How Yum Brands Is Turning the Corner in China
To say that Yum Brands (NYSE: YUM) has had a tough first half of 2013 is a major understatement.
(If you’re not familiar with Yum’s corporate name, you’ve likely visited one of its restaurants: Yum operates over 39,000 outlets in 130 countries and territories under the Taco Bell, KFC and Pizza Hut banners.)
Heavy Reliance on Chinese KFC Outlets Clobbered Yum’s Sales
In late December, Chinese news broke that the Shanghai Food and Drug Administration was investigating the company after chicken from two of its suppliers was found to contain excessive levels of antibiotics.
The news triggered a 7.5% drop in the share price. That’s because problems in China affect Yum more than many other U.S. companies. In 2012, the country accounted for over half of Yum’s sales, and the company has a long history of operating in China: Yum was the first fast-food firm to set up shop there, when it opened a KFC outlet in Beijing in November 1987.
Not only is China its most important market, Yum is also heavily reliant on its KFC fried chicken restaurants there: it ended its latest quarter with 4,429 Chinese KFC outlets, compared to just 918 Pizza Hut casual dining restaurants and 171 Pizza Hut home service outlets. It also operates three Little Sheep hot pot restaurants.
The company responded quickly to the situation, stating that it would streamline its supply chain and rid itself of the mainly small producers who were not complying with China’s food-safety rules. Yum also continues to update its China sales on a monthly basis to keep investors informed of its progress there.
In January, Yum warned that the situation was having a worse-than-expected impact on its operations in the country, stating that it expected same-store sales in China to be down 6% in the fourth quarter from a year earlier. That was a bigger slowdown than its earlier prediction of a 4% decline, which was based on China’s already slowing economic growth.
On February 4, Yum reported that same-store sales did indeed fall 6% in China in the quarter, compared to a3% rise in the U.S. and a 3% gain in the rest of the world. KFC same-store sales plunged 8% in the quarter, compared to a 7% gain for the Pizza Hut casual dining outlets.
Battle-Hardened Yum Keeps on Rising
In April, just as Yum was getting ahead of the chicken-supplier situation, reports of a bird flu outbreak in the country emerged. In June, Yum reported that its May same-store sales in China were down 19% from a year earlier. Despite the drop, that marked an improvement from April, when same-store sales plunged 29%.
Notably, investors have stuck with the company throughout: despite its struggles, the stock is up 9.0% since the beginning of the year. That’s likely because the company has successfully dealt with similar situations in the past. As CEO David Novak pointed out in a March 11 CBS News article, this is not the company’s first avian flu scare: it weathered one in 2005 that cut its sales by as much as 40%.
The company also fought back against bad press in 2011, when a class-action lawsuit in the U.S. accused the Taco Bell chain of not using real beef in its products. Instead, the suit claimed, Taco Bell was using a mixture that contained only 36% beef, which was insufficient to meet the Department of Agriculture’s definition of beef.
Yum responded by spending nearly $4 million on an aggressive marketing campaign responding to the claim and asserting that its taco filling was, in fact, 88% beef. The lawsuit was later withdrawn.
Yum’s China Division Is Getting Up Off the Mat
The company reported its second-quarter results on Wednesday night. Understandably, investors were again focused on its progress in China.
During the quarter, Yum’s overall Chinese sales declined 12% from a year ago, excluding the impact of exchange rates. Same-store sales fell 20%. The disconnect between the KFC and Pizza Hut outlets was also apparent: KFC same-store sales declined 26%, compared to a 7% gain for Pizza Hut.
However, same-store sales for June alone continued to show improvement, dropping 10%, up from the previously mentioned 19% in May and 29% in April.
“KFC sales and profits in China were significantly impacted by intense media surrounding avian flu, as well as the residual effect of the December poultry supply incident,” said Novak in the earnings release. “The good news is that China sales are recovering as expected. The extensive media surrounding avian flu in China has subsided, and same-store sales at KFC are clearly improving.”
Novak also said that the company remains on track to open at least 700 new restaurants in China this year. As well, Yum said it expects the China Division’s same-store sales to keep recovering through the course of the year and return to growth in the fourth quarter.
Overall, Yum’s net income declined to $281 million, or $0.61 a share, from $331 million, or $0.69, a year ago. Excluding one-time items, earnings dipped to $0.56 from $0.67. That was still ahead of the Street’s forecast of $0.54. However, Yum came up slightly short on the top line: revenue came in at $2.90 billion, down 8.3% from a year ago and short of the consensus estimate of $2.93 billion.
Yum’s sales gained 2% in the U.S. and 6% at the international division, which excludes China and India, while operating profits rose 4% and 12%, respectively.
Cashing in on Rising Chinese Incomes
A Chinese economic recovery would certainly give Yum’s recovery efforts a lift. The IMF recently cut its growth forecast for the country to 7.8% from 8.1% in 2013. Growth is expected to decline slightly, to 7.7%, in 2014, down from the IMF’s earlier prediction of 8.3%.
Even so, that rate represents considerable expansion. Consider that the Chinese government is aiming for 7.5% annual growth through 2020, compared to an average of 9.6% since 1979. That would still increase China’s average income from $9,100 to $15,000, according to IMF estimates quoted in a May 1 BBC News article. Yum’s growing presence in China puts it in a great position to capitalize on that trend.
