But then a combination of marketing miscues, food safety scares, stronger domestic competition and changing Chinese consumer tastes turned Yum’s great success into a major headache.
The food safety scandal at KFC a few years ago was particularly damaging. Sales at KFC have yet to recover to pre-scandal levels.
In response to these problems and activist pressure from Corvex Capital’s Keith Meister (who now sits on the board), Yum decided to split the company.
In October, Yum announced it would spin off Yum China (tax-free to shareholders) as a separate publicly traded company. The remaining company would be a more stable business based mainly on its U.S. business.
And now Yum says it will sell off a piece of its China business altogether.
Yum in Talks With KKR and Others
The company is said to be in discussions with private equity firm KKR & Co. (NYSE: KKR) about a sale of up to 19.9% of Yum China. The deal would value Yum China as a whole at around $10 billion.
That valuation shows how the mighty have fallen. That figure is less than a third of Yum’s market capitalization. Yet China accounts for 40% of the company’s total profit.
KKR makes sense as a partner. It has been particularly active recently making deals in Asia.
It participated in a $300 million financing for a subsidiary of 58.com (NYSE: WUBA). Last fall, KKR also announced partnerships with five food-related Chinese companies. So an investment by KKR into Yum China seems a natural fit.
KKR doesn’t have the field to itself though. Also reportedly interested in investing into Yum China are several China-based funds (including the country’s sovereign wealth fund), as well as Baring Private Equity Asia.
Changing Chinese Consumer Tastes
Whatever entity Yum comes to term with, it will be crucial for the company. Yum needs a solid anchor investor for Yum China.
Why, you may ask? It’s because Chinese consumer tastes are changing. Yum China may never see a return to its glory days.
A 2015 study by the consultancy McKinsey showed that Chinese consumers are keen to upgrade to premium products. Even when it comes to food, Chinese consumers are intent on upgrading the quality of the foods they eat.
Source: Financial Times
There is a growing aversion to products seen as less healthy or even harmful. That’s not a good trend for Yum with the food scandal still fresh in the mind of many Chinese.
Specifically with regard to Western fast food, the McKinsey survey showed a drop of 7% in popularity from the 2012 survey. That means Yum China will be swimming against a strong tide in trying to grow its business.
Already, Yum China’s growth is no longer based on existing store sales. Its growth now comes solely from new store openings.
From an investment standpoint, I’m still a great believer in China – and especially the Chinese consumer growth story. They are still buying lots of things. But the Chinese are no longer eating in great numbers at KFC and Pizza Hut, and likely will not in the future.
Perhaps the Chinese will develop a fondness for Taco Bell, which Yum is bringing to China by the end of 2016. But with their growing aversion to Western fast food, I doubt it.
To me, there will be many other better Chinese consumer plays than Yum China.
This article is brought to you courtesy of Tony Daltorio from Wyatt Investment Research.