Yum: China sales recovery unlikely in 2013

Officials for Yum! Brands Inc. said the third quarter’s “disappointing” results worsened the company’s full-year outlook and would make a recovery to positive same-store sales in China highly unlikely by the fourth quarter.

Despite the ongoing strain in China, where same-store sales declined 11 percent for both the Sept. 7-ended third quarter and the month of September, chief executive David Novak expressed confidence that 2014 would be “a bounce-back year” for Louisville, Ky.-based Yum, if China recovers over time and if the company makes its projected profit growth in the United States and the emerging markets in Yum Restaurants International.

Since last December, when a Chinese state television report questioned that nation’s supply of chicken and implicated some of Yum’s former poultry suppliers, the company’s nearly 4,500-unit KFC brand in China has reported double-digit same-store sales losses. The pressure worsened in April when new fears of avian flu spread through Shanghai and other Chinese cities, depressing KFC’s sales further, even though Yum’s other major brand in China, Pizza Hut Casual Dining, began to rack up monthly same-store sales increases in the mid-single digits.

KFC’s continued struggles in China show that, even though the public’s perception and trust of the brand and its supply of chicken are moving in the right direction, they have not fully recovered, Novak said. He added that Yum needs not only more time to turn around the China division and specifically KFC, but also more innovation.

“We’ve done a good job on the value front, but we haven’t presented the concept as innovatively as we need to in order to get the business to the next level,” Novak said. “We’ll have something we can be more excited about next year.”

'We definitely missed'

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Yum had high hopes for a beef burger promotion at KFC in China in September, but the item did not produce the intended results, officials disclosed.

“The mix was good, but we didn’t get the incrementality, which leads us to believe we have to keep working on the trust side of the equation,” Novak said. “We’ll call it like we see it, when we see it. We definitely missed.”

Despite disappointing sales in China, stemming from both the lingering publicity issues and the ineffective beef burger promotion, Yum “couldn’t be happier with the effort of the China team to drive profitability at the restaurant level” through labor efficiencies, chief financial officer Pat Grismer said. The company’s restaurant-level margin in China was 19.5 percent in the second quarter, down 1.9 percent from a year earlier but still impressive given the heavy sales deleveraging from the 11-percent same-store sales decline, he said.

“The team is learning to operate very efficiently under unprecedented conditions,” Grismer said. “They’ve improved the way they’ve forecasted sales and labor requirements, and they’re developing new tools to deliver customer service with relatively low labor.”

Yum China’s 19.5-percent margin in the third quarter was a significant improvement over its 10.6-percent margin in the second quarter. Grismer said Yum is more optimistic about 2014 in China because the team operating there could carry the labor efficiencies over into next year.

Pizza Hut Casual Dining is on pace to have 1,000 locations in China by the end of the year, and its menu innovations like an expanding breakfast daypart are the kinds of successful moves Yum will try to replicate at KFC, Novak said.

“When we look at the Pizza Hut business [in China], it’s had the innovation, value and operational excellence, and it’s performing well,” he said. “Regardless of competition, when we get things right, we can move the needle … and that’s what we’re working on with KFC.”

Taco Bell 'mojo' moves U.S. market

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Yum president Rick Carucci compared KFC’s current doldrums in China to Taco Bell’s struggle two years ago in the United States, when a consumer lawsuit criticizing the contents of the chain’s seasoned beef dramatically wrecked Taco Bell’s sales. But the brand withstood that controversy and innovated its way out of it, he said.

“Some time had to pass, we got a little momentum, and then when we hit with new products like Cantina Bell and the Doritos Locos Tacos, the brand really took off,” Carucci said. “We need something similar to that progression in China.”

Taco Bell, which increased same-store sales 2 percent in the United States during the third quarter, would maintain that progression into next year, officials said. The brand’s performance lapped a 7-percent increase a year earlier.

In the most recent third quarter, Taco Bell’s same-store sales gain offset domestic declines of 1 percent at Pizza Hut and 4 percent for KFC, leading to overall flat comparable sales for the United States division.

Novak noted that Taco Bell “definitely has mojo” in the United States and would display the kind of menu development in 2014 that has been crucial to its propulsion of its own sales and Yum’s profit in the United States. For instance, the chain will roll out its Firstmeal breakfast menu nationally during the first half of the year.

“We now know we have a winning proposition with [Taco Bell’s] breakfast platform, with destination products,” he said. “Based on market tests, 90 percent of breakfast sales are incremental and are driving total brand sales.”

Novak added that Pizza Hut is also expected to have another year of net-positive domestic unit growth, and the big innovation for that brand in the United States next year will be the launch of national advertising for the Wing Street platform for the first time. Novak said commercials for Wing Street, now in place in virtually every Pizza Hut in the United States, would debut at the start of 2014, presumably in time for the Super Bowl.

Elsewhere, same-store sales in YRI increased 1 percent during the third quarter, led once again by performance in the division’s emerging markets. Same-store sales were flat in Yum’s India division, though that segment’s unit count grew 24 percent year-over-year.

In early trading Wednesday, Yum’s stock price tumbled nearly 8 percent to open at $65.75 per share, after closing Tuesday at $71.30 per share.

Yum operates or franchises nearly 40,000 locations of KFC, Pizza Hut and Taco Bell in more than 130 countries.

Contact Mark Brandau at [email protected].
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