Yum! Brands Inc. F4Q08 (Qtr End 12/27/08) Earnings Call Transcript

 |  About: Yum! Brands, Inc. (YUM)
by: SA Transcripts


At this time, I would like to welcome everyone to the 2008 fourth quarter earnings conference call. (Operator Instructions) I will now turn today’s conference over to Mr. Tim Jerzyk, Senior Vice President of Investor Relations and Treasurer.

Tim Jerzyk

Good morning, everyone. Thanks for joining us today on the call. This call is being recorded and will be available for playback. We are broadcasting the conference call via our website at www.yum.com. 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.

I would also like to advise that this conference call includes forward-looking statements that reflect management’s expectations based on currently available data. However, actual results are subject to future events and uncertainties. The information in this conference call related to projections or other forward-looking statements may be relied on subject to the Safe Harbor statement included in the earnings release last night and may continue to be used while this call remains in the active portion of the company’s website.

In addition, we would like you to be aware that our next earnings date will be Wednesday, April 22, which would include first quarter earnings release.

On our call today you will hear from David Novak, Chairman and CEO, and Rick Carucci, our CFO. Following remarks from both, we will take your questions. Now I would like to turn the call over to David Novak.

David C. Novak

Good morning everyone. I am very pleased to report 14% EPS growth for the full year 2008, which once again exceeds our annual target of at least 10% growth and represents our seventh straight year of at least 13% growth. Our China and YRI Divisions, which now account for 60% of operating profit are a major factor in driving this consistency of performance.

2008 was no exception as we opened a record 1,495 new restaurants outside the United States, generated worldwide same-store-sales growth of 3% and worldwide operating-profit growth of 8%. Importantly, our return on invested capital improved by roughly one point to an all-time high of 20%.

For the first quarter our operating-profit growth was an impressive 17% in an environment of declining economic trends, particularly in the United States. We generated worldwide system-sales growth of 6%, excluding foreign currency translation with strong international new-unit development and worldwide same-store-sales growth of 3%.

Looking at China, our business continued to perform well. Unit development is on track with a strong 18% new-unit growth in mainland China, which surpassed the 3,000 unit mark while also achieving same-store-sales growth of 1% resulting in division operating-profit growth of 18%.

It is important to note in the first quarter we were lapping extraordinarily year-ago results, including mainland China same-store-sales growth of 17% and division operating-profit growth of 44%, the best quarterly performance in the division’s history, which makes China’s first quarter performance even more impressive.

In December, applies-to-apples, we were down 1% same-store-sales growth on top of 23% versus year-ago. I don’t know of one business that wouldn’t be happy with that, especially given our rapid expansion. Our China business remains the best restaurant opportunity in the world.

Next, our YRI business continues to produce strong results with the first quarter capping off a year with record new-unit development of 924 units for the year and strong same-store-sales growth of 5% in the quarter, which was one point better than the third quarter, resulting in 8% operating-profit growth in local currency terms.

Finally, we were also pleased with our U.S. business which generated same-store-sales growth of 2%, the sixth straight quarter of positive growth, improved margins by nearly two points, and operating-profit growth of 7% in the first quarter.

So 2008 clearly ended well. Let me now give you my perspective on the overall business as we look forward to 2009. First, let me point out that the fundamentals that have driven seven straight years of at least 13% EPS growth are still solidly in place for Yum! Brands.

We are on the ground floor of a huge long-term growth opportunity in China, we have ever-increasing growth opportunities in YRI, and finally, our U.S. business, an area of our company that has underperformed in the past, is set up for much-improved performance in the future as we have made tremendous progress on building new incremental sales layers that better leverage our assets and have substantially reduced our U.S. G&A costs by $60.0 million, or an 11% reduction.

At the same time we face the short-term reality in the global economy that will make 2009 a very challenging year. As we showed you in our New York Investor Update Meeting in December, we are sharpening our value offerings and continuing to expand our new incremental sales layers to succeed in this environment.

Now let me address three questions that we are hearing from our investors. First, can our China business continue to grow at a strong rate if the economy continues to slow down? Now, there is no question the China economy has slowed down. However, it is still the fastest-growing major economy in the world. Now while we’re not economists, here are some key points worth mentioning.

The recent slowdown has been driven more by the decline in exports versus a change in consumer spending, which now makes up a large component of China’s GDP growth. While there are a number of statistics and reports circulating, we watch retail sales that were still up 19% in December, down from 23+% midyear, and while some predict China retail sales will see low double-digit growth by mid-2009, there is a huge stimulus package with spending already underway on infrastructure projects.

Like I said, we are not economists and we certainly recognize that the China economy is not booming as it once was, but solid growth continues and the slowdown may not be as severe as some reports predict. In any scenario, our brands are well positioned to perform.

Looking at our overall business in China, our pricing has always been expensive when the average income for the total population is considered. However, the middle class, our typical consumer, continues to grow in size, along with their incomes. So our average guest check at KFC of around $4 and our average guest check at Pizza Hut at around $20 are more accessible to more consumers today than they were a year ago.

Still, we expect consumer sentiment to be down, along with the GDP growth rate, which is why we reduced our operating-profit growth target from our ongoing 20% target in China to a range of 15% to 20%.

Remember, our development pace, currently an 18% growth rate, includes new units already in the ground and should generate approximately three-quarters of China’s operating-profit growth target for 2009. The rest should come from more modest same-store-sales growth of around 5% and G&A leverage.

Longer term, we have significant competitive advantages, which are very much to our benefit and our China self-funds our high-return new-unit growth so we can keep the pedal to the metal to fulfill long-term demand. Let’s not lose sight of this country’s great long-term potential with 1.3 billion people and a huge middle-class population of roughly 300.0 million people today.

Bottom line, the macros of 6% GDP growth obviously are as good as double-digit growth that we saw in the past, but it’s still the fastest growing major economy in the world. We think we can continue to build leading brands in every significant category. In the end, we continue to believe that our China business will have more units and generate more profits than our U.S. business one day.

While the near term is more challenging we sure are glad that we are in China with such a great team operating such great brands and we expect that we will improve our competitive position and grow profits by 15% to 20% in 2009.

Next question. Is the global economic slowdown going to impact YRI’s growth? Here again, YRI’s results in the first quarter were strong, including significant development of 404 new units in the quarter and same-store-sales growth of 5%, which as one point better than the third quarter. The good news is that we are on forecast as we start the year.

Remember, new-unit development, marginally driven by our franchisees generates about half of YRI’s operating-profit growth target of 10% and we have 924 new units from 2008 in the ground and 900 more planned for 2009. The balance of YRI’s operating profit growth should come from same-store-sales growth of 3% to 5% and leverage on our existing G&A structure.

As you would expect, like all business, there is some nervousness in our franchise community about the credit markets but we haven’t seen noteworthy impacts to our franchise new-unit development plans to date. And just like China, our long-term competitive advantage is huge given the fact that we only have one major competitor in many international markets and in this environment there will be fewer and fewer companies attempting to become international.

