Yum! Brands, Inc.
Q4 2013 Earnings Call Transcript

Published: 4 Feb 2014

[Operator:]

Good morning. My name is Christie and I will be your conference operator today. At this time, I would like to welcome everyone to the Yum! Brands Fourth Quarter 2013 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. (Operator Instructions) I will now turn today’s conference over to Mr. Steve Schmitt, Vice President of Investor Relations. Please go ahead, sir.

[Steve Schmitt:]

Thanks, Christie. Good morning everyone and thank you for joining us. On our call today are David Novak, Chairman and CEO and Pat Grismer, our CFO. Following remarks from David and Pat, we will take your questions. Before we get started, I would like to remind you that this conference call includes forward-looking statements. Forward-looking statements are subject to future events and uncertainties that could cause our actual results to differ materially from these statements. All forward-looking statements should be considered in conjunction with the cautionary statements in our earnings release and the risk factors included in our filings with the SEC. In addition, please refer to the Investors section of the Yum! Brands’ website to find disclosures and reconciliations of non-GAAP financial measures that may be used on today’s call. We are broadcasting this call via our website, is also being recorded and will be available for playback. Please be advised that if you ask a question, it will be included in both our live conference and in any future use of the recording. Finally, we would like to make you aware of the following upcoming Yum! Investor events. Our first quarter earnings will be released on Tuesday, April 22, 2014 and our Taco Bell Investor and Analyst Conference will be in Irvine, California on May 15. With that, I would now like to turn the call over to David Novak.

[David Novak:]

Okay, Steve. Thank you very much and good morning everyone. While 2013 was clearly a challenging year, I am pleased to report continued progress as we entered 2014 with fourth quarter EPS growth of 4% excluding special items. If you follow this over the years, you know one of the things we are most proud of as a company is our ability to drive, what we call, dynasty-like performance, which is generating at least 10% growth in earnings per share year after year. As you know, when a company does that, its stock price takes care of itself and we did that for 11 consecutive years until 2013. So 2013 was frankly a very humbling year. However, we used it as an opportunity, I’d say imparity to take a step back and reevaluate and strengthen all aspects of the business so that we come up stronger and better prepared to win in the years ahead. In fact, I go so far to say we did some of our very best work in 2013, including attracting and retaining the very best talent in the industry. Our leadership and our bench have never been stronger. Today, I want to highlight the work we did in 2013 to set us up for a strong bounce back here in 2014. We expected to deliver at least 20% earnings per share growth this year and consistent double-digit EPS growth in the years to come. First, let me start with our recent announcement to reorganize the business. As of January 1, 2014, we combined our Yum! Restaurants International and the U.S. divisions into the three global brand divisions

[Pat Grismer:]

