Okay, I'll admit - when I saw the title of this thread I thought I knew how it was going to go. So I apologise for pre-judging!
I went to a few Macca's birthday parties as a kid. They were pretty sad affairs, but the one you describe sound really terrible - your poor DS! Upon thinking back to my own experiences, yes, they were pretty bad - I remember my parents throwing a Macca's party for my brother when he was little (before McDonald's restaurants introduced those conference/party rooms separate from the rest of the restaurant) and we were crammed down the back near the toilets, taking up about 8 tables, then for the games of duck-duck-goose, the teen 'host' took us across the drive-thru to a tiny patch of grass in the carpark (YES, you read right!) as there simply was nowhere else to sit. Back in those days, we also got the 'tour' of McDonald's and took turns sitting in the freezer amongst boxes of burger patties et al - I imagine those days are thing of the past lol, we got to walk right past the chip fryers and see staff squirting ketchup onto buns - good times! (*cough* sarcasm lol...)

But yeah. They didn't do me a great deal of harm as a child, but I'd probably be inclined to decline an invite to one if my kids were invited to them. I can appreciate that parents can't find suitable locations to throw a party for their child (I'm spoiled for choice here, a massive fenced yard in suburbia and plenty of nearby public places like the marina, botanic gardens etc that are easily accessible), and/or may not want to bother with all the mess and hassle that comes with organising a birthday party... I'm not strongly opposed to the ethical practices or the quality of food at fast food joint parties but as others have said, they just don't seem to be the most enjoyable parties for kids or parents, and that's not even taking into account the crud food, the environmental/ethical concerns regarding excessive waste/packaging/plastic junk toys and all the rest.

Like I said, I'm lucky to have the circumstances that allow me to have parties at home (the kids are so small right now that it's usually strictly family, maybe a couple of friends with their kids but yeah, not like the whole daycare class is invited or anything... yet!), so I can't say whether I would be offended or not if a parent declined an invite should I ever throw a McD's or HJ's party. To be honest, I probably *would* be offended for a minute, and assume that the parent in question is just one of those snotty so-and-so's who thinks they're better than all the other parents for being 'above' junk food, junk toys and 'lazy' parenting, but I'd get over it pretty quickly and think of all the reasons that have been discussed here so far and decide it's not something I should take personally.

Umm... well that was long-winded lol! Long story short - no, I wouldn't be offended if I invited your child to a fast-food birthday party and you declined. I can understand why. I would probably *want* to decline an invite for my child to attend such a party, but I'd probably give in and take them so that they don't get upset about 'everyone else is going'... but I can't say for sure whether that would happen anyway, the situation hasn't arisen yet and my girls are too small to even know there's a party on unless they attend lol
It's a tricky one, for sure, but you have to do what works for you and your family. If that means running the risk of offending someone, then I guess that's life! A reasonable person (I would hope) would have a think and come to the same conclusions we have, and get over any 'insult', and if they don't, then that's their loss