The following information is taken from the Year 2 10-K statement of McDonald’s Corporation.
The Company franchises and operates McDonald’s restaurants. Of the 32,478 restaurants in 117 countries at year-end Year 2, 26,216 were operated by franchisees [including 19,020 operated by conventional franchisees, 3,160 operated by developmental licensees, and 4,036 operated by foreign affiliated markets (affiliates)—primarily in Japan] and 6,262 were operated by the Company. Under our conventional franchise arrangement, franchisees provide a portion of the capital required by initially investing in the equipment, signs, seating and décor of their restaurant businesses, 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.
The Company’s revenues consist of sales by Company-operated restaurants and fees from franchised restaurants operated by conventional franchisees, developmental licensees and affiliates. Sales by Company-operated restaurants are recognized on a cash basis. The Company presents sales net of sales tax and other sales-related taxes. 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 affiliates and developmental licensees include a royalty based on a percent of sales, and may include initial fees. Continuing rent and royalties are recognized in the period earned. Initial fees are recognized upon opening of a restaurant or granting of a new franchise term, which is when the Company has performed substantially all initial services required by the franchise arrangement.

1. McDonald’s uses different critical events to recognize revenue for its different business activities. Identify the critical events and rank them from the most to the least conservative policy based on your judgment of the circumstances. For each source of revenue, does the chosen revenue recognition method satisfy both the critical event and the measurability criteria? If you don’t have enough information, discuss what additional information is needed to form a judgment on this issue.
2. McDonald’s believes that locally owned and operated restaurants help the Company maximize brand performance and are at the core of its competitive advantage, making McDonald’s not just a global brand but also a locally relevant one. To that end, for Year 1 and Year 2 combined, the Company refranchised (i.e., sold company-owned stores to franchisees) about 1,100 restaurants, increasing the percent of restaurants franchised worldwide to 81%. Briefly discuss the expected impacts of refranchising on McDonald’s financial statements.

  • CreatedSeptember 10, 2014
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