Thank you, David and good morning everyone. While we are obviously disappointed with our overall results in 2013, we are pleased with the progress we have made in our China business and at this point all indications are that we will have a strong bounce back year in 2014. More importantly, we are confident our long-term growth model will sustain double-digit earnings growth for many years to come. Today, I will provide some additional perspective on our fourth quarter and full year results, the impact of our new organization structure on our ongoing growth model and our expectations for 2014 to deliver at least 20% EPS growth. First, our fourth quarter results. During the quarter, we reported 4% growth in EPS before special items. This increase was led by continued margin improvement and new unit development at our China division. Outstanding performance at Pizza Hut casual dining in China and essentially on-target performance at YRI and in the U.S. Reported EPS, which includes special items, declined 3% as we recorded a $75 million after tax special items charge related to the refinancing of $550 million of existing debt. Taking advantage of low borrowing rates, this transaction smoothed out our debt skyline, extended our average term, and that’s (ph) about 200 basis points in interest expense on refinanced debt or approximately $10 million a year. Now, moving on to each division’s fourth quarter results. In China, operating profit increased 5% in Q4 prior to foreign currency translation driven by a 40 basis point improvement in restaurant margin versus prior year. This margin increase is impressive when you consider that same-store sales declined 4% for the China division in the fourth quarter with no real benefit from pricing. This highlights the drive and determination of our China team to achieve new levels of restaurant productivity, which I am happy to say we expect will sustain into 2014. We also witnessed an improving trend in KFC China sales with sequential improvements in monthly same-store sales growth across the quarter. While these improvements were helped by progressively easier lapse, it’s important to note that we ended the year with a strengthening trend in absolute seasonally adjusted same-store transaction volumes demonstrating upward momentum in our KFC business. We also measured cleared improvements in a number of key consumer brand attributes for KFC. For example, one of the most important brand attributes that we track reliable brand is now approaching 2012 levels. Additionally, one component of this score, food safety, is now above 2012 levels. We believe that this demonstrates that the “I Commit” campaign launched in November has resonated positively with consumers. We are pleased with the overall progress that we are making with our KFC business in China and trends remain on track with our high expectations for 2014. At Pizza Hut Casual Dining, same-store sales grew 5% for the quarter. We reported solid same-store sales growth for the first three months of the quarter, but ended the year with a 3% decline in the month of December. While we never like to see a decline in same-store sales performance, we are seeing a negative trend at Pizza Hut and in fact had been solidly positive with this business in the New Year. We are confident 2014 will be another outstanding year for Pizza Hut Casual Dining as we continue to accelerate new unit development, expand breakfast into more and more cities and leverage our assets even further throughout the day. Overall China Division restaurant margin was 15.5% excluding Little Sheep or 14.3% including Little Sheep. It's clear our China team continues to work very hard to capture restaurant offering efficiencies including optimizing operating hours selected locations, delivering sequential improvements in margin performance versus prior year for the last two quarters and importantly the team continues to accomplish this without comprising customer service level. It's also clear we have a lot of work to do with Little Sheep to improve operating results going forward. On the development front we opened 282 new restaurants in China during the quarter bringing our year-to-date total to 740 new units. For the year we built 428 KFC restaurants and 247 Pizza Hut Casual Dining restaurants. Over half of the new units were built in Tier-3 through six cities where our unit economics and returns are strongest. So to summarize our performance in China sales are improving at KFC, Pizza Hut Casual Dining continues to deliver strong results. The team is doing a terrific job of managing restaurant margins and we’re continuing to invest for the future. At Yum! Restaurants International operating profit increased 11% excluding foreign currency translation. YRI continue to accelerate it's pace of development opening 488 new restaurants in the fourth quarter. For the year YRI opened 1055 new units including 703 in emerging markets, 89% of these new units were opened by our franchisees. This represents another record year of new unit growth which is indicative of our robust development pipeline and our attractive investment model. Same store sales grew 2% in the quarter including 3% growth in emerging markets and 1% growth in developed markets. This also included a modest benefit from the timing of Ramadan. These results were softer than we would have liked as continued weak performance in Japan and our Pizza Hut UK business as well as the slowdown in Thailand and Africa offset very promising same store sales performance in Russia and solid same store sales performance with our KFC brand in Germany, France and Australia. YRI operating margins increased 2.5 percentage points for the quarter driven by franchisee development and the refranchising of our Pizza Hut UK dining business more than offsetting a 1.4 percentage point decline in company restaurant margin. Moving to the U.S., fourth quarter operating profit were 2% versus prior year. This included a 4 percentage point impact of restructuring charges of KFC as well as a 2 percentage point adverse impact of refranchising. In terms of our franchisee ownership I’m pleased to say that with the refranchising of 33 additional units in Q4 we have largely completed our U.S. refranchising program. 10 years ago about 25% of our units were company owned was about 75% franchise. Through our refranchising efforts we’re now 90% franchised in the U.S. consisting of 5% ownership of KFC, 8% of Pizza Hut and 17% of Taco Bell. This has not only improved our return on investment capital but should also help deliver more consistent performance going forward given inherently lower profit volatility with the franchise business. As a result of our refranchising efforts our U.S. business has become increasingly weighted towards Taco Bell now representing 2/3rds of the U.S. divisions operating profit. For the quarter Taco Bell overlapped 5% same store sales growth from last year with 1% growth this year representing it's 8th consecutive quarter of positive same store sales growth. Fortunately this solid performance offset disappointing results from both Pizza Hut and KFC in the U.S. For the U.S. division overall operating margin increased over 2 percentage points in the quarter driven by refranchising and inspite of the slight decline in company restaurant margin. U.S. company restaurant margin was 60% for the quarter led by Taco Bell with extremely healthy margins of nearly 20%. Now, to summarize 2013 full year results. This year’s EPS decline of 9% before special items was driven by significant underperformance of our KFC business in China. Additionally, our full year tax rate increased by about 2 percentage points as a result of a tax reserve adjustment negatively impacting EPS by 2 percentage points. Reported EPS declined 30% primarily due to a non-cash special item charge of $258 million in the third quarter to reflect the partial impairment of Little Sheep intangible assets. This charge impacted EPS by 16 percentage points for the full year. In addition, the refinancing I mentioned earlier impacted reported EPS by 5 percentage points for the year. In China, operating profit declined 26% excluding foreign currency translation driven by a 15% same-store sales decline at KFC and a 2.7 percentage point decline in restaurant margin. This was partially offset by 4% same-store sales growth at our highly profitable Pizza Hut Casual Dining business and by continued strong new unit development. Little Sheep negatively impacted restaurant margin by approximately 1 percentage point for the year. Outside of China, our other major divisions delivered operating profit growth generally in line with our ongoing growth model. YRI grew operating profit by 10%. Operating margin increased about 3 percentage points driven by franchise development and Pizza Hut UK refranchising, with the latter benefiting YRI’s operating profit growth by 3 percentage points. And in the U.S., operating profit grew 3% including a negative impact of 3 percentage points from refranchising. I am especially pleased with the progress we made with new unit development, where we opened over 1,950 new restaurants outside the U.S. laying a strong foundation for future growth. Importantly, 82% of this development occurred in emerging markets, which offered the greatest potential for long-term growth. This past year also represented the second consecutive year of positive net unit growth in the U.S. after a decade of annual declines with about 80 net new units in 2013. Additionally, even in a year when our operating cash flow declined, we maintained our rate of capital spending at over $1 billion as we continued to invest for growth with a substantial operating cash flow that we generate, including approximately $1.9 billion of pretax franchise fees in 2013. Our first priorities has always been to deploy capital to high return growth investment and then return all available cash to shareholders through dividends and share repurchases. And I am pleased that despite our EPS decline in 2013, we increased our annual dividend payment by a double-digit percentage rate for the ninth consecutive year, 1 of only 10 companies in the S&P 500 to do so. So when we added all up, we returned $1.4 billion in 2013 to shareholders in the form of dividend distribution and share repurchases. And we did this while maintaining our investment grade credit rating. This further demonstrates the power of our portfolio and the size and reliability of our global franchise royalty stream. Now, before I talk about our expectations for 2014, I would like to review our new organizational structure and its impact on our ongoing growth model. As David mentioned, our new structure is designed to provide dedicated global leadership through each of our brands to ensure that we have realized their full potential around the world. However, I believe that we will also make our performance and our opportunity for growth much clearer to the investment community. Not only will we be providing reporting by brand, we will also continue to highlight our progress in emerging and developed markets. And importantly, we expect that the organization will be G&A neutral on a companywide basis. Starting in the first quarter of 2014, our reporting structure will change to reflect our three new divisions

