McDonald's Capital Structure Analysis

5 Pages   |   735 Words
Table of Contents
Introduction. 2
Types of Capital Structure. 2
Change in Working Capital 2
Analysis of Capital Structure from 2010-14. 2
Theoretical Explanation. 3
Recommendations. 3
References. 4

Introduction

The capital structure can be defined as the process through which organizations manage their operational as well as financial activities. Equity and debt are a part of the capital structure, and it can be analyzed by examining financial ratios of any organization (Ghosh, 2012). This report highlights main features of the capital structure of McDonalds from 2010-2014 and analyses it in terms of efficiency or inefficiency.

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Types of Capital Structure

The capital structure can either be debt based or equity based (Ghosh, 2012). In both of these categories, McDonalds has displayed an increase as compared to the industry average during the last few years. The debt to equity ratio of the organization is higher than various competitors which is not a positive attribute of any capital structure (Shahid, 2014).

Change in Working Capital

In 2014, the working capital of McDonalds decreased as compared to the last year due to changes in the following factors. The accounts receivable decreased and the accounts payable increased greatly. Other accrued liabilities also increased from 2013-2014. However, the average figures from the last years had not changed significantly. The total capital expenditure of McDonalds decreased slightly over the last few years (McDonalds, 2014). McDonalds works on the principle of the franchise owned business that makes it capital intensive to achieve the targets and benchmarks. The domestically owned franchises generate more profits and requires less capital and helps the company in maintaining its capital structure.

Analysis of Capital Structure from 2010-14

The debt to equity ratio analysis shows that although the company is in a stable and optimal position as compared to industry average but the capital expenditures need to be managed more efficiently. If the organization requires more funds and capital in the future, it should focus on increasing its earnings from a balance of foreign and domestic operational activities (Ghosh, 2012).
Based on the change in working capital, the debt/equity ratio, and other financial indicators, the following elements can be analyzed. The debt structure of McDonalds is heavily based on the long term rather than short term liabilities. For a strong capital structure, there must be a balance between debt and equity. In case of McDonalds, the long term debt of 2014 financial statements is 10 percent more than the equity. It shows that the capital structure is inclined more towards debt i.e. 57 percent debt and 43 percent equity sources (Shahid, 2014). It might be due to the franchise based capital system. However, to make long term progress and to compete with other brands in terms of financial position, a balance between the two categories of capital structure must be maintained (Danis, Rattl, & Whited, 2014).

Theoretical Explanation

The current capital structure of McDonalds has found to be imbalanced and not achieving its targets. It can be best explained by Modigliani and Miller’s capital structure theory who believe that the market value of any organization is determined by its use of assets and the reliance on methods it chooses to finance its investments (Patterson, 1995).

Recommendations

After analyzing heavy reliance on debt based capital structure, it can be said that debt increases risk and reduces the morale of stakeholders and investors. Therefore. Following recommendations can be made to the company.
  • The assets must be utilized more efficiently because improper utilization of company assets leads to low profitability and high operating costs.
  • The management should focus on maintaining a balanced capital structure. Reliance of debt must be reduced, and efforts must be made to enhance the weightage of equity in the capital structure.
  • Lastly, average collection period must also be increased because the lenient credit policies designed by McDonalds makes it lag behind the competitors and increases its reliance on debt.

References

Danis, A., Rattl, D. E., & Whited, T. M. (2014). Refinancing, profitability, and capital structure. Journal of Financial Economics, 114(3), 424-443.
Ghosh, A. (2012). Capital Structure and Firm Performance. USA: Transaction Publishers.
McDonalds. (2014). Annual Report. Illinois: McDonalds Corporation.
Patterson, C. S. (1995). In 1st (Ed.), The Cost of Capital: Theory and Estimation (p. 169). New York: Greenwood Publishing Group.
Shahid, M. (2014). Financial Exposure of McDonald’s Corp. Success as a Market Leader. International Journal of Accounting and Financial Reporting, 4(1), 338-356.

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