Coke's Smoggy Battle, KFC's 'Dead Chicken Bounce'

Jul.21.14 | About: Yum! Brands, (YUM)

The latest news is decidedly cloudy from 2 of the world's biggest food and beverage operators in China, with beverage leader Coca Cola (NYSE:KO) and fast-food giant Yum Brands (NYSE:YUM) fighting battles on different fronts. Yum has just reported financial results that show a nice jump in same-store sales for its flagship KFC restaurants during the second quarter. But the year-ago figures were extremely depressed due to several one-time factors, meaning current same-store sales are probably still below levels from 2 years ago. Meantime, media reports say Coke is offering generous incentives to attract foreigners to work in Beijing due to the city's heavy air pollution, reflecting a recent broader problem faced by many multinationals.

Coke and KFC were 2 of the earliest big foreign food and beverage companies to come to China, arriving more than a quarter century ago. Each has been handsomely rewarded for their early decisions, and now count the market as one of their largest. But both have established huge China-based operations to earn their big profits, which makes them vulnerable to the rapid changes that are an integral part of China's business landscape.

KFC was already seeing a sharp business slowdown 2 years ago due to saturation of its restaurants, which now number more than 4,000 in China. Those same KFC stores were a novelty when the company first entered the market in 1987, but have become common by now and are even considered downscale by some. Sales were already sagging, but then suddenly plummeted in the first half of last year due to a food safety scandal, followed by a bird flu outbreak that saw consumers abandon the restaurants in droves.

Now Yum is reporting that same-store sales for KFC in China rose a healthy 21 percent in the second quarter. (English article) Same-store sales for all of its China stores were up a more modest 15 percent due to unexpected weakness at its smaller Pizza Hut chain.

The growth compares with a 20 percent decline for all of Yum's same-store China sales in last year's second quarter at the height of the bird flu scare. That means the latest second-quarter gain was a sort of "dead cat bounce" - a term used for stocks that often rebound slightly after a major sell-off. KFC recently rolled out a much-needed overhaul of its menu and store appearance in China, its first ever since entering the market. (previous post) That initiative could represent the company's best chances to get itself back on a real growth track in a market that once accounted for more than half of its global profits.

From Yum let's look quickly at Coke, which generally enjoys a strong reputation in China and whose latest woes are much more limited in scope. In this particular case, media are reporting that the world's biggest beverage company is now offering expatriates extra pay of up to 15 percent to come and work in Beijing, which has developed a reputation for its heavy smog. (English article)

Coke declined to comment on the reports, though human resources executives have been widely quoted over the past year saying air pollution has become a serious obstacle to recruiting expatriates to work in China. The problem is particularly acute in Beijing due to the city's dry air, clogged roads and heavy use of coal for power generation.

At the end of the day this problem won't have a major impact on any of the big multinationals' financial performance, since most now use local hiring for the big majority of their employees. But it does reflect the latest challenge for foreign firms doing business in China, where changes often occur rapidly and unexpectedly.

Bottom line: Yum's big jump in second-quarter China sales represents a dead-cat bounce due to unusual factors last year, and the company's best hopes lie in a new overhaul of its KFC stores.

Disclosure: None