Yum! Brands, Inc.
Q4 2020 Earnings Call Transcript

Published: 4 Feb 2021

[Operator:]

Good day, and welcome to the Fourth Quarter 2020 Yum! Brands, Incorporated Earnings Conference Call. All participants will be in a listen-only mode. After today’s presentation, there will be an opportunity to ask questions. Please note, this event is being recorded. I would now like to turn the conference over to Keith Siegner. Please go ahead, sir.

[Keith Siegner:]

Thanks, operator. Good morning, everyone, and thank you for joining us. On our call today are David Gibbs, our CEO; Chris Turner, our Chief Financial Officer; and Dave Russell, our Senior Vice President and Corporate Controller. Following remarks from David and Chris, we'll open the call to questions.

[David Gibbs:]

Thank you, Keith, and good morning, everyone. We entered 2021 a stronger company; primed to grow, made better and more resilient by the challenges of 2020. I'm incredibly proud of our people and the way our global system came together to navigate these challenges and offer new ways to safely and affordably serve customers. We galvanized our global systems commitment to our Growth and Good strategy, underpinned by a culture of collaboration across our brands, people and franchisees that we believe is unmatched and has put us on solid footing to move forward.

[Chris Turner:]

Thank you, David; and good morning, everyone. Today I'll discuss our fourth quarter results, our progress on our digital and tech journey, our Bold Restaurant Development growth driver and our strong liquidity and balance sheet position. To begin, let's discuss Q4. Overall Yum! system sales declined 2%, including a 3% headwind of lapping the 53 week in 2019. This was driven by slightly positive net units year-over-year, partly offset by a 1% same-store sales decline. Core operating profit declined 9% in the quarter, or declined a 5% when excluding the lap of the 53 week in 2019. EPS excluding special items was $1.15. This represented a 15% increase compared to ex-special EPS of $1 in Q4 2019. I'll now provide some additional color on several items. General and administrative expenses, excluding the impact of special items were $306 million for the fourth quarter 2020, roughly consistent with the estimate I shared on our third quarter conference call. For the full year of 2020 G&A, excluding the impact of special items represented 1.9% of consolidated system sales. We saw an opportunity to enhance our systems competitive advantage by accelerating digital and technology spending during a period when many others could not. We all set this through proactive austerity measures. However, because of 2020 sales pressures, we were temporarily above our historical framework for G&A spend as a percentage of systems sales. 2020 was not representative of a fundamental change and approach or in our commitment to be an efficient growth model that leverages fixed costs. Our business model is positioned for rapid recovery once we emerged from the pandemic and we expect our G&A ratio to move back toward our historical target as sustained growth resumes. In the fourth quarter interest expense was approximately $132 million flat compared to Q4 2019, driven by higher outstanding borrowings offset by a decrease in rate on our floating rate debt. Our fourth quarter and 2020 ex-special effective tax rates were lower than the prior year, primarily due to the release of a valuation allowance against net operating losses, we now expect to utilize in a foreign jurisdiction. We are currently evaluating potential changes in taxes under the new administration in the U.S., though it's too early to provide an assessment. At this time, we believe the 21% to 23% range we provided last year remains appropriate for an effective tax rate for 2021, excluding any potential impact of special items. Capital expenditures, net of refranchising proceeds of $19 million were $141 million for the full year 2020, including $16 million at the Habit, while our 2021 capital spending plans remain fluid, given the macro-environment, I'd like to discuss our general approach. We believe roughly $250 million in annual gross CapEx, appropriately balances the inherent needs of the business, as well as occasional opportunities to invest in technology initiatives and strategic development of equity stores. We also anticipate at least $50 million in annual proceeds from refranchising, which will fund the strategic equity store investments. For 2021, we may be slightly higher than the gross CapEx amount I just mentioned. This upside relates to catch-up spend on repair, maintenance and remodeled delayed owing to COVID, as well as select strategic development in the U.S., primarily for the Habit, for which re-franchising proceeds may not be fully realized this year. As you're all aware, the global macro-environment remains quite fluid owing to the impact of COVID-19, governmental actions including stimulus packages and more. We have the utmost confidence in our teams and their ability to pivot to whatever challenges and opportunities arise. However, the environment is still unpredictable and therefore we will not guide to specific financial results. Before moving on to Bold Restaurant Development, I