Yum: China sales setbacks to intensify in 2013

Officials for Louisville, Ky.-based Yum! Brands Inc. told investors that sales would likely continue to plummet in its China division, leading to a projected decrease in annual earnings per share for 2013 —  the first such loss in more than a decade.

Same-store sales in Yum’s system of more than 5,400 restaurants in China fell 6 percent in the fourth quarter, a result the company previously forecasted and acknowledges is the result of negative publicity surrounding an investigation of Yum’s chicken supply by Chinese officials. The inquiry happened after a mid-December broadcast by China’s national TV station of a report that several poultry farmers, including some that sold chicken to two of Yum China’s suppliers, gave an excessive amount of antibiotics to their flocks.

Yum expects the setback in China to intensify in January and February and lead to a projected 25-percent decline in first-quarter same-store sales for the division.

Yet despite the prolonged sales challenge expected this year — same-store sales are not projected to be positive until the fourth quarter of 2013 — Yum China’s annual target for unit growth remains unchanged, and the company plans to build through the crisis as it did during previous scares for avian flu or SARS.

“No two crises are the same, and we don’t know how long it will take us to recover,” chief executive David Novak said. “However, we expect to weather this storm and come out stronger. Let me be very clear: We will stay the course in China. We will continue to grow the business with leading brands in every significant category.”

For the Dec. 29, 2012-ended fourth quarter, Yum’s net income decreased 5 percent to $337 million, or 72 cents per share, compared with $356 million, or 75 cents per share, a year earlier.

Fourth-quarter revenue increased 1 percent to $4.15 billion, reflecting the 6-percent decline in same-store sales in China, offset by gains of 3 percent in both Yum! Restaurants International, or YRI, and the United States. The company’s three brands had mixed results in the United States, with gains of 5 percent at Taco Bell and 4 percent at KFC offsetting a 1-percent decline at Pizza Hut.

Yum’s full-year net income for 2012 grew 21 percent to $1.6 billion, or $3.38 per share, compared with $1.32 billion, or $2.74 per share, in fiscal 2011.

Full-year revenue rose 8 percent to $13.63 billion, on the strength of record international unit development and same-store sales growth of 4 percent in China, 3 percent in YRI, 5 percent in the U.S. and 5 percent in India. The company opened nearly 2,000 restaurants around the world in 2012, including 889 units in China, 949 in YRI and 138 in India.

The China syndrome

Yum is predicting an annual decrease in same-store sales in China in the mid-single-digits for 2013, but officials said the decision to build another 900 locations there this year would lay the groundwork for renewed same-store sales growth in 2014 and beyond. Novak said the company was confident that could be achieved because Yum has picked itself back up after previous crises.

“We’ve faced SARS, avian flu and Sudan Red, and in every case we’ve bounced back,” he said. In 2005, he added, when Yum’s China sales were plummeting as much as 40 percent from panic over avian flu and the “Sudan Red” dye found to be carcinogenic, the company stayed the course and kept building new units. In 2006, Yum’s system sales in China rebounded 28 percent, and profits grew 47 percent.

The company and its suppliers are working with officials in China to strengthen its quality assurance standards beyond regulators’ suggested guidelines, Novak said, and a new ad campaign will take that message to the Chinese public. The campaign would cover everything from TV and social media to tray liners, he said, but Yum China likely would not increase its overall marketing spending this year.

More than its marketing clout, time is what Yum needs to turn things around in China, he added. “I don’t think there’s any marketing we can do today that is going to change what’s going on right now, because we do need the gift of time,” he said. “One of the things we do have with KFC is a big budget. Last year we opened up 900 more restaurants, so we lots of media and all the capability we need to continue to build the brand the right way, and we will do that.”

U.S., YRI to lead for a change

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Though the China division drove more than 40 percent of the company’s profit last year but would drag results this year, Yum officials said it expected the United States and YRI to contribute to operating profit growth as they have in the company’s long-term model for the past several years.

“I am optimistic that YRI will have a strong 2013,” said Yum’s president, Rick Carucci. “It should benefit from strong development momentum, from reaching scale in some key markets and from some improvements in our ownership portfolio.”

YRI’s goal is to open 950 locations in 2013, much of it in emerging markets, Carucci added. He pointed to Russia and Africa as prime examples of developing markets with potential.

Germany and France are two other targets for Yum where the economies certainly have developed, but Yum is underpenetrated, with only 150 KFCs in France and 100 in Germany, he said. Carucci added that Germany now has enough scale to advertise nationally on TV, a move that produced a 10-percent sales lift in France a few years ago.

Recent moves to divest the Pizza Hut business to franchisees in the United Kingdom and to acquire the 100-unit franchisee in Turkey’s operations should improve YRI’s overall returns, Carucci said.

He also was optimistic for continued strengthening of sales in the United States. In fiscal 2012, the U.S. division’s full-year same-store sales increase of 5 percent comprised gains of 8 percent at Taco Bell, 3 percent at Pizza Hut and 3 percent at KFC.

“While the [U.S.] economy is not robust, it is strong enough [for us] to control our own destiny,” Carucci said. “We believe the U.S. is set up for success in 2013 because Taco Bell has momentum, new units are now working in our favor, and we have meaningful innovation planned at all three of our brands.”

In 2012, Taco Bell sold 325 million units of its Doritos Locos Tacos that debuted last March, he noted, and the Cantina Bell line of products boosted customer’s perceptions of Taco Bell.

“What’s important is that our 2012 Taco Bell successes should pay dividends again in 2013,” Carucci said. “Cool Ranch Doritos Locos Tacos will be introduced in March, and Cantina Bell innovation is also coming. All of this will be backed with solid operations and more media weight.”

Taco Bell is shifting all advertising paid for by franchisee contributions to a marketing fund to national TV ads, Carucci said, and the brand will target new-unit growth in more rural areas with a smaller store prototype and a rural-development incentive for franchisees. Pizza Hut had similar success opening about 150 new stores in 2012 thanks to its “Del-Co Light” store design, and the brand is aiming for a similar number of openings in 2013.

Yum operates or franchises more than 39,000 restaurants in more than 120 countries and territories.

Contact Mark Brandau at [email protected].
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