[Operator:]

(Operator Instructions) And your first question comes from the line of Brian Bittner with Oppenheimer.

[Brian Bittner:]

Congratulations to you guys on this inspiring cost management you achieved in 2013. It’s very impressive from the outside booking in. I have two questions, both China, first on the sales and second on the margins. First, on the sales, I mean, you sound pretty bullish on current trends at KFC, so what’s different about this avian flu event on your business and should we take your comments about the first quarter trends to assume that trends right now are in line with that high single, low double-digit comp outlook that you have for 2014?

[David Novak:]

Well, first of all, as a reminder and as we discussed in New York, there are multiple paths to our profit growth goals in China for 2014. It is earlier in the year, but we are pleased with the trends that we are seeing in China and we are confident in our ability to deliver against that target.

[Brian Bittner:]

Okay. And why you think the avian flu event here is just having a different impact on your business than the previous one?

[David Novak:]

I think it’s always still hard to understand the consumer sighting on situations like this, but avian flu has been around for a long time. And I think people know that today fully cooked chicken is safe to eat having said that. And if you have really pronounced and dramatic amount of press on avian flu that becomes pervasive in the consuming world, it can have an impact. Right now, we are just not seeing much.

[Brian Bittner:]

Okay. And then just the margin question, when you look at 2012 unit restaurant margins of 18% with the food margin that was actually 100 basis points worse than what you are running at today, so really 19% margins. If you get back to the same AUVs you had in 2012 given what you have done from a productivity perspective in this business, can we assume that there is opportunity to surpass that 18% margin on a similar AUV as 2012?

[David Novak:]

We are not – Brian, we are not giving specifics on margin guidance this year. I think the important thing is the momentum that we have demonstrated in the last two quarters with our ability to drive higher levels of productivity offsetting the transaction decline. And that’s a slight momentum going into this year with what we are seeing in sales. As you know, our goal continues to be in the long run to get China margins back up to 20%, which we believe continues to be an appropriate target for that business.

[Brian Bittner:]

Okay, thank you very much.

[Steve Schmitt:]

Thanks Brian. Next question please, Christie.

[Operator:]

You have a question from the line of John Glass with Morgan Stanley.

[John Glass:]

Thanks. Can you talk about the brand re-launch and the timing of it, does that – is that contained entirely in the second quarter, was it just begin then and there are phases throughout the year. And related to that, I think most of us would assume that your sales would be the strongest in the first quarter given the last are the easiest, is that your view internally that you think maybe still strengthened through the year as these new initiatives take place instead?

[David Novak:]

Overall, our goal obviously is to build off the momentum that we had coming out of last year taken into this year and continually get stronger and stronger in terms of building consumer news and excitement for the brand. We are I think as I mentioned in my remarks, we are excited now to be able to take the offense and really start bringing forward lots of fund kind of promotions and the news that we have been I think well known for in the past. And we think that consumers will respond. We will be restating the brand and begin to restage the brand in the second quarter. It’s going to include several initiatives that will span across the year, but the big trust of the dramatic news will be in the second quarter.

