Management Accounting Project 2_D6 (Finalized).pdf

8/17/2019 Management Accounting Project 2_D6 (Finalized).pdf

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Section 1 – Company Background, Industry Overview and Competitor Analysis

1.1 Company Background

McDonald's Corporation is the world's largest chain of hamburger fast food restaurants.

A McDonald's restaurant is operated by either a franchisee, an affiliate or the corporation itself. The

corporation's revenues come from the rent, royalties and fees paid by the franchisees as well as sales in

company-operated restaurants.

McDonald's primarily sells hamburgers, cheeseburgers, chicken products, french fries, breakfast items, soft

drinks, shakes and desserts, serving more than 58 million customers daily.

1.2 Industry Overview

In order to have a clearer outlook of the industry and competitors, Porter’s Five Forces Model (Please refer to

Figure 1 in the Appendices) is adopted to analyze the fast food industry.

1.2.1 Competitive Rivalry within an Industry

To start with, the competitive rivalry within the fast food industry is high as the products offered by each

company are similar. Competition is ferocious as there are many firms in the industry and the customer

loyalty is low as customers are eager to try new products. McDonald's, however, manages to retain market

share by becoming a cost leader and offering differentiated products together with prominent marketing

efforts.

1.2.2 Threat of New Entrants

In general, the barrier of entry into the fast food industry is low as there are no government interventions on

introduction of a new fast food provider. Thus, it is very likely for companies to enter the industry. Indeed,

countless fast food companies offer burgers and fries around the globe. Yet McDonald’s has been the

dominant player with more than 32000 shops worldwide, obtaining much of the market share.

1.2.3 Bargaining Power of Suppliers

The bargaining power of suppliers is poor as raw materials such as beef and bread and other food are readily

available in many countries, and the supply of such materials can be considered as perfectly competitive,

where suppliers have not much power to alter the supply conditions.



1.2.4 Bargaining Power of Customers

The bargaining power of customers, on the other hand, is strong as there are many companies providing

similar products. Customers also tend to try new offerings, increasing the chance of turning away to

competitors. In response, large firms like McDonald’s regularly launch marketing campaigns to promote latest

products to attract customers back to make purchases.

1.2.5 Threat of Substitute Products

Since westerners are used to having burgers and sandwiches, there are few substitutes to burger and the

threat is low. The threat of substitutes is higher in Asia-Pacific region as there are caterers providing fast

Chinese or Japanese cuisines, such as Café de Coral and Yoshinoya. In response, McDonald’s has attempted to

capture customers by providing rice burgers, but it was not well-received.

1.3 Competitor Analysis

Out of the many fast food companies, Yum! Brands, Inc., a mother company of KFC, Pizza Hut and 3 other

brands, Burger King and MOS Burger were chosen. Yum! Brands, Inc. offers a wide range of fast food

worldwide while Burger King is comparable to McDonald’s in terms of nature of operations. MOS Burger,

originated in Japan, is an emergent company expanding in Asia.

1.3.1 Inventory Management

The low days’ of sales in inventory for companies except MOS Burger suggested that large fast food

companies like McDonald’s have already switched to Just-In-Time (JIT) inventory policy to reduce cost of

storage and maintenance on quality of food to the lowest.

1.3.2 Profitability Analysis

The sales revenue obtained recorded a drop for most companies in 2009 due to the recession brought by the

financial tsunami, but McDonald’s has recorded huge sales revenue, more than twice as much as Yum! Brands

Inc. and almost ten times of Burger King, maintaining high gross and operating margin. The return on assets

and equity are also appreciable while the huge return on equity by Yum! Brands, Inc. is actually due to the

equity deficit caused by a huge debt from Pepsi.

1.3.3 Cost Control





these marketing costs in the “selling, general & administrative expenses”2 item. The marketing strategy of

McDonald’s also addresses the challenges faced in these recent years concerning the intensive pressure from

external competitors, the rising concern over health from parents as well as the environmentally friendly issue.

This is expected that McDonald’s will continue to promote itself as the fast-food provider with qualitative

services and food. It will continue its involvement in environmental actions to address the concern, as well as

in the corporate responsibility by using “green” as the concept. No great changes are foreseen in the overall

marketing strategies of McDonald’s.

For the advertising costs, McDonald’s allocates its budget for its advertisements worldwide on TV, billboards,

newspaper etc. Despite the traditional displays, McDonald’s also exposes itself to the digital world by focusing

on the online advertising targeting at the younger generation. The advertising cost amounted to $611.5

million in 2005 and increased by 14.4% to $699.8 million in 2006. There was a smaller percentage increase of

2.64% in 2007. Although there records a decrease in advertising costs for McDonald’s in recent years, it is still

reasonable for McDonald’s to increase the promotion by intensive advertisements as a means to trigger sales

in the times of the economic recovery in order to trigger the need of McDonald’s food or to introduce

customers’ of McDonald’s new products. The forecast is made based on the optimistic view on the recovery of

the economy gradually.

