employee stock options, can be traded at any time and are fully transferable. In addition, such models require the input of highly subjective assumptions including the expected volatility of the stock price. For pro forma disclosures, the options’ estimated fair value was amortized over their vesting period.
Pro forma disclosures
As reported – net income
Add: Total stock-based employee compensation included in reported net income, net of related tax effects
Deduct: Total stock-based employee compensation expense determined under fair value method for all rewards, net of related tax effects
Pro forma – net income
Net income per share:
As reported – basic
Pro forma – basic
As reported – diluted
Pro forma – diluted
Segment Information
The Company primarily operates and franchises McDonald’s restaurants in the food service industry. In addition, the Company operates certain non-McDonald’s brands that are not material to the Company’s overall results.
The following table presents the Company’s revenues and operating income by geographic segment. The APMEA segment represents McDonald’s restaurant operations in Asia/Pacific, the Middle East and Africa. The Other segment represents non-McDonald’s brands.
U.S.
Europe
APMEA
Latin America
Canada
Operating income (loss)
Corporate
Total operating income
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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
CONSOLIDATED OPERATING RESULTS
Dollars in millions, except
Quarter ended
March 31, 2004
% Increase/
(Decrease)
Other operating expense, net
n/m Not meaningful
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Net Income and Diluted Net Income Per Common Share
Income before the cumulative effect of accounting change increased $147.3 million or 40% and diluted income per common share before the cumulative effect of accounting change increased $0.11 or 38% for the quarter. Net income, including the cumulative effect of accounting change, increased $184.1 million or 56%, and diluted net income per common share increased $0.14 or 54%.
Diluted weighted average shares outstanding were higher for the quarter compared with the prior year due to a more dilutive effect from outstanding stock options, partly offset by share repurchases.
The Company repurchased $271 million of its common stock during the first quarter.
Cumulative Effect of Accounting Change
First quarter 2003 included a noncash charge of $36.8 million after tax ($0.03 per diluted share) for the cumulative effect of an accounting change that impacted lease obligations in certain international markets. See change in accounting standard on page 6 for further discussion of this charge.
Impact of Foreign Currencies on Reported Results
Management reviews and analyzes business results excluding the effect of foreign currency translation and bases certain compensation plans on these results because it believes they better represent the Company’s underlying business trends. Results excluding the effect of foreign currency translation (also referred to as constant currency) are calculated by translating current year results at prior year average exchange rates.
IMPACT OF FOREIGN CURRENCY TRANSLATION ON REPORTED RESULTS
Dollars in millions
Currency
translation benefit
(loss)
Quarters ended March 31,
Combined operating margins
Selling, general & administrative expenses
Income before cumulative effect of accounting change – per diluted common share
Foreign currency translation had a positive impact on the growth rates of consolidated revenues, operating income and earnings per share for the quarter, primarily due to the strengthening of the Euro, as well as several other major currencies.
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Revenues consist of sales by Company-operated restaurants and fees from restaurants operated by franchisees and affiliates. These fees primarily include rent, service fees and/or royalties that are based on a percent of sales, with specified minimum rent payments.
REVENUES
% Inc /
(Dec)
% Inc /(Dec)
Excluding
Translation
Company-operated sales:
Total
Franchised and affiliated revenues:
Total revenues:
Consolidated revenues increased 16% (8% in constant currencies) as comparable sales were positive for each month of the quarter. The quarter’s performance benefited from an extra day due to leap year.
In the U.S., ongoing menu, service and value initiatives drove the strong revenue increase for the quarter. These initiatives included McGriddles breakfast sandwiches, Premium Salads, Chicken McNuggets made with white meat, the Dollar Menu, popular Happy Meals, extended hours and a heightened focus on operations. Franchised and affiliated revenues increased at a higher rate than Company-operated sales due to a higher percentage of franchised restaurants in 2004 than 2003. U.S. sales remained strong in April and although more difficult sales comparisons lie ahead, we remain confident that our combination of initiatives will continue to deliver solid results.
In Europe, the increase in revenues was driven by positive comparable sales in most markets, especially Russia. In April, sales trends improved significantly compared with March, following the successful launch of the Salads Plus menu in the U.K., Germany and other key markets. While still early, initial results are encouraging, and this menu will be expanded into additional European markets in the coming months.