[Pat Grismer:]

John, the other thing I would remind you of is that the things or sales for KFC were actually a bit worse in Q2 than in Q1, because that was in Q2 that we suffered the brunt of the publicity around the avian flu at the time.

[John Glass:]

Okay. Can you just comment about what did happen at Pizza Hut, it bounced back quickly, but there was still that anomaly in December, was it a promotional timing or some other calendar issue or was there a underlying consumer issue, did you ever identify what the cause of that weakness was?

[David Novak:]

We never had underlying consumer issue. I think Pizza Hut has just been strength on strength. The brand has never been more powerful. We have very little competition and we’re in the space pretty much by ourselves. We had our promotion that wasn’t as strong, sometimes that we have done in the past but it was basically a blip on the radar screen. We’re back on the path and we expect to have another excellent year with Pizza Hut Casual Dining. I think the thing that we’re most excited about is just a multiple variety that we offer. We have very unique space with Pizza Hut Casual Dining in a sense that you know people can come in, eat like a rich man, eat like a poor man everyday value, we have one on trades [ph], half price every day. This is the place people love to come, the ambience is fantastic. We’re getting day part leverage with our tea time. We’re excited, by the end of the year we will have at least 300 restaurants with breakfast which we think we can own that segment that segment is huge in casual dining in the United States and we think we can have a breakfast. By the way you can have a breakfast and two eggs toast and coffee with all the refills you want for the price of a Starbucks coffee. So it's pretty good value and it's damn good breakfast too and we’re also testing late night program where we sell liquor and other items. So I just think that this is a brand that we have been able to shape in a way that it makes it totally relevant in so many different way for our customers and we’re very enthusiastic about being able to overlap this past year’s results with another good year. And John we would definitely characterize December as an anomaly and as we mentioned that we’re back solidly and positive things for sales territory with the Pizza Hut Casual Dining business.

[Steve Schmitt:]

Thanks John. Christie next question please.

[Operator:]

You’ve a question from Keith Siegner of UBS.

[Keith Siegner:]

Just a question to follow-up on the China restaurant level margin given all the moving pieces including the productivity stuff. I was wondering if you can tell us a little bit more about the pricing? Talk a little bit about what fourth quarter softer [ph] was it labor and commodity inflation respected and also has the guidance for 2014 labor and commodity inflation changed from the December Analyst Day? Thanks.

[David Novak:]

First of all no change to the guidance we have given in December. With respect to the shape of our Q4 margin performance and what I would highlight is that we’re about five margin points of headwinds in the quarter but recently offset those with our productivity initiatives and with modest roll-over pricing benefits and to break it down a little bit further you know the five points of headwind we have two points from the transaction decline, one point of inflation which is essentially flat on food and high single digits, 1 point of pressure with our advertising spend and the 1 point drag from Little Sheep but that was fully offset with 4 points productivity that’s combination of labor and other as low as a point from roll over pricing.

[Steve Schmitt:]

Thanks Keith. Christie next question please.

[Operator:]

And a question from Joseph Buckley of Bank of America Merrill Lynch.

[Joseph Buckley:]

Two questions, could you put the 3% price increase that I think you were referring to KFC China that you took in perspective and maybe give us again what you’re thinking about labor and food cost in 2014 and secondly if you get China operating profits back to the 2012 levels it looks like about 30% operating profit growth and I think in early December you were thinking 40%. I realize you’ve got lots of ways to get to the full year EPS number but maybe just talk a little bit about that if you would.

[Pat Grismer:]

First to take the latter question, you know with the momentum we have in China entering the year we have a very clear path to 20% Yum! EPS growth for 2014. We do continue to target about 40% profit growth in China although our stronger than expected China led finished to 2013 obviously makes that bit more challenging but it's early in the year and we will continue to keep you posted as we always do. With respect to the pricing I did reference in my prepared remarks about 3 points of pricing that we took at the beginning of the year. We have no definitive plans for pricing actions, new pricing actions balance of the year but I will point out that the last time we took pricing with the KFC business was in December of 2012 early in the month. So it's been more than a year since we have taken pricing and we have observed all of the labor inflation and based on the strengthening that we have seen with the brand in market, importantly reflected in our consumer brand attribute scores. We felt that we were in strong position to take that pricing and we did it in a way that we feel consumers can absorb. With respect to what our inflation expectations on our balance this year entirely consistent with what we outlined in New York, which is low to mid-single-digits on food and paper and low double-digits on labor.

[Joseph Buckley:]

Thank you.

[Steve Schmitt:]

Thanks Joe. Next question please Christie.

[Operator:]

We do have a question from John Ivankoe of JPMorgan.

[John Ivankoe:]

A quick follow-up. Am I interpreting your comments right that the first quarter at China comp might be within your annual comp guidance range, is there a reason that, that wouldn’t be true either positive or negative to that range?