It is likely for the advertising cost to increase on a steady rate to a similar level of 2007, before the major

sports events held, which were expected to bring certain fluctuation to the currency and thus the expenses

allocate (McDonald’s, 2007, 2008, 2009). Therefore, the advertising expense is expected to have a 3% growth

in 2010 to $670 million3

as the economic recovery is in the primary stage, with quite an uncertain prospect for

all industries. McDonald’s is expected to have a positive change in the advertising cost addressing the online

marketing and the consolidation of brand image in face of competitors, but not as much as the increase in

2006. Similarly, it is expected that an increase in the overall marketing expense can be observed in the year

2010, with the level of 4.12% increase to $2326 million, in the situation better off than 2007, but the progress

is not as obvious as that in 2006.

2 For the selling, general & administrative expense account, it only reflects the spending of McDonald’s marketing and related costs

on the company owned stores. All comparison and prediction are thus made based on the expenses for its stores owned.3 The estimated number is only based on the assumption of the trend of increasing expenses in relevant account.



2.2 Pricing Strategy

Flexible strategies are used by McDonald’s in accordance with different product promotion as well as the

economic situation. Product line and bundling are introduced in McDonald’s worldwide, providing limited

choices with few interchangeable options. Promotional pricing is often used, especially in Hong Kong,

introducing weekly promotion products or meals in a lower price to trigger sales. Penetration pricing is for

new product launching like the coffee of McCafe. Value pricing is special as it appears in times of economic

downturn to meet the demand of cheaper meals. As there are competitors offering more upscale dining

experience charging a higher price, and some traditional rivals competing in the market giving lower price

meals on an eroded margin, it is thus less likely for McDonald’s to have a huge change in the pricing strategy

for either increasing the price which shifts customers to competitors, or lower the price which may further

reduce the profit margin that is impossible to support the quality of goods and services delivered.

Section 3 – Sales Forecast

3.1 Sales

Revenues of McDonald’s consist of company-operated sales and revenues from franchised restaurants

including rent and royalties based on a percent of sales.

According to the consolidated operating income statement of the years 2007, 2008 and 2009, the sales of

company-operated restaurants remained relatively the same from 2007 to 2008 and fell by 7% from 2008 to

2009. The revenues from franchised restaurants rose by 13% from 2007 to 2008 and 5% from 2008 to 2009

( McDonald’s Corporation, 2009). It implies that some company-operated sales shifted to franchised sales in

the past two years due to the re-franchise strategy which led to a decrease in consolidated revenues because

the company could only receive a certain percentage of the franchised restaurants’ sales as income.

In recent years, McDonald’s has been putting much effort into re-imaging itself, improving services and

planning to aggressively open about 600 new restaurants in three years in China (McDonald’s Corporation,

2009), so it is expected that the sales of both the company-operated restaurants and franchised restaurants

will increase in 2010 due to a more optimistic economic outlook as well as the strategies mentioned above.



3.2 Cost of Goods Sold

On the other hand, the cost of goods sold will also be expected to increase because of inflation with the global

inflation rate of 3.7% in 2010 (“Proper role”, 2010). However, since McDonald’s adopts bulk purchases, the

impact of inflation may not be huge. The increase in sales volume will lead to a rise in total cost of goods sold

and the inflation will add a slight increase to it as well.

Section 4 – Inventory Management

In this part, we will look at the two major components of McDonald’s inventory, holding costs and inventory

costs.

What used to be the case was McDonald's would pre-cook a batch of hamburgers and let them sit under heat

lamps. So, raw materials like bread, beef, cheese and chicken were to be kept for as long as possible and

eventually discarded while they could no longer be sold. This incurs a fairly holding cost and ordering cost.

With new burger making technology, McDonald’s is capable of making burgers faster and thus the time

between placing an order and receiving it is shortened. Also, with the implementation of Just-In-Time system,

the finished products sitting in the inventory are greatly reduced. This ensures the company to properly

manage inventory effectively even in times of inflation without holding too much inventory. This also

facilitates rapid inventory turnover, better and responsive cost controls. In 2010, we can expect that the

inventory level will be more or less similar to the ones of previous years.

Section 5 – Capital Expenditure Analysis

5.1 Definition

Capital expenditure is the expenditure incurred for buying new assets or adding value to existing assets. The

assets are expected to be used for more than one period. It is probable that future economic benefits

associated with the assets will flow to the enterprise.

5.2 Assumptions





fixed cost – “Occupancy” expense as whole (including franchising occupancy cost), it has been reduced slightly

from 2007 to 2009 by 1.50%. “Selling, general and administrative expenses” decreases by 5.61% within these

3 years.