So YRI has held up remarkably well in this challenging global economic environment. We are confident we will be able to deliver our target of 10% profit growth in 2009 prior to significant headwinds from foreign currency translation that will be reflected in our reported results.

Now the last question. Will the U.S. continue to be a drag on Yum! earnings? Here’s where we are more pleased than ever that we got ahead of the sales challenges almost everyone in our industry faces. We took actions to reduce our G&A cost structure for the long term and strategically we are sharpening our value positions and developing major new sales layers with each brand which will drive long-term asset utilization. So there is no question that we are focused on the right fundamentals that should drive profitability.

On the cost side, we have taken actions to reduce $60.0 million of G&A expenses, or an 11% reduction, which will alone drive nine points of profit growth for the U.S. business.

With respect to our brands, first Taco Bell is a Mexican-inspired powerhouse brand that owns the value position in the QSR category and is positioned to do well in this environment. And remember, Taco Bell now represents 60% of the United States’ profits. Our new sales layers with the Why Pay More value menu and Fruitista Freeze continue to perform well and we have lots of news planned for the year.

We see our biggest challenge to be Pizza Hut and KFC, which are off to a slower start that we had expected because these brands focus on the higher-ticket dinner occasion, which is under the most pressure due to customers doing more cooking at home. The good news is is that we haven’t yet launched our big marketing guns and we don’t expect one month of the year to predict our full year performance. It’s just too early to draw any conclusions.

For example, Pizza Hut just launched lasagna, which tested well in this environment and has generated excellent consumer response. Wing Street also continues to grow, ending the year with 2,063 units in the ground, as we move towards the 3,000 unit level, which allow for national advertising of Wing Street wings at Pizza Hut later this year. We are more confident than ever that our quality pasta and award-winning chicken wings will totally transform the Pizza Hut brand over time.

KFC clearly has the most ground to cover and our January sales were extremely poor. However, we just went on air with our freshness campaign, highlighting our quality and featuring a $3 per person meal promotion. The fresh message drove positive results in Australia and test markets here in the U.S. Next week we will be launching our first ever nationwide and nationally advertised value menu and in April we will launch the successfully tested Kentucky Grilled Chicken.

As you know, KFC was our only underperforming business in 2008 and we have a lot of wood yet to chop. But given all we have planned, we are confident our performance will start to steadily improve beginning in the second quarter.

So bottom line, it is early and while our plans are definitely back-end loaded, we expect our U.S. business will achieve about 15% profit growth.

Finally, I would like to remind you that we have a remarkably strong free cash flow and a balance sheet which allows us to continue our dividend program and gives us the freedom from any dependence on the credit markets in 2009.

Let me wrap up by saying we continue to expect that the strength of our global portfolio will once again allow us to deliver at least 10% EPS growth in 2009 which will represent our eighth straight year of double-digit growth. Looking at the long term, I am more optimistic than ever about our growth opportunities.

So now let me turn it over to our Chief Financial Officer, Rick Carucci, to give you the financial update.

Richard T. Carucci

In this section of the call I’m going to comment on three items: our 2008 full year results; our 2008 fourth quarter results; and our outlook for 2009.

Starting with our full year results I would like to highlight Yum!’s progress regarding three key drivers of shareholder value: same-store-sales growth; new-unit growth; and high return on invested capital.

First, worldwide same-store-sales growth of 3% in 2008 is the best full year result since spin-off and marks the eighth straight year of worldwide same-store-sales growth.

Second, we continue to expand our business around the world, opening a record 1,495 new international restaurants. This equates to opening more than four new restaurants per day outside the U.S. and exceeds the 2007 level by more than 125 new units.

And third, Yum! improved its return on invested capital in 2008 to 20%, marking the fifth straight year Yum! has increased its ROIC. Yum! continues to be an industry leader in generating returns on invested capital.

We are very proud of our track record of achieving global growth while also demonstrating financial discipline. We believe that this combination allows Yum! to consistently drive shareholder value for our investors.

Now let’s move into the fourth quarter results. In the fourth quarter of 2008 the China Division delivered system-sales growth of 15%, excluding foreign currency translation. This growth as driven largely by mainland China net unit growth of 18% and mainland China same-store-sales growth of 1%.

Fourth quarter margins were down 1.5 points primarily due to continued high commodity inflation. This resulted in fourth quarter operating-profit growth of 8% prior to FX translation.

When looking at China Division’s fourth quarter results it is important to take into account the truly exceptional results achieved in 2007. As David just mentioned, we lapped the best quarter in the division’s history. In fact, during last year’s call at this time I commented upon how special those results were. I mentioned that the mainland China same-store-sales growth of 17% in Q4 of 2007 was unexpected, especially in light of achieving net unit growth of 21%.

Given the strong results we were lapping in the second half of 2007, it makes sense to look at two-year growth rates to gain a greater understanding of China trends. When examining two-year trends for the China Division’s system-sales growth you will find that fourth quarter growth was 49%, just three points below the first half’s strong results, an improvement of four points over the third quarter.

Yum! Restaurants International posted solid results in the fourth quarter. YRI generated strong top line performance with 5% same-store-sales growth and 5% net-unit growth. This generated systems-sales growth of 9%, which is actually slightly above our full year growth rate.

Profits were up 8% on a constant currency basis. Importantly, YRI’s fourth quarter results are more impressive when you consider the loss of a valued-added tax exemption in our Mexico business. Excluding the impact of the VAT, YRI profits were up 16% on a constant currency basis.

It is important to note that YRI’s reported fourth quarter operating profit was negatively impacted by $13.0 million due to foreign currency translation, or ten points of growth.

Our established presence in numerous growing markets, together with our franchise business model, make YRI a crucial part of Yum!’s overall growth story and we are pleased that this business maintained momentum in the fourth quarter.

For the fourth quarter, U.S. system same-store-sales growth of 2% was driven by strong performance of Taco Bell of 9%, partially offset by Pizza Hut which was down 1% and KFC which was down 3%.

While commodity inflation remained relatively high at $32.0 million, cumulative pricing actions finally caught up to this inflation and facilitated fourth quarter restaurant margin improvement of almost 200 basis points.

Solid sales growth and improved restaurant margins led to profit growth of 7% for the quarter. This was driven by strong profit results during the quarter at Taco Bell and Pizza Hut, capping strong overall results for these brands in 2008 as their sales growth initiatives gained traction with consumers.

On the financial side, Yum!’s fourth quarter results were significantly impacted by a higher effective tax rate and increased interest expense, partially offset by a reduction in average diluted shares outstanding. These negative financial impacts were more than offset by a $33.0 million reduction in corporate and unallocated G&A expense when excluding special items.

This reduction was due to the lapping of higher annual incentive compensation and strategic project timing in the fourth quarter of 2007 and accounted for ten points of the 17% operating profit growth in the fourth quarter.