(If you’re not familiar with Yum’s corporate name, you’ve likely visited one of its restaurants: Yum operates over 39,000 outlets in 130 countries and territories under the Taco Bell, KFC and Pizza Hut banners.)
Heavy Reliance on Chinese KFC Outlets Clobbered Yum’s Sales
In late December, Chinese news broke that the Shanghai Food and Drug Administration was investigating the company after chicken from two of its suppliers was found to contain excessive levels of antibiotics.
The news triggered a 7.5% drop in the share price. That’s because problems in China affect Yum more than many other U.S. companies. In 2012, the country accounted for over half of Yum’s sales, and the company has a long history of operating in China: Yum was the first fast-food firm to set up shop there, when it opened a KFC outlet in Beijing in November 1987.
Not only is China its most important market, Yum is also heavily reliant on its KFC fried chicken restaurants there: it ended its latest quarter with 4,429 Chinese KFC outlets, compared to just 918 Pizza Hut casual dining restaurants and 171 Pizza Hut home service outlets. It also operates three Little Sheep hot pot restaurants.
The company responded quickly to the situation, stating that it would streamline its supply chain and rid itself of the mainly small producers who were not complying with China’s food-safety rules. Yum also continues to update its China sales on a monthly basis to keep investors informed of its progress there.
In January, Yum warned that the situation was having a worse-than-expected impact on its operations in the country, stating that it expected same-store sales in China to be down 6% in the fourth quarter from a year earlier. That was a bigger slowdown than its earlier prediction of a 4% decline, which was based on China’s already slowing economic growth.
On February 4, Yum reported that same-store sales did indeed fall 6% in China in the quarter, compared to a3% rise in the U.S. and a 3% gain in the rest of the world. KFC same-store sales plunged 8% in the quarter, compared to a 7% gain for the Pizza Hut casual dining outlets.
Battle-Hardened Yum Keeps on Rising
In April, just as Yum was getting ahead of the chicken-supplier situation, reports of a bird flu outbreak in the country emerged. In June, Yum reported that its May same-store sales in China were down 19% from a year earlier. Despite the drop, that marked an improvement from April, when same-store sales plunged 29%.
Notably, investors have stuck with the company throughout: despite its struggles, the stock is up 9.0% since the beginning of the year. That’s likely because the company has successfully dealt with similar situations in the past. As CEO David Novak pointed out in a March 11 CBS News article, this is not the company’s first avian flu scare: it weathered one in 2005 that cut its sales by as much as 40%.
The company also fought back against bad press in 2011, when a class-action lawsuit in the U.S. accused the Taco Bell chain of not using real beef in its products. Instead, the suit claimed, Taco Bell was using a mixture that contained only 36% beef, which was insufficient to meet the Department of Agriculture’s definition of beef.
Yum responded by spending nearly $4 million on an aggressive marketing campaign responding to the claim and asserting that its taco filling was, in fact, 88% beef. The lawsuit was later withdrawn.
Yum’s China Division Is Getting Up Off the Mat
The company reported its second-quarter results on Wednesday night. Understandably, investors were again focused on its progress in China.
During the quarter, Yum’s overall Chinese sales declined 12% from a year ago, excluding the impact of exchange rates. Same-store sales fell 20%. The disconnect between the KFC and Pizza Hut outlets was also apparent: KFC same-store sales declined 26%, compared to a 7% gain for Pizza Hut.
However, same-store sales for June alone continued to show improvement, dropping 10%, up from the previously mentioned 19% in May and 29% in April.
“KFC sales and profits in China were significantly impacted by intense media surrounding avian flu, as well as the residual effect of the December poultry supply incident,” said Novak in the earnings release. “The good news is that China sales are recovering as expected. The extensive media surrounding avian flu in China has subsided, and same-store sales at KFC are clearly improving.”
Novak also said that the company remains on track to open at least 700 new restaurants in China this year. As well, Yum said it expects the China Division’s same-store sales to keep recovering through the course of the year and return to growth in the fourth quarter.
Overall, Yum’s net income declined to $281 million, or $0.61 a share, from $331 million, or $0.69, a year ago. Excluding one-time items, earnings dipped to $0.56 from $0.67. That was still ahead of the Street’s forecast of $0.54. However, Yum came up slightly short on the top line: revenue came in at $2.90 billion, down 8.3% from a year ago and short of the consensus estimate of $2.93 billion.
Yum’s sales gained 2% in the U.S. and 6% at the international division, which excludes China and India, while operating profits rose 4% and 12%, respectively.
Cashing in on Rising Chinese Incomes
A Chinese economic recovery would certainly give Yum’s recovery efforts a lift. The IMF recently cut its growth forecast for the country to 7.8% from 8.1% in 2013. Growth is expected to decline slightly, to 7.7%, in 2014, down from the IMF’s earlier prediction of 8.3%.
Even so, that rate represents considerable expansion. Consider that the Chinese government is aiming for 7.5% annual growth through 2020, compared to an average of 9.6% since 1979. That would still increase China’s average income from $9,100 to $15,000, according to IMF estimates quoted in a May 1 BBC News article. Yum’s growing presence in China puts it in a great position to capitalize on that trend.