Yum 2Q profit falls 15%

As expected, a 20-percent decrease in same-store sales in its China division weighed down second-quarter results for Yum! Brands Inc., as KFC continues to suffer the effect of negative publicity in China stemming from questions of the quality of that nation’s poultry supply.

Chief executive David Novak stressed menu development and value strategies as a roadmap to recovery in China during Yum’s earnings call, but his statement also could apply to the company’s U.S. and international divisions, which partially offset a steep decline in China’s second-quarter profit.

“If you innovate, provide everyday value, and operate the business well with good service, you can win,” he said. “We think it’s a winning proposition over the long term.”

Yet in the near term, Yum’s second-quarter net income fell 15 percent to $281 million, or 61 cents per share, compared with $331 million, or 69 cents per share, a year earlier.

For the June 15-ended quarter, Yum’s revenue fell 8 percent to $2.9 billion. The China division’s steep drop in same-store sales offset gains of 1 percent in both Yum Restaurants International and the United States, and a 2-percent increase in the India division.

No ‘overly dramatic’ moves in China

While KFC, Yum’s largest chain in China by far, has struggled in China this year, Yum executives were optimistic that same-store sales in the division would continue to improve sequentially and eventually turn positive by the end of the year. In June, the division’s same-store sales decrease narrowed to 10 percent, from 19 percent in May.

KFC’s same-store sales fell 13 percent in June, offset by a 6-percent increase at Pizza Hut Casual Dining. The chicken chain has run a quality assurance advertising campaign since April and is promoting a value offering around chicken wings this summer, but no major price increases are planned this year, chief financial officer Patrick Grismer said.

“Our No. 1 goal at KFC is to regain the traffic we’ve lost, and we’re confident we can do that based on the trends we’ve seen to date,” Grismer said. “The situation is different at Pizza Hut, where we’ve taken some pricing this year consistent with the growth model for the business.”

In fact, no step-change initiatives are on the docket for KFC China, Novak said, aside from the 700 unit openings Yum already had projected for 2013. “We never go after recovery at any cost; we have a business to run,” he said. “We’re basically running the business the way it ought to be run so that we’re relevant on a continual basis. We’re not doing anything overly dramatic.”

Pizza Hut Casual Dining’s 7-percent growth in same-store sales for the second quarter gave Yum officials confidence in the chain’s growth projections and the potential for China’s economy outside of the chicken supply issues that have hurt KFC.

“The biggest thing we see going on is the consuming class continues to grow,” Novak said. “It’s 300 million people today and on pace to be 600 million by 2020, and you also see disposable income growing as well. The economy itself is growing by 7 percent, which is still the fastest in the world. These all bode well for brands that are consumer-oriented.”

He added that the country’s rapid urbanization and infrastructure expansion — including, for example, the building of several dozen airports in the country — would provide growth opportunities over the long term.

Aside from KFC China’s on-schedule recovery, Novak said, providing everyday value and innovative menu items across Yum’s system in China would be most important to the segment’s return to outsize sales and profit growth. “Pizza Hut is great evidence of this,” he said. “If you have innovation and value, you can have very strong same-store sales growth and open new units profitably, move into lower-tier cities, and expand aggressively, despite all the headwinds in the market.”

U.S., YRI produce steady results

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Yum expects 2013 to be the second consecutive year of net new-unit growth in the United States and a record year for openings in Yum Restaurants International, president Rick Carucci said.

The domestic system’s 1-percent same-store sales gain comprised a 2-percent increase at Taco Bell — which lapped the year-earlier quarter’s 13-percent gain, powered by the introduction of Doritos Locos Tacos — and a 3-percent rise at KFC, offset by a 2-percent decline at Pizza Hut.

Pizza Hut’s “del-co light” prototype would allow for renewed unit growth, Carucci noted, but Taco Bell would be the greatest contributor to the U.S. division’s fortunes, as franchisees remain enthusiastic about the “Live Más” marketing campaign and the Doritos Locos Tacos and Cantina Bell menu platforms.

“If you look at the entire U.S. QSR landscape, you could argue that Taco Bell has done the most in the past 18 to 24 months to improve its competitive position,” he said. “We sold 100 million Doritos Locos Tacos during the second quarter, and this continues to be one of the most successful new-product launches in history.”

The taco’s Cool Ranch flavor debuted during the second quarter, lapping March 2012’s introduction of the Nacho flavor. A third flavor, Flamas, is in the works and possibly could move its introduction up into late 2013.

“It’s pretty nice when you have products that no one will ever have but us,” Novak said. “Every time we market [Doritos Locos], whether we have product news or not, we’re advertising something only we have.”

Yum credited the new Original Recipe Boneless item with KFC’s sales growth and cited a lack of compelling value messaging for Pizza Hut’s soft sales. “In this environment, you win by delivering consistent and compelling value messages, and our competitors have won in this area so far this year,” Carucci said. “We expect better sales growth at Pizza Hut in the balance of this year.”

As for YRI, the idea of balance across established and emerging markets had Yum bullish about the international division’s prospects for the near and long terms, he added. YRI grew its unit count by 8 percent and same-store sales by 5 percent in emerging markets in the second quarter, compared with a 1-percent gain in units and 1-percent decline in same-store sales in developed markets.

“This franchise revenue stream is large, growing, global and diversified,” Carucci said, noting that franchise fees and royalties will reach nearly $1 billion in YRI in 2013.

Last year, YRI opened a record 949 new restaurants and plans to accelerate that pace this year to at least 1,000 openings. The growth would skew toward emerging markets, such as Russia, South Africa, Turkey and Thailand, where Yum is planning to operate more company-owned restaurants.

Louisville, Ky.-based Yum operates or franchises more than 39,000 locations of KFC, Pizza Hut and Taco Bell in more than 120 countries.

Contact Mark Brandau at [email protected].
Follow him on Twitter: @Mark_from_NRN