wanted to share some of the work we've been doing around restaurant technology to transform the customer and team member experience. As David mentioned, we are launching our new solutions in major markets before we scale globally. First KFC U.S. began the national rollout of our new e-commerce platform in early 2021. This will allow KFC to take orders from our own digital platform for both pickup and third-party delivery. Second Pizza Hut U.S. launched our omnichannel menu management system, where there is one source for menu customization and pricing that can be sinked across multiple digital channels. This is particularly important as we grow our delivery capability across multiple aggregator the partners. And lastly Taco Bell U.S. is the first to test a new advanced point of sale system, a modern tablet based application that is completely customizable. This technology should increase accuracy, speed and reliability as well as allow for a more intuitive team member experience optimized for each brands specific needs. Now, moving on to Bold Restaurant Development, during the fourth quarter, we opened 1,024 restaurants and closed 797, including 540 closures at Pizza Hut, which placed our year end unit count slightly ahead of the estimate I shared on our third quarter conference call. For the full year 2020, we delivered slightly positive unit growth, this includes the addition of 276 Habit restaurants in Q1 of this year offset by COVID related dislocations and Pizza Hut closures. I am pleased to say that despite COVID headwinds, three of our four brands achieved positive net unit growth for the year, an encouraging sign for the future. Most notably, KFC delivered 4% net unit growth with strength in China, Russia and Central and Eastern Europe and Thailand. Importantly, 10 out of 13 KFC markets were net unit positive in 2020 ending the year with 25,000 restaurants, an incredibly impressive milestone. This momentum gives us confidence that there is capital available when we provide strong economic models. In regards to Pizza Hut, units declined 6% for the year, as we continue the previously announced transition of the asset base to a healthier and more modernist date. Closures that occurred this year were largely underperforming units or units with lower AUVs. COVID has hastened the transition and the closure of casual dining based restaurants. We have more work to do and we expect this to weigh on unit growth into this year. As it relates to franchisee health and appetite for development, as David alluded to earlier, we are entering 2021 from a position of strength. Unit economics are improving in many markets and many franchisees are prime to grow. During the quarter, we saw recoveries of amounts past due at KFC International, Pizza Hut U.S. and Taco Bell. These recoveries resulted in an $8 million net benefit to operating profit related to bad debt during the quarter, an improvement of $14 million compared to $6 million of expense in the fourth quarter of 2019. Importantly, deferred royalties outstanding from grace periods provided during the year were less than $1 million as of the end of 2020, down from $60 million as of June 30, 2020, and our allowance for doubtful accounts is below where it was in Q4 2019 before the pandemic. Now for an update on our balance sheet and liquidity position as well as our latest thoughts on capital structure and priorities for capital allocation. First, we ended Q4 with cash and cash equivalents of $730 million, excluding restricted cash. Consolidated net leverage was 5.2 times, which is marginally above our historical target of approximately 5 times. Second, we resumed share repurchases and repurchased 2.4 million shares totaling $250 million at an average price per share of $103. Third, our capital priorities remain unchanged, invest in the business, maintain a healthy balance sheet, pay a competitive dividend and return the remaining excess cash flows to shareholders via repurchases. To that end, we are pleased to have recently increased our quarterly cash dividend by over 6% to $0.50 per share. After maintaining our dividend in 2020, despite the impact of COVID-19, we believe this increase conveys our confidence in the cash flow generation and growth potential of Yum!’s business model. With iconic category-leading brands and a uniquely diversified global business of over 50,000 restaurants, Yum! is well positioned to accelerate growth and drive healthy franchise unit economics by leveraging our massive scale and by expanding digital technology and delivery. We look forward to updating you on our progress throughout 2021. Now, the team and I are happy to take your questions.

[Operator:]

We would now begin the question-and-answer session. And the first question will come from David Tarantino with Baird. Please go ahead.

[David Tarantino:]

Hi. Good morning. My question is about the unit growth, and I appreciate the comments that the many franchisees are kind of primed for growth. But I was wondering if you could perhaps comment on your previous long-term target to get to a 4% annual growth and if there is any framework you can share on how long do you think it might take to get to that level given what you know today?