Now I would like to talk about 2009. In the December Investor Meeting we gave a pretty thorough review of our expectations for 2009. Today I will provide some perspective on how our early results coincide with that outlook.

First let me make a comment about the first quarter. Let’s remember that our plan for growth in 2009 was significantly back-end loaded. As mentioned in the release last night, a number of items that will impact our overall 2009 growth have a disproportionate impact on our first quarter results.

Please note, one the majority of full year commodity inflation is expected to occur in the first quarter. Two, the financial benefits of the G&A restructuring announced in the fourth quarter will not be fully realized until the second quarter. Three, KFC in the U.S. does not expect significant improvement until the launch of Kentucky Grilled Chicken in the second quarter. And four, China is lapping exceptionally strong performance in the first half of 2009.

We are still early in 2009 but please keep in mind that we have not changed our full year expectations for profit growth for our key segments or for Yum! overall.

I will now discuss how sales are coinciding with our December expectations. Let’s start with China. Given the timing of the Chinese New Year and other factors, it is very difficult to get a read on China’s sales performance right now, however, I would best categorize the actual sales since our December meeting as roughly in line, to slightly below our expectations.

Our brands have distanced themselves from competition and are stronger than ever as we remain extremely confident of our China business model. Our competitive position continues to improve. KFC ended 2008 with about a 1,500 unit advantage versus our nearest competitor. This lead was only about 225 units in 2002. In addition, our new KFC stores throughout the country continued to perform well with cash margins of nearly 25% and projected internal rates of return of about 30%.

We view the current slowdown in the Chinese economy as only a short-term issue. We do not know exactly how the Chinese consumer will react during the next several months to the economic slowdown. However, we are not changing our approach to new unit investment or other long-term decisions.

With 3,000 restaurants today, Yum! only has about two restaurants per million people in China versus 60 restaurants per million people in the U.S. this continues to create a substantial opportunity. We expect the Chinese middle class to continue to grow at a rapid rate as the economy continues to grow.

The World Bank forecast that the Chinese middle and upper classes will grow at about 9% annually through 2030 and reach 900.0 million. While this growth may get bumpy at times and may not remain as smooth as in the recent past, we are still in the early stages of penetrating this massive market of 1.3 billion people.

With our improving competitive position, great new-unit returns, and a rapidly growing middle class, we will continue to build units at a rapid pace in China.

Let’s briefly turn to YRI. As I mentioned earlier, sales continued to perform well in the fourth quarter of 2008. These strong results were posted across a broad geographic range, as shown in the new chart in the earnings release. So far in fiscal 2009 we have seen sales broadly in line with both recent trends and our December expectations.

The biggest unknown for YRI in 2009 remains the impact of foreign exchange. In December we expected a negative $80.0 million impact on YRI’s full year reported profits. We currently expect about a $25.0 million negative impact in the first quarter. Overall, we remain quite pleased with the competitive position and prospects of our YRI business.

For the U.S. business in 2009, we previously communicated that we expected profit growth of 15%. This is driven largely by G&A cost savings that will make up about 9 points of the growth. David has already commented that U.S. sales started the year below our expectations, especially in the higher ticket dinner occasion.

In the U.S. our current expectations versus December also include the following: lower than expected sales in the first quarter; a tougher overall environment for sales in 2009; and better commodity costs, especially in the second half of the year.

So how does this all add up? When we met in December we did provide most of the pieces that would impact our Q1 results. This translated into a mid-single-digit decrease in Q1 2009 year-over-year operating profits. From where we sit today there are probably more potential downsides than upsides to this Q1 operating profit scenario.

On a full year basis, we have not changed our outlook. We expect to build our consistent track record in 2009 and achieve at least 10% EPS growth.

We have a strong balance sheet and substantial cash flow, which help provide tremendous stability. We believe we have a business model that allows us to be a company that will deliver global growth in today’s environment while also building for the future.

We look forward to generating substantial shareholder value by maintaining a passionate focus on generating same-store-sales growth, new-unit development, and industry-leading ROIC.

Back to you David.

David C. Novak

I want to thank our team around the world for the results we generated in 2008. We are really proud of the results, the fact that we delivered 14% EPS growth. We are even prouder of the fact that we have exceeded our 10% earnings per share target for the past seven years, one of the very few companies that have done that. And finally, we expect to deliver at least 10% EPS growth in 2009. We are proud of our track record and we intend on keeping it.

So with that, what we would like to do is take any questions that you have.

Question-and-Answer Session


(Operator Instructions) Your first question comes from David Palmer – UBS.

David Palmer - UBS

With regard to your outlook, you said there were these sort of pistons to your earnings, where you had the consumer might be weak but commodities may also be weak in that sort of an environment. And it seems like dairy has come off a good bit since the outlook but it also seems like for many, many companies, even in the consumer products world within food retailing, that December and January for the consumer was a different thing than it was before. That said dairy has been much better than you would have thought as well. Maybe there is also something to the fact that chicken prices in China, for instance, might be coming off and inflation in general in that market may be better than it once was. So could you wrap that up, talk about those different levers and to what degree does one offset the other?

Richard T. Carucci

I will try to do this a bit by division and then come back to the total because you’re going to see similarities.

If you see YRI, we have basically seen ourselves hold up pretty much consistent with the levels we had before December and January, so we have been encouraged by that. We do expect some reduction in commodity costs in the second half of the year versus where we were before, but yes, I think it is likely in most places around the world that there will be some correlation between sales and commodity growth. If there is weaker demand you expect there to be a weaker demand for commodities and therefore lower prices.

In China, we sort of talked about what happened to the sales. David went through that in some depth. Sales are sort of hanging in versus what we were expecting. Maybe a little bit down, depending on the week we’re talking about. Again, we expected commodity inflation to be higher in the first half of the year. We see that still being the case. In fact, we probably see the second half of the year looking better in China as well as where we were in December at the analysts meeting.

And then the U.S., same story. We probably saw a little bigger decline in sales than we expected in the second half of January versus where we were at the December time frame but we also have seen commodity costs getting better, significantly better in the second half of the year is our guess at this time.

Obviously very fluid. It’s fairly hard to predict in this environment but I do believe that if we get sales softness we will likely get commodity upside.


Your next question comes from John Ivankoe - J.P. Morgan.

John Ivankoe - J.P. Morgan

A question on China and your infrastructure build in that country. Obviously the fourth quarter G&A was only up a couple of million dollars and in constant currency, if you’re seeing that it affected G&A the same as it did your operating profit, it may have actually been down in dollars in the fourth quarter. Is China in a position now where you can begin to leverage the last couple of years of infrastructure growth or is the unit growth that you are still pursuing in the market dictate that your G&A still grows roughly as a percentage, or slightly less than a percentage, of sales?

