KFC marches to a different
drumstick in China By Fraser
Newham
SHANGHAI - In Japan, Christmas
belongs to the Colonel. The Japanese have their
own take on Christmas, and, inspired by visions of
a European Christmas table heaving under the
weight of poultry, gravy and mash, for many
Japanese Christmas dinner this year will once
again come courtesy of KFC. "Let's start the
special party!" sing the chain's December TV ads.
Meanwhile, across the East China Sea in Shanghai, KFC's China
execs may not yet be able to report the annexation
of Christmas -
but
in their Christmas cards home to Yum! Group
headquarters in Louisville, Kentucky, they will
be, despite a few discomforting moments, reporting
yet another profitable year.
Yum! is,
despite its relative obscurity, a powerhouse in
the global fast food industry. The firm was
created on October 7, 1997, when PepsiCo spun off
its restaurants division as a separate company,
Tricon Global Restaurants Inc, which included the
KFC, Pizza Hut and Taco Bell chains. When the
company acquired the Long John Silver's and
A&W All-American Food brands in March 2002,
the decision was made to change its name to Yum!
Brands, reflecting both the breadth of
the firm's dining portfolio after the acquisition,
and its NYSE stock ticker designation: YUM.
Yum! has already left a deep imprint on
the Chinese economy. KFC was the first Western
fast-food chain to enter the mainland market, back
in 1987, and Yum! claims that a drive-through KFC
opened in 2002 was China's first-ever restaurant
of that type. The company can also claim credit
for China's first pizza chain restaurant, when its
initial Pizza Hut opened its doors in 1990.
For Yum!, the results in China just keep
getting better; the company already opens more new
restaurants there in a year than in any other
market. In 2004, Yum! China recorded operating
profits of US$200 million, a 20% increase on the
previous year, and when this year's figures are
released shareholders will be anticipating more of
the same. Remarkably, the group now earns more
from its China division (which includes Taiwan and, curiously,
Thailand) than it earns in the US; and at a time
when the fast-food sector at home is still
struggling to adapt to increasingly
health-conscious consumers, it is the super-sized
profits coming from China that have caused the
value of Yum! stock to double since 2003.
As of August 2005, the China Division
boasted 1,800 branches of KFC, of which 1,378 were
found in mainland China, spread across 280 cities.
At the same time, Chinese consumers could choose
from a total of 180 Pizza Huts across the mainland
in which to learn to appreciate the taste of
cheese, albeit liberally coated with Tabasco. More
recently, Shanghai and Shenzhen have seen the
arrival of Taco Bell Grande - and "East Dawning",
a Yum! China innovation aiming to sell local food
in a KFC-style environment, has also opened its
doors in Shanghai. In all, the group employs
85,000 workers across the region, frying chicken
and mopping floors from Harbin to Hainan (not to mention
Bangkok and Taipei).
While these may be
early China days for Taco Bell Grande and East
Dawning, there is no questioning the almost
shocking popularity of the KFC and Pizza Hut
chains. KFC has twice as many China outlets as
McDonalds (currently numbering around the 700
mark); not only that, the Colonel seems to have
won the war for Chinese
taste buds, with even the McDonalds menu showing a
bias toward chicken options.
KFC is also
setting the pace in offering special items
directly aimed at local tastes - the menu
currently boasts a "Beijing Duck Wrap", served
with scallops and hoisin sauce; chicken skewers
that come with the cartilage; and in the morning,
bowls of congee (rice gruel) - presumably none of
these are prepared according to the Colonel's own
recipe. Pizza Hut, for its part, pushes crust-less
pizza and does a roaring trade in fruit-heavy
salad; "fruit pizza", meanwhile, allows customers
to grab pizza with their friends without having to
eat cheese at all (many Chinese still find it
distasteful).