[David Gibbs:]

We're having some technical difficulties. One second, please.

[Keith Siegner:]

Hold on a second folks. One of the lines dropped. We appreciate your patience.

[David Gibbs:]

Can you repeat the question, please. So that, team that didn’t hear, can hear it again, please?

[David Tarantino:]

Yes. So my question is about the unit development, and I appreciate your comments about kind of many of the franchisees being primed for unit growth, but I guess the main question is about your prior target of 4% annual growth. And given what you know today, I was asking about how long do you think is reasonable for us to expect for you to get back to that type of growth rate on a system-wide basis? Thank you.

[David Gibbs:]

Thanks for the question, David. And apologies to everybody for our phone dropping out. That's a first for us on an earnings call, but I guess – and everything has happened in the last 12 months, so why not that. As far as unit development, I know that's on everybody's mind. So just a couple of thoughts there. To the question of can we regain that 4% pace and is that in our cross hairs, and our goal certainly to get to 4% and beyond. And the answer is, certainly, yes. There's a lot of reasons why we're confident that we will get there over time. Our business model really has gotten stronger over the last 12 months. The shift to off-premise suits us well and improves our franchisees' economics. And obviously, in our open stores, we're seeing that show up as sales. Most of our franchisees are in good shape. They're coming out of this situation with – in good financial shape and they're ready to grow. Certainly, it's a more favorable real estate climate. And I will point out that in 2020, we actually opened over 2,400 gross units. So it's not as if the development pace at Yum! just disappeared. The challenge obviously with a lot of the closures, which we had for good reasons, things we've talked about over the years, wanting to close, particularly, Pizza Hut restaurants to strengthen our asset base. So we've got a lot of that behind us in 2020. And then, certainly, three out of our four brands grew last year and we got 3% growth in the global business when you exclude the Pizza Hut business. So all of those good proof points for why we can get back to 4%. As far as the timing though, I know the question is when and there is still some uncertainty on that, which is why we're not providing guidance on that number. We certainly can't be certain of the pandemic course. Since our last call, we've obviously seen flare-ups that have impacted our business. Yum! China talked about that as well last night. It's a challenging environment just to build stores. And there are markets that we want to get stores open and we're having trouble getting permits and getting the right people to construct the stores. And certainly, as we've changed our asset models, that has got our franchisees looking at making changes to the kinds of sites they pursue in some cases, the type of stores they build on those locations. All of that leads to some delays. And then, certainly, we all know in the development game in retail, it takes time to build the pipeline. And the fact that our pipeline was disrupted last year, we have to rebuild it. So confident that we can get back to 4% and beyond. Still not at a point where we're going to commit to a certain timeframe on that. But the mood is definitely one of confidence.

[Keith Siegner:]

Next question please.

[Operator:]

Our next question will come from John Glass with Morgan Stanley. Please go ahead.

[John Glass:]

Thanks very much. Good morning. Can I just ask about digital, you've talked a lot about the success you've had in the digital penetration. Underneath of that, can you just talk about at the enterprise level what you're doing to support franchisees? Specifically, I guess, I mean, is there a common platform by brand, for example, now globally that allows all franchisees to access that and integrating mobile pay, integrating delivery, integrating loyalty or is even bigger than that, like across the enterprise you've got one? Just maybe just an understanding where you are and where are your investments in digital specifically are going to be in 2021? Thanks.

[Chris Turner:]

Thanks, John. This is Chris. Really good question. Digital has been such an important part of our resilience during the pandemic. We're proud to say that we had the $17 billion in digital sales for the year. A very significant increase over the previous year. And we're just very pleased with how digital is supporting the business. And we are, as we said, investing ahead in digital. We're finding other places to manage cost to help us to continue to fund those investments. And to your point, what we really care about in the long-term is that we earn a return on those investments. And so that gets at how we're thinking about the digital strategy. We want to continue to have the consumer-facing and team member-facing technologies be curated by the brands and be right for each individual market. The needs of a customer and the expectations for e-commerce in one market may be very different from another. So those front ends are tailored. But to your point, we are building common platforms underneath that. We don't need to replicate those common platforms multiple times. And so we gave a couple of examples earlier around how we're doing that. We mentioned that in KFC U.S. we've now introduced an internally built e-commerce platform. We will test that in a major market like KFC U.S. and then we will take it to other brands and other markets over time. Similarly, the POS example that we used on Taco Bell. Taco Bell is the first place where we'll implement that. And then we will customize and tailor that as a platform for other markets, both of those allow the front ends to be customized. So it's a blend of customer focus and platform underneath.