[David Novak:]

We didn’t comment on our range for China comp.

[John Ivankoe:]

No, I understand that, but it seems like it’s going well and it’s been at least you may be interpreted really some positioning relative to the annual guidance, especially as the second quarter is easier than the first quarter. So let me say this another way, I am giving you an opportunity to comment on 1Q comps relative to our annual guidance for China?

[David Novak:]

We don’t issue on quarterly comps.

[John Ivankoe:]

Okay. It is obviously, I mean you mentioned that it was tough for you guys to forecast the Chinese New Year that’s got to make even more difficult from our perspective, but okay, I will drop that. Secondly, we have seen businesses in developed markets that have really been transformed by technology, whether it’s royalty, whether it’s digital ordering, could you just kind of give us Yum! wide update or maybe by brands update in terms of how some of those initiatives may influence your ‘14 or ‘15 results?

[David Novak:]

Absolutely. Digital technology is one of the top strategic priorities for our company around the world for all of our brands, for all of our divisions the advances in digital technology remain an important goal. And to give you a sense for how we are attacking this, in China 70% of our delivery orders come from online orders and we see that percentage continue to grow with the advances we are making with not only our online, but also our mobile platforms. In our international markets, we currently have mobile ordering tests underway in three markets with our KFC business in France, the UK and Australia. As you know, we have a very large online ordering business with Pizza Hut here in the U.S. It accounts for about 40% of our total delivery orders and is over $1 billion in total annual volume. And then the other one I’d point out to as Taco Bell where we are very actively in development and test and preparation for a rollup later this year of a model ordering platform. So make no mistake, technology is among the highest priorities that we have in our company and all of our businesses are focused on ways that they can harness the power of digital technology to further differentiate our experiences for our customers.

[John Ivankoe:]

Thank you.

[Steve Schmitt:]

Thanks John. Next question please Christie.

[Operator:]

You have a question from David Tarantino of Robert W. Baird.

[David Tarantino:]

Hi, good morning. I just wanted to come back to maybe the China sales improvement that you have seen and maybe ask this a different way. I am sure you can appreciate, it’s tough for us to interpret the comments when you talk about improvement given the comparisons you are seeing, so maybe it would be helpful if you could just maybe talk at a high level about your plan for the year and whether you expect that the comps in the first half have been meaningfully different than the comps in the second half perhaps that would help us frame up how to think about the comparisons as you flow through the year?

[David Novak:]

As we have said before, there are multiple ways to get to our growth goal for the China business, so anywhere from high single to low double-digit comps and anywhere from one to three points of margin improvement. With respect to how that plays out across the year, yes, we do benefit from easier laps in the first half compared to the second half, but also don’t forget that with the launch of our comprehensive restage of the KFC business that we expect additional lift. So how that plays out across the year, we are not going to give quarterly guidance on our comps, but there are a number of moving pieces there. And I think the important thing is that we do have multiple ways of getting to our number to the point that as I said we are very confident that we are going to deliver that at least 20% EPS growth for Yum! and we continued to target at least 40% profit growth for the China division.

[David Tarantino:]

Okay, understood. And then maybe a follow-up or different question, given you have a lot of exposure in emerging markets and there has been a lot of concerns about the macro conditions in emerging markets recently. I was wondering if you could sort of comment on what your near term outlook broadly as for emerging markets as it relates to the macro conditions.

[David Novak:]

Well first of all I think we love the fact that we’re the leader in emerging markets and we also recognize it at the same time that emerging markets will have their ups and downs. They are still going to be growing their GDP and we’re on the 5% rate in the foreseeable future almost three times more than the developed countries. So we’re focused on doing in emerging markets is providing affordable everyday value making our brands more accessible, more affordable to the emerging classes as the incomes rise and I think the big store that we have for emerging markets is just development opportunity. You know I talked about how we only have four restaurant per million people in China versus the 60 we have in the U.S. well it's about two in most emerging markets. So but developed story is the big thing and we have very little competition in the emerging markets as well. I think our big challenge is just to keep making the brand accessible, keep making the brand affordable and recognizing that we will have some volatility in markets like that. Now one of the beautiful things about our business is that almost 90% of our growth outside the United States excluding China (indiscernible) of our franchisees and so we’re very selective where we put our, make our equity investments and we now have made some equity investments in Turkey just to accelerate growth. We sitting on a big growth opportunity and we need to accelerate it and so we made an investment there and we bought some stores in Africa so that we could help expand our African expansion. I think we’re in over 20 countries now in Africa and we see big opportunities in that country. So I think it's little tough right now in some of the emerging markets but we love where we’re at and we like being where the growth is going to occur.

[Steve Schmitt:]

Thanks David. Next question please Christie.