David C. Novak

If you look at what’s happened historically in China with G&A and revenue growth, they’ve been roughly traveling at the same rate, if you go back over a five-year period. What we could have said about six months or a year ago, is we do believe we should start to get some leverage on the G&A line. We are still going to be growing G&A in real terms in China but it should be at a rate that is below our rate of revenue and therefore we do expect some leverage on the G&A line. Not huge amounts but it should help our business model over the next several year periods.

John Ivankoe - J.P. Morgan

One of your competitors talked about pulling back some of the tier-4 or tier-5, or smaller tier markets, in China based on the fact that returns aren’t there today relative to what they may have been six to twelve months ago. Can you comment on how important those markets are to you, whether you are seeing that similar kind of trend, whether you are changing your development in China to perhaps try to pursue some lower-risk opportunities, especially in a slowing cycle?

Richard T. Carucci

Obviously we spend a huge amount of time looking at our China business returns of both brands by all sizes of cities by all regions. One of the things that is really great about our China business is our performance has really been outstanding on new-unit development returns, throughout the country.

Having said that, probably for us, even better in the lower-tier cities. Or at least as good. And so what we have seen is actually by now half of our units are in tier-3 to tier-6 cities. Those units continue to perform at a very strong rate for us so we are not changing anything along those lines. So overall, KFC projected IRRs continue to do great.

But just to give you an idea of how we do look at this in depth by brand, what we have done is we have slowed down development of Pizza Hut dine-in in tier-1 cities where we have had a lot of expansion recently in that brand and we were seeing results that were good overall but not as good as the rest of our portfolio. So we have decided to slowdown in that area. But that’s just an example of how we look at this stuff all the time and we have had great results in these lower-tier cities.


Your next question comes from Jeff Omohundro – Wachovia.

Jeff Omohundro - Wachovia

Another question on China development. Maybe you could talk a little bit about the new store opening performance over the last six months in terms of average sales. And when looking at the full year profit growth at 15% to 20%, what kind of targets are you thinking about in terms of new store performance?

Richard T. Carucci

For China Division we opened up 500 units in 2008. Our plans are for high growth again in 2009. Again, across all tier cities. The performance the last six months has continued to be strong. That’s one of the things we look at. When we look at the performance, we assume a sales transfer will occur and despite that we have great returns.

We often do want to cannibalize ourselves, so to speak. As we go into some of these places we have a very high performing restaurant, we almost need to take some of the sales off but that’s sort of built into our business plan as well.

As we open up new units on average, just for people who look at us, we start out at a rate that is lower than our total sales average and that’s because we do go into some smaller tier cities that have high returns but then grow quicker over time, is how we’ve seen those markets perform. And then obviously as we go into a developed city, you are sharing that volume over two units or three units versus what was one or two units before so you see some sales transfer there.

So far we have not seen anything unusual or different on actual sales transfer versus our project sales transfer, so again, all systems go on the new unit front. So one of the things I’m very comfortable about on our model is we look at that all the time, we get great returns, and so we just keep going as long as we keep getting great sites and great trade zones.


Your next question comes from Jeffrey Bernstein - Barclays Capital.

Jeffrey Bernstein - Barclays Capital

On China, you mentioned when you look at the numbers internally it didn’t appear to be a major deceleration towards the end of the quarter, obviously highlighting weekend shifts and then just to your average and what not. Is it possible you can give some color around what the monthly trend was this year and what the monthly trend was last year, just to kind of get a handle around the degree of any slowdown in December and into January. It just seems as if you are targeting profit growth of 15% to 20%, which is below your long-term target, but yet in 2008, which was presumably a stronger year, it looks like it was only 14% prior to FX. I just wanted to make sure in terms of the degree of conservatism there.

Richard T. Carucci

In 2008 we had the 14% growth in operating profit. The system sales growth, in local currency, was still 20%. So our challenge in 2008, from my belief, wasn’t from a sales perspective, it was from a margin perspective. We talked about that with the higher chicken commodity cost. So when I look at 2007, 2008 all in, again, we felt pretty good about the sales level growth and the unit-development growth.

What we did experience is we did see a deceleration of sales, really starting with the earthquake in about the middle of the year. And since that time, you know, you get better weeks and months versus others, but I would it’s been fairly consistent during that period of time.

So as we look into 2009, it’s hard to predict. As I mentioned, one, we don’t share monthly, but secondly, it wouldn’t help because you have Chinese New Year, you have a lot of stuff happening in January in China so it’s hard to predict how the sales will develop month-by-month, or even quarter-to-quarter, given what’s happening there.

But we do expect the commodity piece to get better. We had $78.0 million of commodities in the full year of 2008. We probably expect a similar type level in the first quarter and then after that we expect it to get better. So we actually expect to get commodity declines in the back half of the year.

Jeffrey Bernstein - Barclays Capital

The sales in December and January were not overly, the deceleration was perhaps not much of a surprise to you over the past two months.

Richard T. Carucci

As I said, it depended on the week. It was in the range of about on expectations to slightly below our expectations.

David C. Novak

Put another way, I wasn’t getting a lot of phone calls complaining about their sales.

Jeffrey Bernstein - Barclays Capital

At your analysts day in December you talked about cash and the effort to stockpile. I know you historically kind of run $100.0 million to $200.0 million on the balance sheet at any point in time. Can you talk about an update on your willingness for share repurchase or debt paydown by the end of the first half? I think you had mentioned that was a possibility just with how quickly you do generate that cash, I was wondering how you might spend it if things were to slow, from the fundamental standpoint, whether you would use that earlier for share purchase, for example.

Richard T. Carucci

Well, as we said in December, our plans are for no share repurchases in the year. In the first half very unlikely we would do anything. And then as we look at the back half of the year, as we generate more cash, we will look at an option of paying down debt or some possible share buybacks. But in this environment we are probably more focused on getting the balance sheet strong and getting our debt down.


Your next question comes from Jason West – Deutsche Bank.

Jason West – Deutsche Bank

On the U.S. side, just on the margins in the quarter, it looked like the food costs were only up about 20 basis points, even though the comps were up about 2%. I know you had some more pricing in there but the overall comp was still fairly soft. And then just the leverage on the payroll side, it was almost 200 basis points of leverage there. I just wanted to get some clarification if that’s something that could have a run rate or is this some sort of unusual quarter?

Tim Jerzyk

The biggest impact on those things that you mentioned, food costs up slightly and labor cost down, is mostly from refranchising. If you look at the mix of stores that we sold by brand, it was very much Pizza Hut and Long John Silver's driven for the year. And particularly in the back half, more so Pizza Hut. And because of the food costs and labor costs mix, at Pizza Hut in particular, versus the same numbers at Taco Bell and KFC, it is basically a portfolio mix. So when you have got higher labor costs at Pizza Hut then existing brands, Taco Bell and KFC. So as you sell those stores you are going to have that kind of an impact.