[Operator:]

The next question will come from John Ivankoe with J.P. Morgan. Please go ahead.

[John Ivankoe:]

Hi. Thank you very much. There's obviously a lot of discussion both in the U.S. and Europe, but I think specifically on the U.S. of kind of this major wave of restaurant consumption that will happen post-vaccine. And I wonder just kind of what your thoughts were on that? I mean, if you are prepared for significant shifts back to dine-in and obviously you have a lot of off-premise assets. I mean, if there are any examples around the world and maybe even cities within countries that are more or less kind of post-pandemic that you have a significant amount of stores that maybe you could talk about some experience of sales and the brands where you have some scale? Thanks for that color.

[David Gibbs:]

Yes. Thanks, John. Look, obviously, the environment has changed over the last 12 months that we're operating in and we're pleased at how the business has pivoted to off-premise, but that doesn't at all mean we're giving up on dine-in, and we know that dine-in can play a role in our business as we go forward. I think Yum! China talked about it yesterday on their call that they've seen sequential improvement in their dine-in business. And while it hasn't gotten back to where it was, they've done some innovation around technology to help in dine-in and have been able to regain some of it. So we have 300 different combinations of brands in countries. Every one of them is a different story. As we've gone through this, what you're seeing is the markets that have a more that were built for off-premise are the ones that are doing better. And the ones that had more of a dine-in skew are developing better off-premise solutions and improving their situation. But we are preparing for people reengaging with dine-in and we have the assets that can serve it and we still think it will be part of the business, but lesser going forward than it has been.

[Operator:]

The next question will come from Greg Francfort with Bank of America. Please go ahead.

[Greg Francfort:]

Hey, thanks for the question. My question is more of a high level one. Can you talk a little bit about – it seems like a lot of the big franchise stores are making a decision right now on what portions of the tech stack to bring in-house and what portion to kind of buy from third-parties. Can you talk just a little bit about how you're thinking about that dynamic and what's going to be a proprietary advantage to Yum! on the technology front going forward? Thanks.

[Chris Turner:]

Yes. So good question, and it's one that we think about on each element of the tech stack. And in general, we focus on ones where we think that element could provide a competitive advantage. The ones that we want to build and have control of internally. Others that are more of a support or enabler role are ones that we would work with third-party vendors through hopefully advantage commercial relationships where we bring our scale to bear. So it's always a blend, and we're always constantly reevaluating each of those aspects. But I gave a couple of examples a moment ago of ones where we've clearly said we need to have a differentiated proprietary platform on e-commerce and POS as a couple of examples that are so strategically important to the business.

[Operator:]

The next question will come from Dennis Geiger with UBS. Please go ahead.

[Dennis Geiger:]

Good morning. Thanks. Hope you're doing well, and congratulations to Tracy. Just wondering if you could talk more about the brands in the U.S. broadly. I guess, specifically given the momentum that you saw through 2020 and really to end 2020 given some new menu items this year across brands, already this year and I guess a good pipeline for the remainder of the year thinking about stimulus benefits, etc. Just curious if you kind of care to highlight any of the momentum that may have been continued into this new year? And just how you're thinking about the brands as the broader industry opens as we go throughout the year? Thank you.