In APMEA, the increase in revenues was primarily due to strong performance in Australia driven by the ongoing popularity of its Salads Plus menu, and positive comparable sales in China, partly offset by negative comparable sales in South Korea and Taiwan.
In Latin America, revenues increased for the quarter due to expansion in Mexico as well as the effect of lapping the temporary closure of restaurants in Venezuela for a portion of first quarter 2003 due to a national strike.
10
Comparable sales are a key performance indicator used within the retail industry and are reviewed by management to assess business trends for McDonald’s restaurants. Increases or decreases in comparable sales represent the percent change in constant currency sales from the same period in the prior year for all Systemwide restaurants in operation at least thirteen months.
McDonald’s Restaurants
The following table presents Systemwide sales growth rates for the quarter. Systemwide sales include sales at all restaurants, whether operated by the Company, by franchisees or by affiliates. While sales by franchisees and affiliates 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 and affiliated revenues and are indicative of the financial health of our franchisee base.
% Inc
Operating Margins
COMPANY-OPERATED AND FRANCHISED RESTAURANT MARGINS –
McDONALD’S RESTAURANTS*
Company-operated
Franchised
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Combined operating margin dollars increased $252.5 million or 24% for the quarter (16% in constant currencies). The U.S. and Europe segments accounted for more than 80% of the combined margin dollars in both years.
In the U.S., the Company-operated margin percent increased for the quarter primarily due to positive comparable sales, partly offset by higher commodity costs. Commodity cost pressures are expected to continue, with the impact lessening in the fourth quarter.
In Europe, the Company-operated margin percent improvement in 2004 reflected better margin performance in Germany, France and Russia and weak performance in the U.K. as we continue to establish an appropriate value strategy.
In APMEA, a strong comparable sales performance in Australia primarily drove the Company-operated margin percent improvement for the quarter.
The consolidated franchised margin percent increased for the quarter primarily due to strong comparable sales in the U.S., partly offset by the impact of a higher proportion of sites leased by the Company.
The following table presents margin components as a percent of sales.
COMPANY-OPERATED COSTS AND MARGINS AS A
PERCENT OF SALES – McDONALD’S RESTAURANTS*
Food & paper
Payroll & employee benefits
Occupancy & other operating expenses
Total expenses
Company-operated margins
Selling, General & Administrative Expenses
Selling, general & administrative expenses increased 15% for the quarter (10% in constant currencies) primarily due to higher performance-based incentive compensation, primarily in the U.S. Selling, general & administrative expenses as a percent of revenues were 10.4% and as a percent of Systemwide sales were 3.9% for both years.
Other Operating (Income) Expense, Net
OTHER OPERATING (INCOME) EXPENSE, NET
Gains on sales of restaurant businesses
Equity in earnings of unconsolidated affiliates
Other expense
Equity in earnings of unconsolidated affiliates increased for the quarter primarily due to stronger performance in the U.S. and improved results from our Japanese affiliate.
Other expense for 2004 reflected higher losses on property retirements and dispositions.
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Operating Income
OPERATING INCOME
Consolidated operating income for the quarter increased due to higher combined operating margin dollars, partly offset by higher selling, general & administrative expenses and higher losses on property retirements and dispositions compared with 2003.
In the U.S., operating income increased for the quarter primarily due to higher combined operating margin dollars, partly offset by higher selling, general & administrative expenses.
In Europe, strong performances in Germany, France and Russia were partly offset by weak results in the U.K.
In APMEA, operating income increased primarily due to strong performance in Australia.
In Latin America, operating income declined primarily due to continuing difficult economic conditions in Brazil.
INTEREST, NONOPERATING EXPENSE AND INCOME TAXES
Interest expense decreased for the quarter due to lower average interest rates and debt levels, partly offset by stronger foreign currencies.
Nonoperating expense decreased for the quarter primarily due to losses on certain corporate investments in 2003.
The effective income tax rate was 32.5% for first quarter 2004 compared with 33.5% in 2003. The lower income tax rate in 2004 was primarily due to higher tax benefits in certain international markets.
CASH FLOWS AND FINANCIAL POSITION
Cash provided by operations totaled $865.1 million and exceeded capital expenditures by $684.8 million for the quarter. Cash provided by operations increased $313.0 million due to strong operating results, primarily in the U.S., and changes in working capital. Capital expenditures decreased $123.9 million or 41% for the quarter primarily due to lower restaurant openings in 2004, partly offset by stronger foreign currencies. As a result, the Company’s cash balance increased $476.8 million from December 31, 2003 to March 31, 2004. For the year, the Company expects capital expenditures to be $1.5 to $1.6 billion compared with $1.3 billion for 2003. See the following OUTLOOK section for the Company’s expectations regarding other uses of cash from operations in 2004.
