Yum Reveals Growth Strategies

Officials for Yum! Brands Inc. remained upbeat about the quick-service giant's near- and long-term prospects for profit and new-unit expansion even as it had to manage through significant headwinds during the Sept. 8-ended third quarter.

Traffic slowed in China and a calendar shift cut into sales in the company's emerging markets, but new-unit growth will accelerate in China and other regions as Yum remains confident in its business models and track record of profitability, executives said.

Improving margins and buoyant same-store sales in the United States for its Taco Bell, Pizza Hut and KFC brands also had Yum officials optimistic for continued profit growth.

Capitalizing on China

Despite traffic falling 1 percent in China in the third quarter, Yum still managed to grow same-store sales in that 4,000-unit market by 6 percent. Chief executive David Novak noted the division faced difficult comparisons from a year earlier of 19-percent same-store sales growth and 27-percent traffic growth.

While the Chinese economy is growing slower than the torrential pace of the past decade, Yum's long-term outlook is not changing "one iota," he said.

"The big news is old news, frankly: We're able to capitalize on China more than any company in the world," Novak said. "We'll have our ups and downs, but I'll always be glad to wake up every day and know we have the position we have in China."

In fact, Yum said it is on pace to open more than 750 restaurants in China this year, marking the company's second acceleration from its earlier guidance of 600 openings for 2012. At least 150 of those new restaurants would be Pizza Hut Casual Dining, which is about to make its first significant push into China's interior.

"Given our new-unit development, we'll be less reliant on same-store sales growth [in future years] to achieve our targets of 15-percent profit growth," chief financial officer Pat Grismer said.

But Novak said Yum would not grow faster than its profitability or personnel would allow, citing the conservative tack Pizza Hut Casual Dining took in China several years ago as an example. Profitability had slowed at Pizza Hut, so rather than forge ahead into Tier-3 through Tier-5 cities, the brand halted expansion and turned toward menu development, adding new products and a value menu.

"The transactions and profits went through the roof, and then we expanded," he said. "We're confident we're growing the business the right way. We went into this year with a projection of 600 openings. Why? Because you don't grow faster than you need to. We're not trying to be heroes; we're trying to build a heroic business."

Building momentum in the U.S.

Yum would look to continue the supply chain efficiencies and same-store sales leverage that led to a 4.6-percent improvement in restaurant-level margins in the third quarter, officials said. Third-quarter same-store sales rose 7 percent at Taco Bell, 6 percent at Pizza Hut and 4 percent at KFC, the company reported.

Yum president Rick Carucci called Taco Bell the catalyst of Yum's resurgent performance in the United States this year, based in large part on the strength of its two big product introductions, Doritos Locos Tacos and Cantina Bell. Those products were 7 percent and 5 percent, respectively, of Taco Bell's sales mix in the quarter.

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Anecdotally, Carucci said, the new Cantina Bell menu at Taco Bell has been driving incremental business at lunchtime and has attracted more female customers, while boosting the average check of those customers' orders.

"We think the fast-casual guys taught us a lesson: People want higher-quality food that they're willing to spend more money for, if they get speed and convenience," he said. "The good news is that these initiatives drove strong sales this year and should continue into 2013 with flavor extensions to complement the current menu."

A new flavor of Doritos Locos Tacos at Taco Bell, Cool Ranch, has been pushed back into early next year, Carucci said.

He added that net unit growth at Pizza Hut — which, after 10 years of store count declines, added a net 53 locations in 2011 and a projected 130 net units this year — would continue to boost U.S. performance. Pizza Hut's Big Dinner Box and $10 Dinner Box have driven much of the brand's sales the past few quarters, and that would continue going forward.

KFC still has "heavy sledding ahead," Carucci said, but the brand will continue investments in new technology and equipment, while the most recent introductions of Original Recipe Bites and Chicken Littles, as well as a larger advertising presence, are expected to keep same-store sales positive.

YRI to bounce back in Q4

Same-store sales growth in Yum Restaurants International, or YRI, slowed to 2 percent for the third quarter, compared with 4 percent in the second quarter and 3 percent from a year earlier, but Carucci expects that result to "bounce back" in the fourth quarter. A calendar shift moving the Muslim holiday of Ramadan into the third quarter negatively impacted YRI's result by 1 percent overall, but had an outsize effect of negative 2 percent in its emerging markets, including negative 7 percent in the Middle East.

YRI's biggest near-term opportunities remain Russia, France, Germany and the African continent, Carucci said. He cited the "business rental" model in place in France — in which Yum holds the lease on a new restaurant and charges the franchisee a percentage of sales — as the likely way to get the growth and returns Yum seeks for continental Europe. Yum has some of its highest average unit volumes in those markets, where McDonald's systems dwarf theirs.

YRI has fewer than 400 restaurants and generates about $30 million in profit from France, Germany and Russia, Carucci said, compared with McDonald's 2,900 units and $1 billion profits in those countries, suggesting a "tremendous runway" for growth.

"The amazing thing for us is how little business we have there already, yet we now have the unit economics that we think are scalable," Novak said. "What we try to do is learn from each other and from our competition. McDonald's has shown us that the business rental model is the way to expand over the long term in continental Europe. The good news for us is that we're on the ground floor on this, and we think it can become very significant."

For the quarter, Yum's overall net income rose 23 percent to $471 million, or $1 per share, compared with $383 million, or 80 cents per share, a year earlier.

Revenue climbed 9 percent to $3.6 billion, reflecting nearly 400 international openings and same-store sales increases of 6 percent in China, 2 percent in YRI, 6 percent in the United States and 5 percent in India.

Louisville, Ky.-based Yum operates or franchises more than 38,000 locations of KFC, Pizza Hut and Taco Bell in more than 120 countries.

Contact Mark Brandau at mark.brandau@penton.com.
Follow him on Twitter: @Mark_from_NRN