[David Gibbs:]

Yes. Obviously, the U.S. was the bright spot for us in Q4 and during the course of the year, collectively positive in both despite all of the impact from closures on same-store sales growth. So I think in each case, we're really excited about where the brands are. Pizza Hut's the one that we've talked about a lot because of the remaking their asset base, moving to more off-premise, the progress they've made on digital. One of the things that we mentioned in our comments, but bears repeating is, 20% of the Pizza Hut stores were in the hands of a poorly capitalized operator previously. Now with Greg Flynn entering the system, a proven commodity in the Taco Bell world, we know that that's going to provide a boost to Pizza Hut. So there's lots of reasons to be enthusiastic about Pizza Hut with their off-premise SKU and the move they've made. The numbers are pretty staggering when you exclude the Express units. It's a 21% increase in Pizza Hut's off-premise consumption for the quarter in the U.S., so lots of excitement there. Taco Bell, again, getting through this with less of a family meal SKU, they had to pivot more and embrace the new needs of the consumer, and I think they've done an amazing job of that. They just put up a decent quarter, and on top of that, spent a lot of time in the quarter building up their loyalty base through programs to acquire new loyalty customers. So we think that bodes really well for the future as they – as we – in our language, we talk about, they've really focused on building the brand over time and entering 2021 with a lot of reasons to be excited about the loyalty program, some of the product launches that we've had, you've heard the news about bringing back potatoes, but there's a lot more to come in the world of Taco Bell. And then KFC, one of the exciting things about KFC in this environment is obviously it's built for this environment. Off-premise has been good to them. We've seen a massive increase in their bucket sales in the quarter. And as we go into the year, we've talked about their new Chicken Sandwich coming and the rollout of that's in 20% of the stores now. But we'll – we're pleased with how that increases our mix of sandwiches and how that will play out as we get it in all of our stores. So across every brand, there is a reason to be excited about the future. But there is also very uncertain environment in the U.S., as we all know. And we are remaining cautious as we move forward. Chris, a couple of things to add?

[Chris Turner:]

Yes. I'll just add a little bit of color on sales trends to start the year. We've been pleased with how the brands have started the year given all of the elements that David mentioned. But I will try to provide a little more context for trends that we've seen. So first, if we take the U.S. specifically, in the first few weeks of the quarter, across all four brands, our same-store sales growth in aggregate was in the mid-teens. Of course, that strength was partly bolstered by the U.S. stimulus, which appears to be waning. Internationally, the sales trends have been softer. We've seen a slight deceleration from Q4 trends owing to the impact of regional COVID resurgences, plus the temporary closures due to COVID and local restrictions, plus some restrictions on operating hours in some of the restaurants. If you step back and you think about this quarter in total, there is a fair bit of uncertainty that makes it a bit unpredictable. We've got many different labs. The Lunar New Year moving, plus all of the COVID impacts in various markets around the globe but hopefully, that gives you a little more context for how the quarter has started.

[David Gibbs:]

And one last comment on the U.S., The Habit Burger Grill. I know it's of such a scale that it can have a meaningful impact on our numbers in the short-term, but we are excited about the long-term potential of the brand. The way it's gotten through this environment, pivoted to off-premise, the technology that they've deployed, the quality of their operations. There is a lot of reasons why you would be excited going forward with Habit. We've seen a lot of interest from the franchise community in becoming Habit franchisees. We're going slow in that regard to make sure we do it exactly right. But that's a brand that I think is also poised for a lot of exciting things in 2021.

[Operator:]

The next question will come from Jon Tower with Wells Fargo. Please go ahead.

[Jon Tower:]

Great, thanks. Just kind of a few in one hopefully. I think the gross CapEx number moved up a bit higher than in the past or at least what you're talking about the past, roughly say, $25 million or so. Is this step up mostly attributed to tech spend? And then on the internally built e-commerce platform in the U.S. and some of the other solutions you're coming up with over time that are internally built. Are these solutions going to allow for a pay back to the franchisor by the franchisees? And then just lastly, in terms of thinking about the tech initiatives, where does modernization of the global drive-thru experience? I'm thinking digital menu boards fall in the priority stack. Thank you.