Jason West - Deutsche Bank

How do you see restaurant margins performing over the course of 2009 in the U.S.

Richard T. Carucci

Obviously it will depend some on the sales level, but we mentioned the commodity piece, it will also depend on how much that gets better in the second half of the year. We are very focused on conversion this year. We are putting a lot of emphasis on margins. I expect us to do better on margins in 2009 than 2008 but obviously we have to show you that quarter in and quarter out.


Your next question comes from Larry Miller – RBC Capital Markets.

Larry Miller – RBC Capital Markets

I think you alluded to this throughout the call but I would love to get more color. One of the things I think is great about the investment story is year in, year out you deliver that 10% earnings growth and this year you are starting off a little slower than plan in Q1 and you are talking about a mid-single digit decrease in profit in Q1 and that would imply that you need something like 13% or so profit growth throughout the year despite headwinds of foreign exchange in China slowing. And the U.S. compares, relative to 2007, are a little bit harder. So, you are expressing a lot of comfort and I was wondering if you could point out those couple of things other than cost savings that you need to get down in 2009 that give you that high level of comfort.

Richard T. Carucci

We sort of mentioned and I won’t review them all again, I do want to highlight to everybody, we do have unusual things in Q1 that aren’t going to continue throughout the year. Those area a combination of both cost things on the commodity side and sales things, like KFC in the U.S. getting we think better and lapping very strong sales in China in the first half of the year.

So the reason we believe we can do better in the back half of the year is if we still will have an environment where commodities are not going up any more, in fact they could be coming down, and we will have another year of getting the sales layers in place, and we think we can make pretty good progress as we have that combination in place.

The other thing that we spent a lot of time on has been the G&A and as David mentioned, we did that work and we were working on that really through a good chunk of 2008 to get ready for 2009 and it was something we strategically wanted to do but it also will help our financial picture.

So the G&A piece, we will get some benefit to that in Q1 but that improvement will also get better throughout the year. So I feel we have got our cost up managed well and we believe as we get the easier overlaps in the back half of the year we will do better on the sales line.

Larry Miller – RBC Capital Markets

As to China, it certainly held up pretty well given that comparison you had, that 23% to the year ago. Are you seeing any changes at all in the way the Chinese consumer is using the brand today? You mentioned the higher [inaudible]. Is it a frequency decline, are you seeing some negative mix?

And then I don’t know if you ever looked at it but have you ever looked at what rate of Chinese GDP growth you all need in your business to get what you would call positive same store sales?

Richard T. Carucci

Let me add to the second part first. What we always look at in China is we look at can we get development. Again, let’s not forget our story in China is a development story. That’s our biggest concern, is does the business still have those opportunities and as I mentioned several times on the call we feel very confident about that. Trade zones continue to grow in China and new cities continue to grow in China and I don’t see that trend stopping. So we feel very good about that piece of it.

Regarding the same-store-sales growth, as long as we stay anything above flattish is actually okay for us on the development side, from a business model side. We obviously prefer to have same-store-sales growth.

In terms of how people are accessing the brand, we have not seen any really big changes. As the economy has gotten a little tighter, the one thing we have seen is maybe a little reduction on soft drink incidents. Some people have come in and cut back on that purchase. Other than that we haven’t seen any significant changes.

David C. Novak

The only point I would add to that is we look at just the middle class, the growth of the middle class being key to our success. There are more people in the middle class today than a year ago and the middle class has more income than they had a year ago.

Having said that, we do recognize, obviously, consumer sentiment is down. So the big thing we want to do is we know we’ve got an incredible long-term proposition in China. We continue to think that our China opportunity represents the best restaurant opportunity in the world, bar none. We don’t even think there is a close second in terms of that.

So the thing that we are focused on this year is the thing that we have been focused on in the past, work on the fundamentals of building great brands. So what you are going to be seeing this year is you will see continued progress with us expanding into new proteins and new day parts. We have had successful shrimp and fish promotions, we recently launched the beef wrap at KFC.

We now have KFC breakfast in 90% of our restaurants and we think we have a significant to improve our breakfast business as we go forward. I think our mix is only 5% to 6%. We are going to try and take that in the 10% to 15% range like we have done in Singapore and other Asian markets.

We now have delivery in 23 cities, KFC delivery, which is getting us into a higher guest check at KFC. And the dinner business, we are going to be moving into 65 cities. And the KFC is the leading brand for young people and teens. Even though the economy is tough, there are still more kids out there that have money than a year ago. So these are factors that I think bode well for KFC.

When we look at Pizza Hut, it’s the number one casual dining brand in China and we have dramatically expanded our menu so that we offer much more than pizza. We have a full line of appetizers, pasta, rice, we have tea time now with coffee and sweets. We’re giving the consumers more variety and we are really transforming our whole casual dining business to make it even more powerful as we go forward.

And then we continue to expand Pizza Home service and we are developing East Dawning, the Chinese fast food concept that we have talked about. When I look back, I remember the Asian currency crisis in 1998 and people were going, “Oh, my God, can you open up more stores?”

We just kept building these brands and we have had great unit economics. Someone talked about unit economics in China. Nobody has unit economics like we do in China. That’s why we can go in tier-4 or tier-5 cities and other people can’t.

So that’s why this year we’re stronger than we have ever been versus competition. Competition hasn’t gotten closer to us; we’ve widened the gap. So that’s a tremendous strength as we go forward and our goal next year is to have a wider gap.

I am really please to hear that people are having difficulties moving into tier-4 and tier-5 cities. That is great news for us because we’re not and we’re going to keep growing the business.

We have a lot of challenges this year, there’s no doubt about it. There’s lots of challenges that we haven’t had from an overall economic standpoint but there’s nothing like having the power of great brands and the ability to leverage your assets by giving the consumers more. And that’s what we’re focused on, all around the world.


Your next question comes from Howard Penney - Research Edge.

Howard Penney - Research Edge

One of the things that we are constantly reminded of following this industry is when the company accelerates the pace of development for an extended period of time that not all the stores that open are opening up at the right levels of returns. And in the past two years your capex has grown by nearly 60% and that is 30% faster than revenues. I know years ago McDonald’s used to espouse the Ken [inaudible] theorem that looked at the relative income and population in the U.S. and compared that to other markets, and that didn’t really work for them. So my question is why, when you look at income levels and population in China, or any country for that matter, at penetration rates, how do we know that you are not growing too fast, one? And two, is there a chance that this is sort of the peak in the growth rate, this 1,400, 1,500 unit level or the 900 unit, or is that going to head higher as we enter the year?

Richard T. Carucci

A few things. Again, like you say, you just can’t look at the statistics of income, etc. by itself but it is a good thing to have and we have talked about that, about outside the U.S. we have under three restaurants per million people versus 60 restaurants per million people in the U.S.

Secondly, you look at your competitive position, as David mentioned earlier, we generally have only a few competitors in our markets outside the U.S. so you have that strength as well.

