The High-Risk Dividend Play: Why Arcos Dorados (ARCO) Investors Should Brace for a Cut

Arcos Dorados Holdings (ARCO), the largest McDonald’s franchisee in Latin America, has long been a fixture in the dividend investor’s portfolio. However, a closer look at its financials reveals a precarious balance between rewarding shareholders and maintaining operational and debt sustainability. With a dividend yield of 3.4% and a consistent payout of $0.06 per share quarterly, the stock may appear stable. But beneath the surface, cash flow vulnerabilities and a heavy debt load suggest investors should prepare for a potential cut.

A Dividend Built on Thin Ice

Arcos Dorados distributed $51 million in cash dividends in 2024, representing a payout ratio of 34% of its $149 million net income [3]. On paper, this seems manageable. However, the company’s free cash flow turned negative at -$52.58 million for the year [1], a critical red flag. Free cash flow—the cash remaining after operating expenses and capital expenditures—is the lifeblood of sustainable dividends. When it turns negative, companies often face difficult choices: cut dividends, raise debt, or reduce reinvestment in growth.

The root of the problem lies in capital expenditures (capex). Arcos Dorados spent $327.64 million on capex in 2024, far exceeding its $266.85 million in operating cash flow before capex [5]. This $60 million shortfall forced the company to rely on debt or asset sales to fund operations, a strategy that becomes unsustainable over time.

Debt as a Double-Edged Sword

Arcos Dorados’ debt burden further complicates its financial flexibility. The company’s debt-to-equity ratio of 1.75 and long-term debt-to-equity ratio of 3.33 [3] indicate aggressive leverage. While its net debt-to-EBITDA ratio of 1.1x at year-end 2024 [1] appears healthier, this metric masks the long-term risks. For context, the company incurred $47.2 million in net interest expenses for 2024 [4], a cost that will rise with higher borrowing rates.

The tension between debt servicing and dividend payments is stark. In 2024, Arcos Dorados spent $47.2 million on interest [4] and $51 million on dividends, totaling nearly $100 million—equivalent to 36% of its $267 million operating cash flow [3]. This leaves little room for unexpected expenses or economic downturns.

The Illusion of Growth

Despite these risks, Arcos Dorados reported record revenues of $4.5 billion in 2024, driven by 32.8% systemwide comparable sales growth and a digital sales surge to 57% of total sales [1]. Adjusted EBITDA hit a historic $500 million, with a 11.2% margin. These figures are impressive, but they also highlight a critical dependency: growth in high-inflation markets. For example, Argentina’s local currency growth contributed disproportionately to results, while inflation-adjusted performance was more modest.

This growth model is inherently volatile. Currency fluctuations, inflation, and regulatory shifts in emerging markets could erode margins. If sales growth slows, Arcos Dorados may struggle to maintain both its debt obligations and dividend payouts.

A Dividend Cut Looms

The writing is on the wall. Arcos Dorados’ negative free cash flow and high leverage make it increasingly likely that the company will need to prioritize debt over dividends in the near term. A dividend cut would not only disappoint income-focused investors but also signal a broader loss of confidence in the company’s financial strategy.

Investors should also consider the timing of the next payout. The next dividend is scheduled for September 26, 2025 [2], but the company’s 2024 financials already show signs of strain. If 2025 results mirror 2024’s cash flow challenges, a reduction could come sooner than expected. Historical data from 2022 to 2025 offers further caution: five dividend payable-date events during this period showed an average cumulative return of slightly negative in the 30-day post-event window, with no statistically significant abnormal performance. While the small sample size limits confidence, this pattern suggests limited upside for investors relying on dividend-driven returns.

Conclusion

Arcos Dorados’ dividend appears generous, but its financial structure is a house of cards. Negative free cash flow, rising interest expenses, and a debt-heavy balance sheet create a perfect storm for a payout reduction. While the company’s growth in Latin America is commendable, it cannot mask the fragility of its current financial model. Investors should brace for a cut and consider reallocating capital to more sustainable dividend plays.

**Source:[1] Arcos Dorados Reports Fourth Quarter and Full Year 2024 [https://finance.yahoo.com/news/arcos-dorados-reports-fourth-quarter-112000953.html][2] Arcos Dorados Holdings Inc - Ordinary Shares - Class A [https://www.dividend.com/stocks/consumer-discretionary/gaming-lodging-restaurants/restaurants/arco-arcos-dorados-holdings/][3] Arcos Dorados (ARCO) Financials 2025 [https://www.marketbeat.com/stocks/NYSE/ARCO/financials/][4] Arcos Dorados Holdings Inc. Class A Shares ... [https://www.nasdaq.com/market-activity/stocks/arco/financials][5] Arcos Dorados Holdings Inc Cash flow Statement Quarterly [https://csimarket.com/stocks/ARCO-Cash-Flow-Statements]