On Tuesday, Yum! Brands announced that it will split into two companies -- Yum! China and Yum! Brands. Yum! China will become a franchisee of Yum! Brands in mainland China, and have exclusive rights to own and operate restaurants based on the KFC and Pizza Hut brands. While not yet in China, Taco Bell is also part of the franchise arrangement in China, suggesting tacos and burritos could at some point arrive there.
The other entity, Yum! Brands, will focus on expanding the presence of KFC, Pizza Hut and Taco Bell brands around the world. According to the company, it will become more of a "pure play" franchise operator over time, and it wants at least 95% of its restaurants to be owned and operated by franchisees by the end of 2017. Yum! currently runs about 6,900 KFC and Pizza Hut locations in China and owns most of them.
No projection was given on the amount that the spinoff, which is expected to be completed by the end of 2016, will bring, though the company said "substantial" capital will be returned to shareholders. The proceeds could be used for a special dividend, or they could be used to repurchase shares of a company that has fallen about 2% in value this year largely due to its lackluster results in China. Yum!'s troubles in China are due to food safety scandals and rising competition.
Share repurchases may be the best option for Yum! Brands. The company stands to become a more profitable entity over time as it franchises more of its restaurants, as opposed to operating them directly, which is a higher cost option.
Investors seemed to like the move, as Yum! shares rose about 4% in premarket trading and remained 3.7% higher in midday trading Tuesday. Yum! Brands could not be immediately reached for comment.
Activist shareholder Keith Meister of Corvex Capital, who was added to Yum's board on Oct. 15, has been a vocal advocate of Yum! spinning off its China operations to better focus on its business there. According to Yum! Brands, Corvex owns nearly 5% of the company.
The decision by Yum! Brands to not participate directly in China's fast food industry comes after a severely challenging third quarter for the company in the country. Same-restaurant sales for China gained 2%, far below consensus estimates of 9.7%. KFC China's same-restaurant sales rose 3%, while Pizza Hut China sales fell 1%.
Ongoing weakness in China sparked a nasty revision to full-year earnings guidance on Oct. 15. Yum! Brands expects its full-year earnings-per-share growth, excluding special items, to range from flat to a low-single-digit percentage for the full year. Previously, the company projected low-single-digit percentage EPS growth.
According to Creed, KFC China's results in the third quarter quarter were harmed by a too-big menu that slowed service times. At Pizza Hut China, the list of problems was lengthy. Creed pointed to greater competition from upstart online pizza ordering businesses, a slowing Chinese economy, and misguided promotions that didn't emphasize affordable prices.