McDonalds 2012 Annual Report Download - page 13

Management’s Discussion and Analysis of
Financial Condition and Results of Operations
Overview
DESCRIPTION OF THE BUSINESS
The Company franchises and operates McDonald’s restaurants.
Of the 34,480 restaurants in 119 countries at year-end 2012,
27,882 were franchised or licensed (including 19,869 franchised
to conventional franchisees, 4,350 licensed to developmental
licensees and 3,663 licensed to foreign affiliates (“affiliates”)—
primarily Japan) and 6,598 were operated by the Company.
Under our conventional franchise arrangement, franchisees pro-
vide a portion of the capital required by initially investing in the
equipment, signs, seating and décor of their restaurant business,
and by reinvesting in the business over time. The Company owns
the land and building or secures long-term leases for both
Company-operated and conventional franchised restaurant sites.
This maintains long-term occupancy rights, helps control related
costs and assists in alignment with franchisees. In certain
circumstances, the Company participates in reinvestment for
conventional franchised restaurants. Under our developmental
license arrangement, licensees provide capital for the entire
business, including the real estate interest, and the Company has
no capital invested. In addition, the Company has an equity
investment in a limited number of affiliates that invest in real
estate and operate or franchise restaurants within a market.
We view ourselves primarily as a franchisor and believe fran-
chising is important to delivering great, locally-relevant customer
experiences and driving profitability. However, directly operating
restaurants is paramount to being a credible franchisor and is
essential to providing Company personnel with restaurant oper-
ations experience. In our Company-operated restaurants, and in
collaboration with franchisees, we further develop and refine
operating standards, marketing concepts and product and pricing
strategies, so that only those that we believe are most beneficial
are introduced in the restaurants. We continually review, and as
appropriate adjust, our mix of Company-operated and franchised
or licensed (conventional franchised, developmental licensed and
foreign affiliated) restaurants to help optimize overall
performance.
The Company’s revenues consist of sales by Company-
operated restaurants and fees from restaurants operated by
franchisees. Revenues from conventional franchised restaurants
include rent and royalties based on a percent of sales along with
minimum rent payments, and initial fees. Revenues from restau-
rants licensed to affiliates and developmental licensees include a
royalty based on a percent of sales, and generally include initial
fees. Fees vary by type of site, amount of Company investment, if
any, and local business conditions. These fees, along with occu-
pancy and operating rights, are stipulated in franchise/license
agreements that generally have 20-year terms.
The business is managed as distinct geographic segments.
Significant reportable segments include the United States
(“U.S.”), Europe, and Asia/Pacific, Middle East and Africa
(“APMEA”). In addition, throughout this report we present “Other
Countries & Corporate” that includes operations in Canada and
Latin America, as well as Corporate activities. The U.S., Europe
and APMEA segments account for 32%, 39% and 23% of total
revenues, respectively. The United Kingdom (“U.K.”), France and
Germany, collectively, account for 51% of Europe’s revenues;
and China, Australia and Japan (a 50%-owned affiliate
accounted for under the equity method), collectively, account for
56% of APMEA’s revenues. These six markets along with the
U.S. and Canada are referred to as “major markets” throughout
this report and comprise 70% of total revenues.
In analyzing business trends, management considers a variety
of performance and financial measures, including comparable
sales and comparable guest count growth, Systemwide sales
growth and returns.
• Constant currency results exclude the effects of foreign cur-
rency translation and are calculated by translating current year
results at prior year average exchange rates. Management
reviews and analyzes business results in constant currencies
and bases certain incentive compensation plans on these
results because we believe this better represents the Compa-
ny’s underlying business trends.
• Comparable sales and comparable guest counts are key per-
formance indicators used within the retail industry and are
indicative of acceptance of the Company’s initiatives as well as
local economic and consumer trends. Increases or decreases
in comparable sales and comparable guest counts represent
the percent change in sales and transactions, respectively,
from the same period in the prior year for all restaurants,
whether operated by the Company or 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. Comparable sales are driven by changes
in guest counts and average check, which is affected by
changes in pricing and product mix. Generally, the goal is to
achieve a balanced contribution from both guest counts and
average check.
McDonald’s reports on a calendar basis and therefore the
comparability of the same month, quarter and year with the
corresponding period of the prior year will be impacted by the
mix of days. The number of weekdays and weekend days in a
given timeframe can have a positive or negative impact on
comparable sales and guest counts. The Company refers to
these impacts as calendar shift/trading day adjustments. In
addition, the timing of holidays can impact comparable sales
and guest counts. These impacts vary geographically due to
consumer spending patterns and have the greatest effect on
monthly comparable sales and guest counts while the annual
impacts are typically minimal.
• Systemwide sales include sales at all restaurants. While fran-
chised sales are not recorded as revenues by the Company,
management believes the information is important in under-
standing 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.
• Return on incremental invested capital (“ROIIC”) is a measure
reviewed by management over one-year and three-year time
periods to evaluate the overall profitability of the business
units, the effectiveness of capital deployed and the future allo-
cation of capital. The return is calculated by dividing the
change in operating income plus depreciation and amortization
McDonald’s Corporation 2012 Annual Report 11