Yum China Stock Surges 3% on Reversal of Sales Decline

Yum China Holdings, Inc. (YUMC.US) experienced a near 3% increase in its stock price, driven by a reversal in the downward trend of same-store sales growth in the second quarter. The company reported a positive 1% growth in same-store sales, marking a significant turnaround from previous quarters. This positive trend was supported by a 2% increase in same-store transactions, which has now grown for the tenth consecutive quarter. The company's management highlighted that these positive trends indicate not only an expansion in scale through new store openings but also an improvement in the operational efficiency and customer appeal of existing stores. This is particularly noteworthy given the rationalizing consumer market and intense competition in China.

Yum China's total revenue for the second quarter increased by 4% year-over-year to $2.787 billion. Operating profit reached $304 million, a 14% increase from the previous year, while the operating profit margin improved to 10.9%, up by 1 percentage point. This improvement was driven by higher restaurant profitability and reduced management expenses. Net profit for the quarter was $215 million, a 1% increase year-over-year. For the first half of the year, Yum China's total revenue grew by 2% to $5.768 billion, with net profit increasing by 1% to $507 million.

The company's CEO, Joey Wat, noted that KFC's business demonstrated strong resilience in the second quarter, while Pizza Hut continued its positive growth trajectory. Yum China is actively exploring ways to expand its target market, with Pizza Hut successfully reaching new customer segments through its new menu offerings, driving a double-digit increase in same-store transactions for the quarter.

KFC's system sales increased by 5% year-over-year, with same-store sales growing by 1% and same-store transactions remaining flat. The average check size increased by 1% due to a higher proportion of delivery orders. KFC's operating profit for the quarter grew by 11% to $292 million, the highest for any second quarter. The operating profit margin was 14%, up by 0.9 percentage points, while the restaurant profit margin was 16.9%, up by 0.7 percentage points. This was primarily due to favorable raw material prices and operational efficiencies, partially offset by increased delivery costs, higher-cost value items, and rising labor costs.

Pizza Hut's system sales grew by 3% year-over-year, with same-store sales increasing by 2% and same-store transactions rising by 17% for the tenth consecutive quarter. The average check size decreased by 13%, which was in line with the company's strategy to offer more affordable products. Pizza Hut's operating profit for the quarter increased by 16% to $46 million, the highest for any second quarter. The operating profit margin was 8.3%, up by 0.9 percentage points, while the restaurant profit margin was 13.3%, up by 1 percentage point. This was driven by favorable raw material prices, operational efficiencies, and automation, partially offset by higher-cost value items, increased delivery costs, and rising labor costs.

Pizza Hut is actively expanding its store formats to penetrate broader markets, with its WOW Member Store model offering a cost-effective solution for lower-tier cities. The company is also innovating its menu to cater to a wider range of customers, continuing its strategy of innovation and affordability.

Yum China's store network continued to expand in the second quarter, with a net increase of 336 stores, including 89 franchised stores, which accounted for 26% of the total. As of June 30, the company operated a total of 16,978 stores. KFC added 295 new stores, bringing its total to 12,238, while Pizza Hut added 95 new stores, bringing its total to 3,864, with 21 of these being franchised stores, accounting for 22% of the total. For the year, Yum China plans to add approximately 1,600 to 1,800 new stores, with franchised stores accounting for 40% to 50% of KFC's new stores and 20% to 30% of Pizza Hut's new stores, ahead of its previously set targets. The company aims to gradually increase the proportion of franchised stores in its new store openings over the next few years.

Yum China's digital orders reached $2.4 billion in the second quarter, with digital orders accounting for over 90% of total orders. Delivery sales grew by 22% year-over-year, accounting for 45% of restaurant sales, up from 38% in the previous year. This growth was driven by promotional activities on its own channels and increased promotional efforts on third-party delivery platforms. As of June, all of Yum China's brands were available on major third-party delivery platforms. The company is actively developing its own channels, including super apps and mini-programs, to offer exclusive discounts and member benefits to consumers.

For the first half of the year, Yum China's delivery sales grew by 17%, with KFC's delivery sales increasing by 18% and Pizza Hut's by 14%. In the second quarter, KFC's delivery sales grew by 25%, accounting for 45% of KFC's restaurant sales, while Pizza Hut's delivery sales grew by 15%, accounting for 43% of Pizza Hut's restaurant sales.

Yum China's management emphasized that while delivery is an important part of its business, it accounts for only about 30% of total sales. The company is leveraging platform traffic to boost new businesses, such as K COFFEE, and attract new customers to its core brands. The company is adopting a balanced strategy to drive revenue growth while protecting profit margins. It is carefully managing pricing and seeking other long-term benefits.

The company noted that its flagship brands benefit from more favorable subsidy arrangements, allowing it to secure more advantageous subsidy deals. As a large-scale enterprise, Yum China can negotiate better subsidy terms, with the platform bearing a higher proportion of the subsidy costs. The specific ratios are not disclosed due to commercial sensitivity, but the impact of subsidies has been factored into the company's profit margin guidance for the second half of the year. The company's experience from the 2017 platform subsidy war highlighted the importance of focusing on product quality and developing its own channels.

Yum China's management stressed that the competitive landscape in China is intense and dynamic. Historical lessons have shown that relying on high subsidies for growth is unsustainable. In 2017, KFC achieved stable growth by balancing incremental sales with profit margins, while Pizza Hut faced performance pressures the following year due to its aggressive subsidy strategy. In response to the current platform competition, which is focused on small, single-item orders, the company has implemented targeted strategies to maintain its pricing threshold and protect its pricing system. So far, Yum China has achieved a balanced growth in delivery sales, brand value, and pricing, while also protecting its profit margins and achieving strong operating profit growth. The company is taking a long-term view of its delivery business, aiming for balanced sales growth and protected profit margins.