6.2 Cost Control

With the pressure of inflation and increasing production cost, McDonald’s corporation uses respective tactics

to control its costs. Through ownership of land and building or long-term lease of restaurant sites, despite

facing high inflation in rental costs, McDonald’s successfully controls its rental and occupancy expenses which

is a major component of fixed costs (McDonald’s Corporation, 2010). For “Payroll and employment benefits”,

it has been reduced significantly because McDonald’s has increased the proportion of franchised restaurant

worldwide. Due to a smaller proportion of corporate-owned restaurants, it reduces the manpower cost

needed. For “Food and paper” cost which constitutes cost of goods sold, McDonald’s maintains rapid

inventory turnover to ensure that there is no idle inventory which ties up cash or causes wastage of food

inventory. Therefore, it can keep the food cost lowered, even under the upward pressure brought by inflation.

6.3 Projected Cost Analysis

With the tactics used by McDonald’s as stated above, using the previous annual rates of change as reference,

it is anticipated that all four categories of costs will increase but at a decreasing rate.

Section 7 – Summary and Conclusions

As regard to the optimistic economic outlook and the constantly improving service, both company-operated

restaurants and franchised restaurants are believed to bring increased revenue and loyalties to McDonald’s.

With the view to enhance its competitiveness, it is predicted to see that there will be reasonable increased

budgets for advertising expenses as well. However, Due to the ongoing inflationary pressure, the commodity

as well as selling, general and administrative expenses are expected to increase for the year 2010, assuming

there will be no significant changes in the cost structure of McDonald’s.

Furthermore, along with the possibility of the expansion plan of further addition of restaurants, there will also

be an increasing capital expenditure involved in both opening up new restaurants as well as reinvesting in

existing restaurants. Despite so, it is believed that the extra costs and expenses can well be covered by the

increased revenues.



References

McDonald’s Corporation. (2006). 2006 Annual Report. Retrieved April 4, 2011 from McDonald’s Web Site:

http://www.aboutMcDonald's.com/mcd/investors.html.





McDonald’s Corporation. (2009). 2009 Annual Report. Retrieved March 7, 2011 from McDonald’s Web Site:


Proper role of the central bank. (2010). Retrieved March 31, 2011 from

http://www.thedailystar.net/newDesign/news-details.php?nid=164755



Appendices

Table 1: Days’ Sales in Inventory of McDonald’s and its competitors in 2009

McDonald’s Yum! Brands,

Inc.

Burger King MOS Burger

Days’ Sales in

Inventory(days)

3.04 5.96 0 33.37

Table 2: Sales Trend Analysis of McDonald’s and its competitors

Sales

Revenue

2009 2008 2007 2006 2005

McDonald’s

(million USD)

22745.0 23552.0 22787.0 20895.0 19117.0

Yum! Brands,Inc. (million

USD)

10836.0 11304.0 10435.0 9561.0 9349.0

Burger King

(million USD)

2537.4 2454.7 2233.7 2047.8 1940.3

MOS Burger

(thousand

JPY)

60641865 62301887 59890823 58216912 59345939

Table 3: Profitability of McDonald’s and its competitors in 2009

Profitability McDonald’s Yum! Brands, Inc. Burger King MOS Burger

Gross Margin 44.0% 31.0% 36.8% 45.2%

Operating Margin 30.1% 14.7% 13.4% 2.9%

Return on Assets 15.5% 15.7% 7.4% 1.3%

Return on Equity 33.2% 233.6% 22.0% 1.6%

Table 4: Manufacturing Cost to Non-manufacturing Cost Analysis of McDonald’s and its competitors in 2009

McDonald’s Yum! Brands, Inc. Burger King MOS Burger

Manufacturing

Cost as percentage

of sales

56.0% 69.0% 63.2% 54.8%

Non-

manufacturing

Cost as percentage

13.9% 16.4% 23.4% 42.3%



of sales

Manufacturing

Cost to Non-

manufacturing

Cost

402.9% 420.7% 270.1% 129.5%

Table 5: Definitions of Accounting Ratios (Profitability)

●

●

● , where

● , where

●

Table 6: Inventory at cost, not in excess of market

Year Inventory (million USD)

2006 149.0

2007 125.3

2008 111.5

2009 106.2





Cash flows from financing activities

Dividends paid (2369.63)

Cash to purchase treasury stock (2657.53)

Cash paid to retire long-term loans (711.12)

Net cash used in financing activities (5738.28)

Net increase in cash and cash equivalents 1197.95

Cash and cash equivalents as at January 1, 2010 1796.00

Cash and cash equivalents as at December 31, 2010 $2993.95

Table 9: Projected Income Statement

Assumptions for the Budgeted Income Statement 2010

All the figures in the Income Statement 2010 are forecasted using the figures of the fiscal year 2009 and 2008. Expenses

and sales are expected to increase largely when compared with the performance and operations in 2009 because of the

economic recovery, though not recovering to the level of 2008.

