Yum! Brands (YUM, Financial), the parent company of KFC, Taco Bell and Pizza Hut, recently delivered another set of disappointing numbers for its third quarter of fiscal 2014 as earnings per share failed to meet analyst expectations, of $0.89 a share, at $0.87 a share. This is the second consecutive quarter when the quick service restaurant giant missed earning expectations. Even the topline dropped by more than 3% at $3.35 billion for the three months period. So, what’s it that’s driving down the performance of this fast-food giant? Let’s take a look.
Dropping sales and margins – The effect
It wasn’t all negative for Yum during the quarter. In geographies excluding China, the fast food giant has registered stronger and improving comparable sales. However, in China the situation was quite depressing. During the quarter, Yum’s sales in the geography dropped by 14% at restaurants that have been in operations for more than a year. China being Yum’s largest market, took a toll on the entire company’s performance. Despite opening several new outlets in the emerging markets, the global sales of Yum increased by a mere 1% only and what’s more depressing is the fact that restaurant level operating margins fell 2.7 percentage points to 14.9%, and overall operating margin dropped 12%.
Outside China and India, Yum’s business divisions registered good growth with KFC sales growing by 6%. The Chicken specialist’s sales went up by 4% at stores that have been operational for more than a year. Turning to Pizza Hut, the picture was a little dismal as sales at stores functioning for more than a year shrunk by 1% and operating margin dropped by 2%. However, Taco Bell made up for a lot of the lost money. The taco maker, which primarily functions with in the U.S., reported 4% improved sales and 14% better operating income. On the back of a desirable breakfast menu and strong customer footfall, the division reported better performance figures.
What’s going wrong in China? – The cause
China is Yum’s largest market where the company has a significant presence with more than 4,500 KFC outlets, 1,200 Pizza Hut outlets and around 400 outlets of brands such as Little Sheep and East Dawning. Yum’s hold over China is so strong that Business Insider mentioned it to be a “strong barometer for that economy’s consumer.” But still the economy seems not to be favoring the snack maker. However, during the third quarter, Yum’s revenue in China dropped to $1.84 billion, translating into a 9.5% decline, and the segment operating profit shrunk by 40% to $202 million.
The current food scare in China is responsible for Yum’s dismal and lackluster performance in the geography. The timing of this latest controversy couldn’t have been any worse - the brand was on the verge of recovering from the damage caused by the 2012 controversies related to KFC’s chicken supplies in China. This time one of KFC’s meat suppliers, Shanghai Husi Food, supplied meat that had crossed the expiry date, setting off another season of terror among the Chinese consumers. China is very serious about the food safety issues and even the consumers are not willing to take the risk of going back to the outlets that have a compromised reputation.
What to expect in days to come
Yum! Brands and its KFC division are taking care of the on-going issues are trying to reassure the consumers about the quality of the food served in the outlets. The company is optimistic about its prospects in its biggest market and believes it’s just a matter of time before the consumers gain back their lost faith on the brand. But, for now, Yum has pulled down its earnings forecast for the full year from the previously announced 20% and expects it to be between 6% and 10%.