[Operator:]

You’ve a question from David Palmer of RBC Capital Markets.

[Eric Larson:]

This is actually Eric Larson for David Palmer. Maybe as a follow-on to the last question can you may be talk about emerging markets in the fourth quarter. Where there any brand or fourth quarter specific reasons for the slowing?

[David Novak:]

I think Pat mentioned that we did see a slowdown and you will see it from our earnings release that we saw a slowdown in Thailand and Africa markets and usually when that happens is specifically a combination of two things either not enough value if not enough new news. So the team is looking at both of those areas to improve that but those definitely were the markets we saw considerable slowdown in the quarter.

[Eric Larson:]

And then back to China, just a question on Little Sheep, seems like it was a big drag on the China margins and it represents just small percentage of sales. Was there any one time issues in fourth quarter loss and (indiscernible) maybe what are the issues that plagued the chain and what sorts of sales declines you’re seeing at Little Sheep?

[David Novak:]

We don’t report the results for the Little Sheep business separately. There were some extra charges I would say in the quarter which weighed on Little Sheep margins in particular and we’re just not going to report the results to that segment separately. It's not material to our business on a standalone base; it's not material for our China business on a standalone basis.

[Steve Schmitt:]

Thanks Eric. Next question please Christie.

[Operator:]

You’ve a question from Jason West from Deutsche Bank.

[Jason West:]

Sorry for beating a dead horse again on the sort of current trend but just want to be clear that you guys are seeing an improvement in the business particularly at KFC that’s independent of the shift in Chinese New Year because we know the New Year started about 10 days earlier this year but still didn’t start till the end of the month. So I just want to be clear that you guys were able to measure that, it's actually a real improvement excluding that shift.

[David Novak:]

That is correct.

[Jason West:]

Okay and on the margins on China you know again much better than expected performance there against a tough comp, you guys had talked about earlier in the year some productivity initiative. You talked again today about that, has there been another leg of productivity initiatives that has kicked in say during the fourth quarter and that could carry you throughout 2014 or are you still laughing still rolling in the things that had already been implemented and do we expect to see more of these initiatives that are needle moving like this throughout ‘14?

[Pat Grismer:]

Jason, as you know our team in China is continuously looking at ways to drive productivity to higher levels. So what we have dirked in the fourth quarter was a combination of a continuation of initiatives started earlier in the year as well as some new initiatives. And we see or we expect the same patterns across 2014. Bear in mind, one of the biggest benefits to China margin going forward certainly in 2014 is the rebound in transactions and then much longer term as we continue to add new layers to our business, including with digital, it’s about how we better utilized our assets to leverage the fixed cost of operating a restaurant. And over the long run, it’s that first that transaction rebound as we lack last year’s performance and then as we build new layers, it’s going to drive our restaurant margin to higher level.

[David Novak:]

Our overall expectation on margins is I think if we look at Taco Bell, I mean, we are really pleased in the fourth quarter margins in 20% in Taco Bell, that’s $1.3 million averaging volumes. So when you start getting the volumes back to $1.7 million and above, our expectations is we need to have very, very high margins. So we think we have tremendous upside from the margin front and we are not going to quit until we get to that 20% gold standard and we think we can hopefully beat that over time. So there is going to be a relentless quest to drive productivity out of leveraging our asset as has been investment will be in the future. I think one of the great things about 2013 is that nobody threw in the towel in China, okay. We went after the productivity as hard as we could. We have launched a lot of initiatives. We will have more coming and we are going to stay focused on it.

[Pat Grismer:]

And as always, we have recognized the importance of good customer service to maintaining our standing with our customers broadly. And so – and the important thing is that as we have undertaken these initiatives, we have not compromised.

[David Novak:]

I think that’s why I brought up the fact that we have the operational excellence that we have in China, the quality of our teams, the quality of our restaurant managers, training programs, the initiatives that we put in place. And I am really pleased that Taco Bell’s operational measures in the United States are top tier as well while we have gotten this margin improvement.

[Steve Schmitt:]

Thanks Jason. Next question please, Christie.

[Operator:]

You have a question from Sara Senatore of Sanford Bernstein.

[Sara Senatore:]

Hi, thank you. I just wanted to follow-up on China again not surprisingly, couple of things. One is on the price increase, I think in late 2012, we were all well concerned that maybe the pricing was off; you took a lot of price just as competitors were taking less? And then you saw an issue, potentially a quarter later with traffic filing, so I wanted to ask about that the timing with competitors that is doing whether you are worried about that? And then my second question is about unit growth, historically I know you talked about China units kind of plateauing and then stepping up again, I wanted to see if 700 is the right number for the foreseeable future and what that kind of requires in terms of Tier 1 and 2 units in order to hit that number? Thank you.