Debt obligations at March 31, 2004 totaled $9,749.1 million compared with $9,730.5 million at December 31, 2003. The increase in 2004 is due to the impact of changes in exchange rates on foreign currency-denominated debt of $15.8 million and SFAS No. 133 noncash fair value adjustments of $14.4 million, partly offset by net repayments of $11.6 million.
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RESTAURANT INFORMATION
The following table presents restaurant information by ownership type.
Operated by franchisees
Operated by the Company
Operated by affiliates
Systemwide restaurants
OUTLOOK
The information provided below is as of the date of this report.
In 2004, McDonald’s expects to open about 550 traditional McDonald’s restaurants and 300 satellite restaurants and close about 300 traditional restaurants and 100 satellite restaurants.
FORWARD-LOOKING STATEMENTS
Certain forward-looking statements are included in this report. They use such words as “may,” “will,” “expect,” “believe,” “plan” and other similar terminology. These statements reflect management’s current expectations regarding future events and operating performance and speak only as of the date of this report. These forward-looking statements involve a number of risks and uncertainties. The following are some of the factors that could cause actual results to differ materially from those expressed in or underlying our forward-looking statements: effectiveness of operating initiatives; success in advertising and promotional efforts; changes in global and local business and economic conditions, including their impact on consumer confidence; fluctuations in currency exchange and interest rates; food, labor and other operating costs; political or economic instability in local markets, including the effects of war and terrorist activities; competition, including pricing and marketing initiatives and new product offerings by the Company’s competitors; consumer preferences or perceptions concerning the Company’s product offerings; spending patterns and demographic trends; availability of qualified restaurant personnel; severe weather conditions; existence of positive or negative publicity regarding the Company or its industry generally; effects of legal claims; cost and deployment of capital; changes in future effective tax rates; changes in governmental regulations; and changes in applicable accounting policies and practices. The foregoing list of important factors is not all-inclusive.
The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
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Item 3. Quantitative and Qualitative Disclosures About Market Risk
There were no material changes to the disclosure made in the Annual Report on Form 10-K for the year ended December 31, 2003 regarding this matter.
Item 4. Controls and Procedures
An evaluation was conducted under the supervision and with the participation of the Company’s management, including the Chief Executive Officer (CEO) and Chief Financial Officer (CFO), of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of March 31, 2004. Based on that evaluation, the CEO and CFO concluded that the Company’s disclosure controls and procedures were effective as of such date to ensure that information required to be disclosed in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms. Such officers also confirm that there was no change in the Company’s internal control over financial reporting during the quarter ended March 31, 2004 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
PART II – OTHER INFORMATION
Item 5. Market for Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities
The following table presents information related to repurchases of common stock the Company made during the three months ended March 31, 2004.
Issuer Purchases of Equity Securities
Total Number of
Shares Purchased
Average Price Paid
per Share
January 1-31, 2004
February 1-29, 2004
March 1-31, 2004
* In October 2001, the Company announced that its Board of Directors authorized a $5.0 billion share repurchase program with no specified expiration date. In accordance with the Company’s internal policy, the Company repurchases shares only during limited time frames in each month.
Item 6. Exhibits and Reports on Form 8-K
Exhibit Number
Description
(a)
15
16
* Denotes compensatory plan.
** Other instruments defining the rights of holders of long-term debt of the registrant and all of its subsidiaries for which consolidated financial statements are required to be filed and which are not required to be registered with the Commission, are not included herein as the securities authorized under these instruments, individually, do not exceed 10% of the total assets of the registrant and its subsidiaries on a consolidated basis. An agreement to furnish a copy of any such instruments to the Commission upon request has been filed with the Commission.
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The following reports on Form 8-K were filed during the last quarter covered by this report and subsequently through May 6, 2004.
Date of Report
Item Reported
Financial Statements
Required to be Filed
3/5/04
4/13/04
4/19/04
4/27/04
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
(Registrant)
Matthew H. Paull
Corporate Executive Vice President and Chief Financial Officer
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