At the same time,
anti-American sentiment notwithstanding, both
brands continue to benefit from their association
with the American lifestyle, and all the glamor
this implies. The arrival of the first KFC in a
provincial Chinese town is very much a local event
- amused passers-by pose by the roadside for
photos with the fiberglass Colonel Saunders, and
the opening months tend to see waves of customers
piling in to sample a finger-licking American
experience. Meanwhile, Pizza Hut has, with its
notably smart decor, successfully positioned
itself as a more upscale option than in the West;
the chain has become a place to be seen rather
than a place to pile on the carbohydrates. An
afternoon tea option is currently popular with the
credit-card wielding Sex-and-the-City set, who
pick at cheesecake and play ostentatiously with
their mobile phones. The perception that the
brands are glamorous also helps with staff
recruitment - 80% of KFC managers in China are
college graduates.
Significant levels of
investment have played their part too. KFC entered
China early in 1987, declaring its intent by
building the largest KFC in the world just off
Tiananmen Square. Since 1997, the year of the
group's spin-off from PepsiCo, Yum! has invested
US$750 million in its China division - and if
reliable infrastructure to allow the necessary
expansion was lacking, the group built it; Yum!
still runs its own warehouses in Beijing and Shanghai.
"China is the only country in the world where we
manage our own distribution," says Ric Carucci,
the group's chief financial officer.
No
question, Yum! is a China success story. But 2005
certainly had moments that the group's executives
would like to forget. The discovery in March of
the carcinogenic red dye Sudan I in two KFC
products sold in China, New Orleans chicken wings
and chicken hamburgers, saw profits for the second
quarter fall by 30% compared to the previous year.
(The company maintains that the dye was actually
put into pepper seasoning by a Chinese
subcontractor.) Meanwhile, in the second half of
the year, public anxiety over bird flu has had an
impact of its own - and this situation could get
worse.
Health scares pass (we hope). But
some analysts have argued that Yum! China's recent
stutters in fact point to more fundamental
problems facing the brand. While focus-group
research during the summer showed that consumers
were forgetting about the Sudan I scare, sales
figures were still not recovering, says John
Ivankoe, an analyst with J P Morgan Securities.
"Fears of cannibalization and/or honeymoon impact
from the softening of high volume openings cannot
be ignored," he says.
Available profit
figures for 2005 are hard to interpret clearly,
with the Sudan I incident causing not only a
hard-to-quantify dip in second quarter profits,
but also an artificial surge in the third when
substantial compensation payments were received
from the unnamed supplier responsible. Adding to
the uncertainty, Yum! China doesn't publish
figures for same-store sales, where evidence of
the sorts of phenomena Ivankoe raises would show
up most clearly. The share price, meanwhile, has
plateaued around the $50 mark.
It could be
that, in major urban areas, market saturation is
being reached. In downtown Shanghai or Beijing,
KFC is certainly no longer a novelty; the days are
long gone when Shanghainese families planned a
visit days in advance, inviting their friends to
sample a Western experience. These days, the
brand's selling points are - as in other mature
markets - convenience, taste and value for money.
Competitors now include the guy selling noodles at
lunch time from a hole in the wall; though of
course, with the coming of "East Dawning", Yum! is
looking to strong-arm the noodles market too.
But saturation at present is the exception
rather than the rule. "We feel confident of
maintaining this pace [of expansion]," says Sam
Su, president of Yum! China. "I don't think we're
anywhere near saturation in China." Ultimately, Su
believes, China can support tens of thousands of
KFCs; by the group's own calculations 800 million
Chinese can't even afford to go there yet. But one
day, they too will probably also want to try the
deep fried American dream for themselves. In the
big cities, meanwhile, the drive-through and
delivery markets are in their infancy; in the same
way the practice of franchising is only just
beginning in China, and, according to most models,
when fully developed should drive up the company's
profits.
In China the Colonel may not yet
own Christmas; but, with Yum! stock holding its
value even after a fairly challenging year, for
shareholders this festive season, the group's
China division remains a source of considerable
comfort and joy.
both the breadth of
the firm's dining portfolio after the acquisition,
and its NYSE stock ticker designation: YUM.
war for Chinese
taste buds, with even the McDonalds menu showing a
bias toward chicken options. 
