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Sun Rises for Yum China, Night in America

LOUISVILLE, Ky. – Yum Brands Inc. (NYSE:YUM), with some 40,000 affiliated restaurants worldwide, reported on Wednesday its financial results for the second quarter ended June 14, 2014. Comparable sales for its American stores from this year's second quarter was hard hit compared to last year's. KFC same-store sales were 4 percent lower than the same time last year. Pizza Hut same-store sales also saw a drop of 4 percent. And Taco Bell, which rolled out a whole new daypart of breakfast right before the second quarter began, had only a 2 percent rise in same-store sales.

The bright spot for Yum was China, which grew 15 percent in same-store sales growth for their concepts  compared to a dismal 2013 with its bird flu scare. In particular, KFC stores in China, which are almost all company-owned, increased 21 percent in same-store sales.

KFC has had difficulty in its home country, with Popeyes Louisiana Kitchen (NASDAQ:PLKI), Chick-fil-A and other quick service restaurant brands eating into the market share of its affiliated stores.

KFC China beams bright again while America's dark days have a ray of hope

Yum Brands Store Sales in America for the second quarter of 2014Although Sam Su, the vice-chairman of Yum Brands Inc. and also the chairman and CEO of Yum's China division, did not attend an earnings call yesterday morning for analysts, Yum's top chairman and CEO David Novak spoke on behalf of China's initiatives. Su is based in Shanghai and Novak works in Louisville. "China Division system sales increased 21 percent as we opened 104 new restaurants and delivered same-store sales growth of 15 percent," said Novak. "Overall, we remain on track to open at least 700 new restaurants in China as we further capitalize on the world's largest and fastest growing consuming class."

In the earnings call, franchisees were mentioned a few times as mainly a source of revenue for Yum and its brand expansion. "We simply love the franchise model, which will generate about $2 billion of franchise fees in 2014," said Novak. "These franchisees provide us with a large, reliable and growing stream of cash, which combine with a profit from our equity stores and enable us to invest in high return growth opportunities and return significant cash to our shareholders." Nearly 90 percent of Yum Brands' 40,000 restaurants are franchised outside of China.

Although franchisees have had their difficulties with KFC in the past, one major franchisee told this journal that the brand looks like it may actually be in more of a listening mood this time around. He reports that KFC's CEO is engaging franchisees through their independent franchisee association, called the Association of KFC Franchisees. "Micky Pant is attending almost every franchisee [association] meeting," he says about the activities of KFC's CEO. He thinks there is a fresh wind at KFC. "Right now I am hopefully optimistic about our future. I certainly want to give these guys a real chance to succeed and I feel in my old KFC bones that they are on the right track."

Taco Bell missteps

Restaurant analyst Mark Kalinowski of Janney Capital Markets gives a "neutral" buy rating on Yum Brands for Wall Street investors, estimating that the risks in China balance the upside. The analyst also points out that Yum's bright spot of the 2 percent rise in Taco Bell's same-store sales was actually poor considering that Wall Street anticipated 4 percent growth. Kalinowski states, "Taco Bell's same-store sales during Q2 [second quarter of 2014] may have been hampered to some degree by the focus on the national launch of breakfast." This is a rookie mistake that lesser leaders have made. Kalinowski elaborates, "At times in the past with other (non-YUM) brands, we have seen how the increased marketing/promotional attention paid to the breakfast daypart creates a situation in which – all else equal – lunch/dinner daypart sales take a hit that they otherwise likely would not have taken." Kalinowski thinks Taco Bell will continue to grow same-store sales at the same rate in its third and fourth quarters, that is to say 2 percent.

Assistant professor of clinical marketing Ira Kalb is critical of Taco Bell's advertising campaign that kicked off its breakfast by stabbing at competitor McDonald's. "The company seems to have lost its marketing brain," the professor at the University of Southern California's Marshall School of Business wrote in Business Insider. "Poking fun at Ronald McDonald (a mascot that has helped a lot of children with cancer), and disparaging the Egg McMuffin are going to only help the competitors being attacked," elaborated Kalb.

Yum's CEO reassured analysts that Taco Bell is "in very good shape" and that he "feels very good about the second half." He added, "the innovation we have coming is going to continue to improve our unit economics and help us take Taco Bell from 5000 stores to 8000 stores." Novak also noted, "We think small box derivatives of our base brands will give us more opportunity, which we think will give us the biggest idea of all."

Novak stresses that KFC is getting better and that Pizza Hut is in a major turnaround mode that should begin to see results in 2015. The CEO says that selling restaurants to franchisees will be a big revenue maker for the franchisor. "One of our big engines at Yum! is new unit development," says Yum's CEO.

The franchisor's worldwide operating profit increased 34 percent. Yum Brands also reported over 30 percent growth in earnings per share to stockholders this week. Regarding the future, Yum's chief financial officer Pat Grismer promised to deliver at least a 20 percent earnings per share growth during the year to Wall Street investors. "And if we can do better, I assure you we will," he asserted.

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