But one of the things we have spent a lot of time doing is we look at our performance of new units and while we have increased over time, if you were to look at it by country, those increases have generally been gradual. So we didn’t have units from 200 to 1,495, we have done that over time and by building discipline. If you look at our returns, obviously we think we have been overall pretty good stewards of capital and to ensure that we can continue to get great returns.

So we take a lot of pride in that. If you looked at our general managers around the world, ask any one of them how their new units are performing, they would all know those answers at the top of their head and be able to talk about it in a fair amount of depth.

We look at development as just a very important part of strategy, it’s our day job. And we have a lot of process and discipline built around it. Usually when you run into problems is when you try to expand too early too quickly and if you start explaining your returns are down because of, that story, or you start reducing or relaxing your site criteria.

As we have gone through our path we have not relaxed our site criteria. If anything, we have tightened them up. So you can never be perfect. We’ve made mistakes as well in development over time. I won’t say we’re perfect but I think we’re pretty good at it.

Regarding the first part, on the increase we’ve had in capital. Some of that was existing units and just catching up to what we think we needed to do to properly maintain those units. You’re going to see that in China. That number continues to go up because obviously we have increased our new-unit growth and if you look at some of those units are now coming up for remodeling. So in China you are going to see higher capital costs of both the new unit size, we hopefully can increase that number over time, but also as we take care of the units we’ve already built.

David C. Novak

I’ll tell you how you’ll know when we have a problem. We’ll slowdown. We’re fixated on three things that drive shareholder value. Same store sales growth, new unit development, and return on invested capital. And since you’re giving us a history lesson, if you go back and study history, what happened is is people grew without any sense of what was going on with their returns. And that was a big problem, I think, during that decade. A lot of companies did that. And people weren’t fixated on return on invested capital. Everybody started looking at how everybody was spending their money and they weren’t getting a whole lot of returns.

So that’s not a problem that we have. I want our investors to know, we are not chasing any numbers. We’re not even chasing 10% EPS growth. We think we can get 10% EPS growth. But if we thought it was going to be 8% we would tell you it’s 8%. We want to do what we say.

We are not chasing numbers. I have always said we will never grow faster than our people capability. And the reason why we’re growing so fast in China is we have the best restaurant teams in the world. We have almost two restaurant managers per store that are ready to be restaurant general managers, so we can open up stores with great operations and we continue to get great returns.

The minute that we don’t get great returns we will turn the faucet off and we will go back and figure out what we have to do to get great returns and we will tell you. The big thing that we have is that we discipline around us and we’re not chasing numbers because we know, to your point, that is how companies get in trouble.

Richard T. Carucci

Just as an example, what we mean by that discipline, when we have new unit capital budgets, those are not fixed budgets. So for example, we have said to China, sorry China, you’ve hit your new unit budget, even though you’re getting 30% returns, please stop. Similarly, if we see problems, either in a country or even in a section of a country, as I mentioned earlier at Pizza Hut tier-1 cities, we reduce the capital and reset it down so people don’t get to spend their capital budget estimate at the beginning of the year, they have to earn it throughout the year and get the returns.


Your next question comes from Joe Buckley - Banc of America.

Joe Buckley - Banc of America

Again on China, just a couple of detail things. You shared that the December 2007 monthly performance was very strong, I think 23% same-store-sales growth. Any reason why it spiked up at the end of 2007? It really is looking backwards quite a bit.

And with China, just where you are in pricing, year-over-year? And how much visibility there is for food costs to actually come down in the back half of the year.

Tim Jerzyk

On the question about the December comps, basically throughout the quarter, I think the third quarter 2007 comps for China were plus 11 and we basically entered the quarter, which for China in fourth quarter, September is the first month. We basically entered at that kind of rate and by the time we got to the end of the quarter it was basically accelerating at like 4 points every month. It was just what was going on. And at the same time, like Rick said earlier, we pointed out last year our development was also getting stronger and stronger. At the end of the year, well ahead of our beginning of the year expectations in terms of new unit development.

In terms of pricing, our current run right now is right in the 4% to 5% range. Half of that rolls off in March and the other half comes off in August and the full year impact right now, if we take no pricing, would be about 2.5%.

Joe Buckley - Banc of America

On the [E West] you indicated the dinner day part is solved and obviously that threatened KFC. Has Taco Bell slowed down as well? If you can would you share the brand performance for the fourth quarter?

Richard T. Carucci

The fourth quarter brand performance, I’m looking up the numbers. We did have it in my speech. It was plus 9 for Taco Bell, minus 1 for Pizza Hut, and minus 3 for KFC.

Joe Buckley - Banc of America

And have you seen Taco Bell slow in the first part of 2009 like the other two brands?

Richard T. Carucci

We don’t expect it to be at that level. It’s not that far off of our expectations but our expectations are not at that level.

Joe Buckley - Banc of America

When you started refranchising, does the KFC brand have to turn before you can accelerate the refranchising for KFC? I know much of the 2008 activity was Long John Silver's and Pizza Hut.

Richard T. Carucci

Probably, yes, is the short answer to that. For a couple of reasons. We will be able to do some refranchising but people want to see confidence in the brand. We’re not trying to get the last dollar in refranchising but we don’t want to also at the bottom bottom of the market. So we will probably have slow going in KFC until the brand starts to get healthier.

Joe Buckley - Banc of America

How does pricing look in the U.S. year-over-year? If you can give it by brand that would be great but even in the aggregate would be helpful.

Richard T. Carucci

We are not really planning on a lot of pricing in the U.S. this year. Obviously it will depend in part on what happens with commodities, but if you look at it, I think we’ve got about a 1.0 to 2 point increase, an impact on pricing in 2009. It depends on the brand. So, at Taco Bell we have about a 3 point assumption on pricing, about 2 of that is carry over and about another 1. This year at KFC about a 4 point and then no pricing assumed at Pizza Hut.

Tim Jerzyk

Just to run those brand numbers again, Taco Bell was plus 9, KFC was minus 3, and Pizza Hut was minus 1. That was the fourth quarter system.


Your next question comes from Keith Siegner – Credit Suisse.

Keith Siegner – Credit Suisse

On China, you talked about Pizza Hut and some of the disappointments in returns, especially in the tier-1 cities and how you have scaled back the growth plans for those cities as well. Would the cutback in the absolute growth, especially including the cutback in the tier-1 markets, if we think about the margins for that business, with lower pre-opening, lower inefficiencies, and just less openings in those tier-1 units, how should we think about the margin impact at Pizza Hut in China and maybe for the whole division as a result?

Richard T. Carucci

Just to keep in mind, these are not big factors for China Division. To put the numbers in perspective, we probably built about 30 Pizza Hut dining units in tier-1, tier-2 cities in 2008. We expect that number to be about 10 in 2009. So it really is not going to have a material impact on overall China margins.

