China KFC Publicity Hit Yum!'s Results

CHINA - In its fourth quarter and full-year results, Yum! Brands reports an eight per cent increase in global annual sales but notes that adverse publicity over its poultry supply continues to impact China KFC sales significantly with a six per cent decline in sales there during the fourth quarter.
calendar icon 7 February 2013
clock icon 7 minute read

Yum! Brands Inc. has reported results for the fourth quarter ended 29 December 2012 including earning per share (EPS) of $0.83, excluding Special Items. Reported EPS was $0.72 for the quarter and $3.38 for the year.

Full-year highlights

Worldwide system sales grew five per cent, prior to foreign currency translation.

Worldwide system sales growth was eight per cent, excluding the 2011 divestiture of Long John Silver’s (LJS) and A&W All American Restaurants (A&W), the 53rd-week impact and the acquisition of Little Sheep, including 17 per cent in China, seven per cent at Yum! Restaurants International (YRI) and five per cent in the US. The 2011 fourth-quarter and full-year results reflect the benefit of an additional (53rd) week.

Same-store sales grew four per cent in China, three per cent at YRI and five per cent in the US. Worldwide restaurant margin increased 0.6 percentage points to 16.6 per cent, while worldwide operating profit grew 12 per cent, prior to foreign currency translation.

Record international development with 1,976 new restaurants opened, including 889 new units in China, 949 new units at YRI and 138 in India Division; 83 per cent of this development occurred in emerging markets.

Fourth quarter highlights

China Division KFC same-store sales turned sharply negative during the last two weeks of December as a result of adverse publicity from the poultry supply situation.

Worldwide system sales were flat, prior to foreign currency translation. Worldwide system sales growth was five per cent, excluding the 2011 divestiture of LJS and A&W, the 53rd week impact and the acquisition of Little Sheep, including seven per cent in China, seven per cent at YRI and three per cent in the US.

Same-store sales grew three per cent at YRI and three per cent in the US. Same-store sales declined six per cent in China.

Worldwide restaurant margin increased 0.1 percentage point to 14.4 per cent. Worldwide operating profit grew six per cent, prior to foreign currency translation, while operating profit grew 10 per cent at YRI, declined five per cent in China and declined five per cent in the US. Excluding the 53rd-week impact, worldwide operating profit grew 11 per cent, including 15 per cent at YRI and five per cent in the US.

The current negative sales trend in our China KFC business will adversely impact 2013 EPS.

China update

KFC sales in the last two weeks of the fourth quarter were significantly impacted by the intense media attention surrounding an investigation by the Shanghai FDA (SFDA) into poultry supply management at Yum! China. The investigation was prompted by a report broadcast on China's national television (CCTV), which aired on 18 December 2012. The report showed that a few poultry farmers were ignoring laws and regulations by using excessive levels of antibiotics in chicken. Regrettably, some of this product was purchased by two poultry suppliers of KFC China. The investigation caused further media attention, including social media commentary, and this negatively affected consumer perceptions of poultry safety, and KFC in particular.

On 25 January 2013, the SFDA concluded its investigation and released its recommendations. We appreciate their thorough and diligent review. The SFDA identified issues and provided 'Supervisory Recommendations' to Yum! China to strengthen our poultry supply chain practices including refined voluntary self-testing procedures, improved reporting and communications and enhanced supplier management. The company's team in China has taken a comprehensive review of its current system and is in the process of incorporating all of the SFDA's recommendations. KFC has always recognized the importance of building a world-class supply chain in China, which is why it has implemented a wide range of quality assurance and testing practices over the years above legal and regulatory standards. The SFDA's recommendations will further strengthen those practices. The SFDA did not bring a case against Yum! China and no fine was assessed.

The past seven weeks of media attention have been intense and negative towards the KFC brand image. Even though this is a very disappointing setback, the company is more committed than ever to continue to strengthen its efforts, restore the confidence of its customers and win back their brand loyalty. To that end, the China team will soon be launching a brand reputation quality campaign to re-assure consumers of its high quality food, along with aggressive marketing plans.

2013 outlook

Yum! Brands is confident the YRI and US businesses will deliver annual operating profit growth consistent with our ongoing growth model. Given current uncertainties related to KFC sales in China, it is difficult to confidently forecast our overall financial performance. An assumption has been made that KFC China same-store sales will improve as the year progresses and will be positive in the fourth quarter. With these assumptions, it estimate a mid-single digit EPS decline in 2013 versus prior year, excluding Special Items. This includes an expectation for a significant decline in EPS performance in the first half of the year followed by EPS growth in the second half.

The first quarter for the China business includes only the months of January and February and is highly impacted by consumer spending during the Chinese New Year holiday. The timing of this holiday changes each year. This year, it is important to note that while the timing impact of Chinese New Year is neutral to the company's first quarter, there is a significant negative impact to January sales and a corresponding significant benefit to February sales due to the timing of this week-long holiday. Underlying performance of the China business is expected to remain relatively unchanged for the balance of the first quarter, with a same-store sales decline of approximately 25 per cent for January and February combined (China's first quarter).

CEO's comments

David C. Novak, Chairman and CEO, said: "We delivered full-year 2012 EPS growth of 13 per cent or $3.25 per share, excluding Special Items. This marks the 11th consecutive year we delivered at least 13 per cent growth, which puts us in an elite group of high-growth companies. We also take satisfaction with our record level of international development in 2012 which lays the foundation for future growth and makes Yum! a leader in emerging market development. With new-unit development at the core of our growth model and the continued rapid expansion of the consuming class overseas, we believe our opportunity for long-term growth has never been better.

"We are obviously proud of our track record of achieving double-digit EPS growth, and I am as confident as ever we can deliver this performance over the long term. However, as a result of adverse publicity from the poultry supply situation in mid-December, China KFC sales experienced a sharp decline. Due to continued negative same-store sales and our assumption that it will take time to recover consumer confidence, we no longer expect to achieve EPS growth in 2013.

"Although we cannot predict how long it will take to restore sales, we are steadfast in our belief that the power and popularity of the KFC brand in China will ultimately drive a full sales recovery. Having weathered other storms in the past, we know that our brands are resilient. As a result, we will stay the course with our target to develop at least 700 new units in 2013 in China to lay the foundation for future growth, and will not let this event detract from our unparalleled China growth opportunity.

"Our growth strategies are unchanged, in China, Yum! Restaurants International, India and the US. With our category-leading brands and outstanding people capability, I’m confident we will bounce back strongly and restore our track record of double-digit EPS growth in the years ahead," said Mr Novak.

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