[David Novak:]

Absolutely, Sara. Well, first one on the pricing, as we have said in previous calls, the timing of our pricing actions in 2012 were out I think with what was happening with inflation – food inflation at that time. And so it was possible that, that created an issue for us, but we are – we feel very good about the pricing actions that we just took at the beginning of this year. And to our knowledge, others in the market are taking pricing and we are comfortable with where things stand with our brand given the consumer scores that we are reading and the overall momentum that we see in our business. So we don’t have any concerns about the pricing actions that we have just taken. With respect to our pace of development, we feel very good about the 740 units that we opened in 2013. And as we said, we expect at least 700 in 2014. We continued to execute our development strategy as we have outlined in previous calls and in our investor conference, where we are being more selective with our KFC units in the Tier 1 and the Tier 2 coastal cities as we skew our development increasingly to the Tier 3 through six cities, where the unit level economics are better where we see better investment returns. And then also skewing our development program increasingly to the Pizza Hut brand, which is strong – which offer strong returns to your cash paybacks really everywhere we operate. And just to give you a couple of numbers to put some context around this, when you look at 2012 total Pizza Hut development inclusive of both casual dining and home service was 27% of our total development program. In 2013 it was 40% and we expect that number to go up further in 2014. So it speaks to the power of our Pizza Hut brand in China and the strong unit level of economics that we have with that business and how we’re reorienting our capital investment program toward that brand. That’s not to say that we are not developing KFC because we continue to develop KFC at a high level as well but we’re spewing that development program increasingly to the lower tier cities where again we have better economics overall.

[Sara Senatore:]

Thank you.

[Steve Schmitt:]

Thanks Sara. Next question please Christie.

[Operator:]

You’ve a question from Howard Penney of Hedgeye Risk Management.

[Howard Penney:]

In the past when you’ve provided guidance through the construct of that guidance, does it include a safety net if I could use that to where if something didn’t go right during the year you could still hit your guidance. Does the China profit target of 40% and the overall profit of 20% includes some kind of safety net to allow you to get to those targets?

[Pat Grismer:]

When we construct our division targets we do have what we call local contingency so that it is part of the plan so that the teams have again just as we do at a company level different ways of getting to our 20% EPS they have different ways of getting to their number and they construct their plans in ways that gives them a breathing room.

[Howard Penney:]

So internally your plans are to hit above 40% and 20%?

[David Novak:]

As Pat said in his comments we’re at about the EPS of at least 20% and then just to repeat on the 40% because we came in the year a little stronger it could be more difficult to get to that 40% in China but we feel great about at least 20% EPS growth.

[Howard Penney:]

Thank you.

[Steve Schmitt:]

Thanks Howard. Next question please Christie.

[Operator:]

A next question from Michael Kelter with Goldman Sachs.

[Michael Kelter:]

I wanted to ask about the labor cost in China because they were down about 10% year-on-year per store this quarter and that’s inspite of labor inflation. So it seems your store hours are actually down a solid double digit rate at a typical restaurant in China. Does some of this need to come back when traffic comes back or was it all slack? And how do you gauge whether the reduced service is impacting the consumer experience as the traffic does comeback.

[David Novak:]

The assumption would be that we would have to add hours as traffic comes back I think that’s a safe assumption there. And in another piece of the mix is that we continue to look at operating hours and in cases we’re operating potentially in late night where the trade zone is not completely ready. We’ve taken a look at that and pulled back a little bit on some of the late night offerings that we have.

[Michael Kelter:]

And then maybe switching to Pizza Hut, you said you’re back to solid positive in China in January but the compare is real easy. You’re actually up against the minus 15% last January which was like a onetime thing that happened because of some calendar and stuff. Are your current trends good enough to suggest that Pizza Hut could be robust throughout 2014 against more normal compares?

[David Novak:]

It's January maybe it's still we’re second [ph] now. It's really early; we’re not into making any positions right now. So we feel comfortable about all of the planning, assessments or assumptions that we gave everybody in December. We feel very comfortable that we’re off for a solid start relative to what we expected and we’re confident that we can have a strong bounce back year. But I don’t think any of us are smart enough to tell you exactly how things are going to lay out for the balance of the year and I think that a big think I would like all of our investors to know so we know this is a show me don’t tell me year. This is a year where we got to put up the numbers, we don’t think any of these plans are easy it's not easy to gain 40% profit growth. You never turn around a brand until you turn it around but we really feel like we have got the building blocks in place now. So we’re setup to get this year back on the kind of bounce back that we want and we can keep growing at that at least from here on up and that’s really what we’re targeting to do and I understand why there is all kinds of questions about China and January. Those are totally valid questions but we’re basically telling you is we’re off to a pretty good start and we feel confident that what we talked about in December still looks like a high possibility to us and we will keep you informed as we go throughout the year but I would be jumping to any major conclusions.