Keith Siegner – Credit Suisse

Cash flow for the fourth quarter and therefore for the full year, came in below what I was looking for and I think what you were probably generally guiding to as well. And it looks like a large portion of that was a massive reduction in accounts payable. I’m just wondering if there was a reason or rationale behind this? It looks it declines more than I would have anticipated, given the refranchising. Is this something that maybe will turn in 2009? Is it temporary? How should we think about that?

Tim Jerzyk

If you’re looking at versus end of year last year, which is the best way to do it, the biggest Delta there is the Japan gain. It’s the way it was accounted for at the end of last year. In fact, it was like $100.0 million.

Keith Siegner – Credit Suisse

Of the accounts payable decline?

Tim Jerzyk

Yes. In the that occur liability side there was an impact of $100.0 million. $128.0 million. It was accounted for because of the fact that if you go back, the transaction actually occurred after the year end for YRI but before the Yum! year end so it was because of the lag for YRI accounting of 30 days, it had that balance sheet impact, at year end.

It’s basically that and the fact that we did sell 700 stores last year and, as you may recall, in our business on company stores, basically you do lose working capital when you sell stores.

Keith Siegner – Credit Suisse

On KFC in the U.S., what is the percent of U.S. profits generated by KFC? At this time.

Tim Jerzyk

For KFC U.S. as a percentage of the total?

Keith Siegner – Credit Suisse

I think you said it was 60% for Taco Bell.

Tim Jerzyk

End of year it was 8% for KFC U.S.


Your next question comes from John Glass - Morgan Stanley.

John Glass - Morgan Stanley

Can you just go back on your commentary about what’s happened in the U.S. in the last four weeks, has this been an abrupt slowdown or simply a continuation of trends you saw in the fourth quarter? And what is the likelihood that comps for the quarter end up being negative because of the slowdown?

Richard T. Carucci

It’s very hard to predict in this environment exactly what’s going to happen with sales. I do expect that sales, as we said before, will be a tough environment. I expect sales to be down below what we were expecting in December but I really can’t give you a great number with precision. Q1 is obviously going to be softer than Q4.

John Glass - Morgan Stanley

There has been a lot of discussion about what’s going on in China as it relates to the slowdown, but what advantages does the slowdown give you in China? For example, in the United States, rent relief has been a big topic among retailers. There has been discussion of lower wage inflation. And have you seen any of those things manifest themselves in China yet? Or does the dynamic even work the same way there, or to a greater or lesser extent?

Richard T. Carucci

Probably to a lesser extent but it will be there. For example, the government did a lot of things on benefits in 2008. They have already said they are not going to do anything new on that in 2009. Obviously we are going to negotiate hard, the way we always negotiate, on real estate, and we have a better opportunity to do that in this environment than we did, let’s say a year ago.

Tim Jerzyk

And I think , as we pointed out, we saw fund dollars are up so capital is not an issue for us.


Your next question comes from Mitchell J. Speiser - Buckingham Research.

Mitchell J. Speiser - Buckingham Research

On YRI, great performance in the fourth quarter. Can you give us a sense of where you saw an uptick in comps from the third quarter?

Richard T. Carucci

The thing we feel good about, if you look at the two-year growth in YRI, it’s been about flat through the year so we have had pretty consistent growth in YRI, if you look at the numbers over the last three-year period. So there hasn’t been dramatic shifts between Q3 and Q4. I think the growth difference was a point.

But if you look at the table we gave in the earnings release, the thing that I feel really good about is just the breadth of the growth. It’s really every continent across many countries. So that’s the thing that gives us a lot confidence. And the other thing is that we are making good progress for us in the high-growth markets than our strategic initiatives.

So we feel really good about that and the fact that it is franchise-driven growth. 94% of the new units being franchise-built, really just speaks to the overall strength of the market and our system and our brands.

Mitchell J. Speiser - Buckingham Research

There hasn’t been too much commentary on Kentucky Grilled Chicken. Can you give us a sense of how many stores it’s in now? Have the trends continued? It would seem to be very strong in tests in 2007 and 2008. Can you give us a sense, did those trends continue in the back half of 2008? And how do you plan on marketing Kentucky Grilled Chicken? Is there any particular focus to get people in the stores to try this type of product?

Richard T. Carucci

Really no change in the trends from we talked about before on grilled product. It’s been in tests for years. And it’s not in more restaurants because they’re still putting the ovens in. The test markets were San Diego, Indianapolis, and Oklahoma City. The difference between those and the other markets really hasn’t changed from what we last reported. So it’s a product that has been tested for a long period of time, which is obviously by the system is going to go forward. And on the positioning of it I will let David say a few words.

David C. Novak

I think that we have got a big bold approach to introducing this and I would rather just save that until we announce it. Because we’re going to get a lot of value out of the announcement.


Your next question comes from Analyst for Greg Badishkanian - Citi.

Analyst for Greg Badishkanian - Citi

On refranchising, quick update on what the pipeline looks like now and per your comments about KFC, is your target of 500 units more back-end loaded this year?

Richard T. Carucci

Not particularly. It’s always to predict when deals will close. We have a decent pipeline. The credit is about the same as what we talked about last time, it’s tight but available, but not as broadly available as it was a year ago.

We don’t have a lot of visibility into how it’s really going to develop by quarter.

David C. Novak

The thing I would add, and we have said this before, is that we have never needed refranchising for anything in our company. There has never been a time table that we were wedded to, to do refranchising because it is something we need to do.

It’s a strategic decision that we’ve made that we feel very good about and we are going to get there the right way. And obviously the world has changed dramatically since we have talked about our refranchising strategy, so the timing will change and it will take longer, but the strategic intent remains.

Analyst for Greg Badishkanian - Citi

On KFC U.S., the rollout of the national value menu, I think you said next week is the launch, how big of an impact do you expect that to be, particularly in relation to [inaudible], in terms of just driving your overall growth at KFC for 2009?

Richard T. Carucci

I think our biggest gun that we have this year is Kentucky Grilled Chicken. That’s how I would look at it. I think we are being more competitive on the value front with the launch of this national menu but Subway has the $5 subs, McDonald’s has the $1 menu, Wendy’s has Freakanomics. Everybody has got value. I think what we’re doing is just getting in the game, maybe a little late. So I don’t see this as a game changer for us, but I think it does make us more competitive.

But throughout the year we are going to be attacking two major barriers. The first is we need opportunities to offer more than just fried chicken to broaden our menu offering, make it more appealing to more people. And the second is value. So we’ve got comprehensive programs, including this value program, to keep those two messages front and center throughout the year.

But the big gun that we see is Kentucky Grilled Chicken.


Your next question comes from Steven Kron - Goldman Sachs.