[David Gibbs:]

Great. So I've got three questions, and I'll tick through those. So first on gross CapEx, yes, prior to the pandemic, we had gross CapEx around $225 million in a normal year. And so, yes, but the $250 million, there is a tick up there. It's really driven by two factors. One, we've now got The Habit as a part of the business and we still have a large equity store base there. And so we will be investing in development in The Habit. And second, smaller pieces driven by the digital investments. And of course, as we mentioned, we want to have at least $50 million in refranchising proceeds, north of that. We obviously have more stores in the portfolio now with the acquisition of Habit. So hopefully that explains that slight tick up in the gross number. Second, in terms of payback on technology investments. Yes, our focus is earning a return on those investments over time. However, the primary way in which we earn those returns is by those investments leading to higher sales growth and higher strengths in the business, which also aids net new unit growth. And that supports our franchisees, it supports us. That's the primary way in which we earn a return on those investments. And then your third question around drive-thru, obviously, off-premise has been such an important shift as we've gone through the pandemic. And yes, we continue to invest in the right drive-thru technology and experience in each of our markets. In some cases that does include digital menu boards. In other markets, we might say that's not the needed investment. But in virtually all cases, we want it to be an easy fast experience for our customers. And we continue to focus in each brand on making sure that experience is terrific and enabling it through the right technologies for the particular market.

[Keith Siegner:]

We have time for one more question, please.

[Operator:]

The next question will come from David Palmer with Evercore ISI. Please go ahead.

[David Palmer:]

Thanks. Maybe I can squeeze in two here. With regard to Pizza Hut, you mentioned how the franchisee base, the financial health has been improved and you'd shifted certain units into sure hands there. But I'm wondering about the insights of the company from a brand perspective, the pause of COVID in terms of giving you a sales lift, they have also given you an opportunity internally under Kevin Hochman to rebuild the innovation pipeline that you think might position that brands for long-term growth beyond the second half of 2021? And if that's – could you just comment on that might be? And then with regard to , clearly, there's going to be less of that on that part of the business in terms of going through COVID. How fast are you thinking you can rebuild that walk-in business overseas? And perhaps versus 2020 levels, how you think you'll get back to par in those markets?

[David Gibbs:]

As far as Pizza Hut goes, David, you broke out – broke up a couple of times. I think I got the gist of your question. On the U.S. business and the brand, we're really pleased with the progress that Kevin under his leadership, but also the team that we brought in from a brand and a marketing standpoint; David Graves and George Felix have done an amazing job of reinvigorating the innovation pipeline and bringing the brand forward to consumers in a way that's really resonating, and that's why you're seeing the great results there. We do think, as you've seen with the launch with the Detroit-style pizza more recently. We do think that there is an important role for innovation to play in that brand. And I think those guys are spot on the way they're bringing it to life. So we're confident in the brand coming to life. As we've always talked about, the challenges are more around the asset base than it is about consumers' loves for the brands or the products that we serve. On the international side, it's obviously a different story. The assets are in better shape, but they skew more toward dine-in. And you're seeing that shift in the asset base to off-premise. Even the dine-in stores themselves are now in many cases offering delivery, coming up with innovative solutions to leverage technology on the dine-in experience. So I think that will continue. And yes, we will be helped at on the international side when we get past the pandemic and people return to the stores. But the base model that we have at Pizza Hut both internationally and domestically of building a delivery carry-out unit is a low-cost asset to build that usually gets very high returns, is attractive to our franchisees. And that base model and the unit economics of it bodes very well for the future of the brand internationally and domestically.

[Operator:]

This concludes our question-and-answer session. I would like to turn the conference back over to Mr. David Gibbs for any closing remarks. Please go ahead.

[David Gibbs:]

Well, thanks everybody for your time today. Obviously, in summary, 2020 was a challenging year across almost every dimension. But we feel really good about the massive progress we've made in so many ways, progress we wouldn't have made without the challenges of 2020. I'll just end on a high note. If you didn't pick it up in the release, we opened our 25,000th KFC in Q4, ended the year with 25,000 restaurants. If you look back just five years ago at the end of 2015, we had less than 20,000 restaurants. KFC in 2020 opened – had 4% net new unit growth. Even in the toughest of times, this brand is growing. It's our biggest brand. And that kind of 5,000 unit growth over a five year period bodes well for the future. We've still only scratched the surface of penetrating the world with KFC. Probably most importantly though, 2020 was a year in which our culture and talent was a differentiating factor in getting through it as successfully as we have. And I was so proud of the way our franchisees and our employees took care of our customers and our communities, partnered together to pivot the business and we clearly have emerged stronger, and there is a lot of enthusiasm and excitement around the world about the growth ahead of us. Thank you for your time.

[Operator:]

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.