[Michael Kelter:]

And if you don’t mind one last one, I had really just a big picture on the avian flu, I mean, you said there were some impact in the certain provinces even assessing national, given what happened last year, is there anything you are seeing that’s different this time around that makes it the right base case that avian flu won’t matter in 2014?

[David Novak:]

I would never say that. I would never say that.

[Michael Kelter:]

Well, I guess....

[David Novak:]

What we can build now is the response that we just shared with you, okay. It’s early, I don’t think anybody in our company or anybody in the world would be solely enough to make a statement like that.

[Steve Schmitt:]

Okay, thanks Michael. Next question please Christie.

[Operator:]

Yes, sir. You have a question from Jeffrey Bernstein from Barclays.

[Jeffrey Bernstein:]

Great, thank you very much. Just two questions. One, David, the restating of KFC, you talked about kind of most robust being in the second quarter, you mentioned a lot of initiatives and I can understand I mean I know you talked about products menu marketing and want to shed too much granular detail, but in order to prioritize what you think will be the most impactful or what the biggest opportunity is knowing where you are in the path to recovery, for example, is the biggest challenge price value or is it more about brand positioning, I am just trying to think about of all those initiatives you laid out there?

[David Novak:]

I think first of all, the opportunity to get on the offensive to really glorify the brand, have fun with the brand, bring consumer aside, I think overall, that’s the big for us that we have this year, but as we do that we are going to have significant menu revamp. (indiscernible) is the name of the game what you are really bringing to the marketplace that your customers can see and respond to. We are going to have a very significant menu revamp that will bring forward products that we know our Chinese customers are going to love and I think really brings some new energy and excitement to the brand. So I think it’s being able to take the offense in combination with menu revamp. Those are the two big things. And then we are going to amplify what we are doing through all consumer touch points and keep the news coming for a long time.

[Jeffrey Bernstein:]

And then…

[Steve Schmitt:]

Okay, Jeff, we have to get moving aside, we are running out of time. Christie, next question please.

[Operator:]

You have a question from Jeff Farmer of Wells Fargo.

[Jeff Farmer:]

And this is really just sort of getting back to the Chinese consumer, so I think it was last week chasing at least partially attributed some weaker demand for chicken in China to the reemergence of the avian flu concerns in January. So assuming this is true why do you believe that consumer demand for KFC has proven to be a little bit more resilient than that we might be seeing from some other chicken occasions in China?

[David Novak:]

Yes, I think it’s important to know we have nearly 30 chicken suppliers in China. So it’s hard to comment on what one particular supplier might say. But I think we commented as much as we can on what we are seeing on sales in China.

[Jeff Farmer:]

Okay, thank you.

[Steve Schmitt:]

Thanks. Christie, next question please.

[Operator:]

You have a question from Karen Holthouse of Credit Suisse.

[Karen Holthouse:]

Thanks for taking my question. So you mentioned in the comments on the fourth quarter that marketing spend was about 1 point headwind to the margin. As we look to 2014 and particularly taking into account the re-launch of the brand in the second quarter, how should we think about that as a headwind or tailwind this year?

[Pat Grismer:]

I would say overall, Karen, it will be a slight tailwind on a percentage basis, but we are expecting that in the aggregate we will be spending more on marketing and advertising in 2014 than we did in 2013, because our system sales will be up with the benefit of all the new unit development that we are doing.

[Karen Holthouse:]

Thank you.

[Steve Schmitt:]

Thanks Karen. Next question please, Christie.

[Operator:]

And your final question comes from the line of Andy Barish with Jefferies.

[David Novak:]

Hi Andy.

[Andy Barish:]

Hey guys. Can you address I guess the G&A numbers in the fourth quarter, particularly it looked like most of the decline came in the corporate unallocated, I assume some of that was incentive comp. And then how does that kind of form a base, if you could for 2014 say off of that $1.4 billion of total reported G&A. Are you still looking for kind of that 4% dollar increase for this year?

[Pat Grismer:]

We are, and you are right, that the fourth quarter favorability was largely due to lower incentive comp consistent with our pace for performance culture. And as I said in Europe, when you look at the 4% for 2014, it’s important to look at that on a 2-year basis, because there was a decline in 2013. And so when you look at the 2 years combined, it’s more in the range of 1% to 2% annually.

[Andy Barish:]

Okay.

[Steve Schmitt:]

Okay. Well I want to thank everybody for being on the call. We have recognized as I mentioned earlier that 2014 needs to be a show me don’t tell me year and we’re very confident that we have a strong bounce back year ahead for Yum! Brands of EPS of at least 20%. As always we will keep you informed along the way as we have any new news we will be clear and transparent unless you know what’s going on but I’m personally very excited about this year and the whole of our teams I can assure you are really dedicated to bringing it home. So thank you very much.

[Operator:]

And thank you all for participating in this morning’s conference. You may now disconnect.