Steven Kron - Goldman Sachs

Related to the U.S., can you drill down a little bit more specifically about that dinner pressure you are seeing, whether it’s more traffic driven or are you also seeing check management, I guess related to that and related to the Kentucky Grilled Chicken roll out, is it worrisome to be launching such a big campaign when the dinner business, seemingly across brands, and you’re not the only ones talking about this, is under significant pressure. Could that maybe stem some of the enthusiasm for that product?

David C. Novak

I think that there is no secret that the dinner occasion has been under the most pressure across the category for some time now, so that’s not really new news. When we look at our portfolio, Taco Bell, which is the biggest chunk of the portfolio, 60% of profits, it’s the best positioned clearly, as we go into this year, because of the Why Pay More menu and the fact that it ranks number one in value in the entire category. So it’s got the low end covering.

As we look at Pizza Hut, Pizza Hut is also working very hard on the value front as well and has Pizza Mia but it is still a higher guest check occasion and pizza is a dinner occasion and it is being impacted.

But the other thing that really drives our category is innovation. Where we think we are getting significant innovation and we think gives us a lot more strength than our competitors is in the pasta arena and we just launched our lasagna product, which is getting very good consumer feedback and we are very hopeful that that will be a sales driver for us as well.

And as we go into the second half of the year we will also have nationally advertised Wing Street.

But having said that, clearly Pizza Hut is not a big lunch, snack type occasion, it’s more of a dinner occasion. So we’re going to innovate to drive sales in that area, broaden our menu to drive sales in that arena, and keep a strong value message out there.

Yesterday I had a call with the Pizza Hut team and they work very hard on both the value and innovation front and I think you will see a steady stream of news on that as we go forward.

KFC, I think the first thing we have to do at KFC is really shore up our chicken-on-the bone business, which is a dinner business primarily. We will be doing that with the launch of Kentucky Grilled Chicken because we will give people the opportunity to mix and match their buckets and I think it really does broaden our appeal in an occasion that basically needs to be shored up, which is dinner.

We also have value at the low end nor for the first time with our national value menu, which we think is going to give us more the snacking, lunch type occasion. So we are hopeful that in the combination of the Kentucky Grilled Chicken, which really is a big dinner innovation, which by the way will also be introduced with a good low-end offer which could drive occasions of both lunch and dinner, we think that that major innovation, coupled with what we are doing on value, will give us some business momentum as we move into the year.

Steven Kron - Goldman Sachs

With that said, you laid out 15% profit growth and you are sticking with that today, 9% of that growth seemingly comes from controllable costs which you seemingly have harvested or are pretty far along in getting it, the other 6% was reliant on U.S. core profit growth, driven presumably by same store sales. We started off the year a little bit softer and certainly one month does not a year make, but can you share with us a little bit around the sensitivity of weaker same store sales, how that might flow through the margins or operating profit line if you have those numbers.

And I guess in addition, are there other controllable factors, other controllable costs, that you are looking at that if sales do come up short that you can offset?

Richard T. Carucci

If you look at our franchise business, the flow through is just related to sales so whatever happens to sales pretty much happens to profits, on the company side, up or down, groceries in the 40% range. I think a hard thing to make the prediction for this year, it was one of the questions earlier, is just the relationship between sales and commodity. And I do expect there to be correlation there, so if the environment is tougher on the sales side, I do expect us to be better on the commodity side. So that’s what makes it tough to call.

We are doing everything we can on the productivity and cost piece. The biggest piece of that is the G&A but we are looking at all the things that you look at in these types of environments and we’re going to take care of the customer but we’re very focused on our margin this year as well. So we don’t have a lot more to say than we’ve already said.


Your next question comes from Fitzhugh Taylor - Thomas Weisel Partners.

Fitzhugh Taylor - Thomas Weisel Partners

Last year you were talking about catching up in price at both the U.S. and in China and the U.S. margins seems to reflect a benefit of that while China, at least on the surface, has not. Is the biggest difference there just the refranchising in the U.S. or are there some other pieces that have prohibited some improvement in margins in China?

Richard T. Carucci

As Tim mentioned earlier, the refranchising has helped margins, but we were able to catch up pricing with commodities, as I mentioned earlier. So we feel good about that in the U.S. and we expect that to continue in 2009. We expect that to be a positive as whereas a negative through most of 2008, until the fourth quarter. So that’s the U.S. story.

In China, the difference there was just the magnitude of the commodity cost increase. Remember, we were at a period with China, where even though there was some inflation in China, because KFC was growing and we were getting leverage purchasing, we actually had very little pricing for about a four-year period. And so it’s really only the last couple of years where we had started to price and then we had the huge increase in chicken costs.

But what really happened to us in China is the chicken costs were high and they’ve been sticky on the way down. We actually do expect them to go down a little bit in the last part of the year so that gets us pretty well caught up by then.


Your final question comes from Rob Wilson - Tiburon Research.

Rob Wilson - Tiburon Research

I am looking at the dramatic improvement in profitability in the U.S. division in Q4. You had run nine straight quarters of a restaurant margin decline, then all of a sudden it spiked dramatically higher in Q4. And you mentioned that this is related to refranchising. If so, why would we not expect that to continue going forward?

Richard T. Carucci

We will get some benefits from refranchising going forward. We also, as we mentioned, did get the benefit of the pricing finally sort of overtaking the commodity cost increase. So our full year guidance was a one point increase in margins for 2009 versus 2008.

Rob Wilson - Tiburon Research

I’m looking at Q4 and I’m seeing this dramatic change versus previous history. Why would Q4 have spiked so much higher yet you are not really expecting that improvement to continue into 2009?

Richard T. Carucci

We are expecting improvement. In terms of that level it is probably most related to the timing of pricing versus commodity increases which probably worked to our favor a little more in Q4 than they will on average throughout 2009. But as we mentioned earlier, that can happen if commodities go in our direction.

Rob Wilson - Tiburon Research

You talk about restructure charges and U.S. brand reinvestments as your special items. What are these?

Richard T. Carucci

The restructuring charges were the severance costs. The investments, the biggest piece of that will be the ovens for KFC. We also had investments in systems for KFC to put systems into franchise test markets. So were the two investment parts there and then the severance is the other piece of restructuring.

David C. Novak

Let me just briefly wrap up. First of all, our China business is on track and we continue to expect solid growth, 15% to 20% in 2009, which we adjusted from our long-term target of 20% due to the short-term economic issues that we talked about.

Second, YRI continues to produce consistent results with the strength of its broad geography of over 110 countries and 700 franchisees and has held up remarkably well during this challenging economic environment.

And third, our U.S. business, that has underperformed, is better positioned than ever to grow about 15% in 2009. Importantly, 9 points of this growth will come from G&A cost reductions we initiated last year.

Fourth, our company has remarkable financial strength from our global cash flows, strong balance sheet, and there is no need for new financing in 2009. We are fully funded for our global growth, as always.

With all these things in mind, we continue to expect that we will achieve our EPS growth target of at least 10% in 2009. That’s our story, and we’re sticking to it.


This concludes today’s conference call.

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