For the year ended

31st December 2010

For the year ended

31st December 2009

Revenue million USD million USD

Sales by Company-operated restaurants 16,282.44 15,458.5

Revenues from franchised restaurants 7,557.98 7,286.2

Total revenues 23840.42 22,744.7

OPERATING COSTS AND EXPENSES

Company-operated restaurant expenses

-Food & paper 5,367.51 5,178.0

-Payroll & employee benefits 4,119.86 3,965.6



-Occupancy & other operating expenses 3,682.26 3,507.6

Franchised restaurants-occupancy

expenses 1,362.62 1,301.7

Selling, general & administrative

expenses

2,326.23 2,234.2

Impairment and other charges (credits),

net 30.05 (61.1)

Other operating (income) expense, net (177.84) (222.3)

Total operating costs and expenses 16,656.69 15,903.7

Operating income 7,813.73 6,841.0

Interest expense-net of capitalized

interest of $12.0, $11.7 and $12.3 450.80 473.2

Non-operating (income) expense, net Gain on sale of investment

(15.95) (24.3)

Income before provision for income

taxes 6,748.88 6,487.0

Provision for income taxes 1,980.23 1,936.0

Net income 4,768.65 4,551.0

Earnings per common share-basic: 4.59 4.17

Earnings per common share-diluted: 4.52 4.11

Dividends declared per common share 2.26 2.05

Weighted-average shares outstanding-

basic 983.00 1,092.2

Weighted-average shares outstanding-

diluted 996.67 1,107.4



Table 10: Projected Balance Sheet

31st December 2010

(Budgeted)

31st December 2009

Assets million USD million USD

Current assets

Cash and equivalents 2994.0 1796.0

Accounts and notes receivable 1161.5 1060.4

Inventories, at cost, not in excess of

market

102.4 106.2

Prepaid expenses and other current

assets

510.5 453.7

Total current assets 4768.4 3416.3

Other assets

Investments in and advances to

affiliates

1278.3 1212.7

Goodwill 2555.1 2425.2

Miscellaneous 1801.3 1639.2

Total other assets 5634.7 5277.1

Property and equipment

Property and equipment, at cost 34482.4 33440.5

Accumulated depreciation and

amortization

(13014.2) (11909.0)

Net property and equipment 21468.2 21531.5

Total assets 31871.3 30224.9

Liabilities and Shareholders’ Equity

Current liabilities

Accounts payable 625.5 636.0

Income taxes 169.3 202.4

Other taxes 293.6 277.4

Accrued interest 221.7 195.8

Accrued payroll and other liabilities 1788.3 1659.0



Current maturities of long-term debt 17.3 18.1

Total current liabilities 3115.7 2988.7

Long-term debt 11401.8 10560.3

Other long-term liabilities 1464.8 1363.1

Deferred income taxes 1354.6 1278.9

Shareholders’ equity 14534.4 14033.9

Total liabilities and shareholders’

equity

31871.3 30224.9

Table 11: Projected Cash Budget

Cash Budget (in millions) December 31, 2010

Beginning cash balance $ 1796

Cash collections (W1) 25704.525

Total Cash Available 27500.525

Purchase of inventory (W2) (5436.9)

Operating expenses (W3) (10569.312)

Interest expenses (W4) (482.761)

Purchase of property and equipment (W5) (2127.789)

Purchase of restaurant business (W6) (151.528)



Long-term financing repayment (W7) (711.122)

Treasury stock purchases (W8) (2657.53)

Common stock dividends (W9) (2369.63)

Total Cash Payments (24506.572)

Ending cash balance 2993.953

W1: 1060.4+15458.5x1.05+7286.2x1.1-1060.4x1.07+406x0.98 = 25704.525

W2: 5178x1.05 = 5436.9

W3: (3965.6+3507.6+1301.7+2234.2) x0.96 = 10569.312

W4: 468.7x1.03 = 482.761

W5: 1952.1x1.09 = 2127.789

W6: 145.7x1.04 = 151.528

W7: 664.6x1.07 = 711.122

W8: 2797.4x0.95 = 2657.53

W9: 2235.5x1.06 = 2369.63



Diagrams / Tables

Fig. 1 Porter’s Five Forces Model

Fig. 2 Ansoff ’s Matrix



Percentage of Contribution of each member:

AU PO YU - 16.67% (2010239659)

CHAN SHING HO JOHNNY - 16.67% (2010007173)

CHAN WING YIN - 16.67% (2010067381)

CHAU HOW YING - 16.67% (2010011930)

KWAN TSZ FUNG - 16.67% (2010075429)

LEUNG CHIN CHING - 16.67% (2010002094)

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