) to 'A' from 'A+', and lowered its subordinated debt rating to 'A-' from 'A'. The ratings are removed from CreditWatch, where they had been placed Nov. 11, 2002, with negative implications. The short-term corporate credit and commercial paper ratings on McDonald's were affirmed at 'A-1'. Approximately $10.0 billion of debt was outstanding at Dec. 31, 2002. The outlook is negative.
The downgrade is based on McDonald's disappointing results in 2002, and Standard & Poor's opinion that management faces significant challenges in successfully implementing a number of important strategic changes that are designed to revitalize McDonald's worldwide business.
The company still possesses substantial strengths based on its worldwide leadership in the quick-service sector of the restaurant industry, and its overall business profile is considered to be above average. However, McDonald's financial performance has been hurt, as it has felt the brunt of inroads made by domestic competitors in terms of actual or perceived quality, service, and cleanliness. In addition, growth for the quick-service sector as a whole has slowed, while casual dining has seen better-than-average gains. Although many of the company's business issues are being addressed by new strategic initiatives set out in April 2003, Standard & Poor's does not believe that McDonald's will be able to regain its former stature for the foreseeable future.
Financially, credit measures have continued to be penalized by lackluster growth in the U.S. and by problems internationally. This, in combination with a history of aggressive share repurchases, has resulted in credit measures that tend to be somewhat below standard for the current rating. Furthermore, operating margins (31% at year-end 2002) and return on capital (13%) have been in a declining trend for a number of years. Aside from EBITDA covering interest at a slightly better margin, all other key credit measures deteriorated further in 2002.
Efforts to limit capital expenditures are viewed as a positive; but the freed-up cash flow is expected to be used for share repurchases (though likely to be less than in earlier years) and a higher cash dividend as well as for debt reduction ($300-$700 million in 2003). Therefore, credit measures are not likely to rebound substantially. Standard & Poor's anticipates that funds from operations as a percentage of total debt may only be in the low-20% area, versus the mid- to high-20% range of earlier years. Returns on capital may linger in the 14%-16% range, and EBITDA interest coverage may remain only near 5.0x.
Liquidity: In addition to $1.1 billion of unused bank lines available to some of its subsidiaries outside the U.S., the company maintains unused domestic bank facilities totaling $1.335 billion. This consists of a $500 million unsecured revolving facility due 2008 and $810 million of 364-day lines due in 2004. These facilities support the company's commercial paper program. McDonald's also has access to long-term debt financing via a $1.8 billion U.S. shelf registration and $700 million under a Euro medium-term note program.
The company continues to have excellent financial flexibility based on its demonstrated ability to access capital on a worldwide basis. Its liquidity is highlighted by its excellent access to the commercial paper market, its substantial bank lines, and its ability to draw down funds from shelf-registered securities. There are no significant debt maturities until 2005. The company continues to have excellent financial flexibility based on its demonstrated ability to access capital on a worldwide basis. Moreover, McDonald's has excellent access to the commercial paper market, and maintains substantial bank lines and the ability to draw down funds from shelf-registered securities. Certain of the company's debt obligations contain cross-acceleration provisions and restrictions on additional debt. However, there are no provisions that would accelerate repayment of debt as a result of a ratings change.
Outlook: Standard & Poor's expects McDonald's will remain a dominant operator in the quick-service sector of the restaurant industry, but management will continue to be challenged to fortify the company against lackluster growth and competitive inroads. Financially, earnings growth is expected to hold at a moderate rate, as the company tries to implement changes to improve business performance. This, in combination with less emphasis on capital expenditures, should eventually help to stabilize credit measures. However, until McDonald's is able to demonstrate this success, the outlook is negative. From Standard & Poor's RatingsDirect