YUM! Brands, Inc. — FY2014 Form 10-K Summary
Business context and reporting period
YUM operates, franchises and licenses KFC, Pizza Hut and Taco Bell, with more than 41,000 restaurants in over 125 countries and territories. About 79% of system restaurants were operated by franchisees, licensees or unconsolidated affiliates. The fiscal year ended December 27, 2014 and comprised 52 weeks; the fourth quarter comprised 16 weeks. In 2014, YUM reorganized reporting outside China and India by brand; consolidated results were not affected.
Key financial metrics
| Metric | FY2014 | FY2013 |
|---|---|---|
| Total revenue | $13.279 billion | $13.084 billion |
| Company sales | $11.324 billion | $11.184 billion |
| Franchise and license fees and income | $1.955 billion | $1.900 billion |
| Operating profit, GAAP | $1.557 billion | $1.798 billion |
| Net income attributable to YUM | $1.051 billion | $1.091 billion |
| Diluted EPS, GAAP | $2.32 | $2.36 |
| Diluted EPS before special items | $3.09 | $2.97 |
| Operating cash flow | $2.049 billion | $2.139 billion |
| Capital spending | $1.033 billion | $1.049 billion |
| Total debt | $3.344 billion | $2.989 billion |
Company restaurant margin declined to 14.5% from 15.0%. The reported effective tax rate was 28.5%, versus 31.4%; before special items it was 25.5%, versus 28.0%. Cash and cash equivalents were $578 million, current assets $1.646 billion and current liabilities $2.411 billion at year-end. The $1.3 billion revolving credit facility had $824 million unused, net of borrowings and letters of credit.
Fourth-quarter revenue was $3.997 billion, versus $4.179 billion. GAAP operating loss was $43 million and YUM-attributable net loss was $86 million, largely reflecting a $463 million non-cash Little Sheep impairment charge. Fourth-quarter 2013 operating profit was $571 million and net income attributable to YUM was $321 million.
Material changes versus the prior comparable period
- GAAP operating profit fell 13% and GAAP diluted EPS declined from $2.36 to $2.32. Excluding special items, diluted EPS rose 4% to $3.09.
- Little Sheep underperformed, leading to $463 million of impairment charges in 2014: $160 million goodwill, $284 million trademark and $14 million restaurant-level property, plus a $5 million impairment of an affiliated investment. FY2013 included $295 million of Little Sheep impairment. The 2014 charge reduced reported results substantially.
- China Division same-store sales fell 5% for the year and operating profit fell 8%. KFC China same-store sales declined 18% in Q4 following renewed adverse publicity concerning improper food handling by former supplier Shanghai Husi/OSI. YUM terminated its relationship with OSI.
- By division, 2014 operating profit was $713 million in China (down 8%), $708 million in KFC (up 13%), $295 million in Pizza Hut (down 13%), $480 million in Taco Bell (up 5%) and a $9 million loss in India.
- Operating cash flow declined $90 million, primarily due to higher income taxes paid. Cash paid for income taxes rose to $684 million from $489 million, including $200 million paid to settle an IRS valuation dispute.
Outlook, management commentary, risks and contingencies
- Management expected 2015 EPS before special items to grow at least 10%, including an estimated $75 million negative foreign-exchange impact. The long-term earnings model targets 10% EPS growth, based on operating-profit growth targets by division; India growth is not included in that model.
- Management estimated 2015 capital spending of approximately $1.1 billion. YUM targeted an annual dividend payout ratio of 40%–45% of net income and had $1.1 billion of authorized share-repurchase capacity remaining at year-end.
- YUM cited food safety and supplier controls, China market dependence, foreign exchange, food and labor cost inflation, supply interruption, competition, franchisee financial health, regulatory and tax changes, cybersecurity, brand reputation and litigation as material risks. A uniform 10% weakening of foreign currencies against the U.S. dollar was estimated to reduce annual operating profit by about $150 million.
- Contractual obligations totaled $11.282 billion, including $4.561 billion of debt obligations and interest, $5.479 billion of operating lease commitments and $282 million of capital lease commitments. The company also had $650 million of undiscounted potential lease-guarantee payments; the recorded probable liability was not material.
- The U.S. pension plans were underfunded by $310 million at year-end; YUM contributed $75 million after year-end and did not anticipate further significant 2015 contributions. The company reported investment-grade ratings of BBB from S&P and Baa3 from Moody’s and compliance with debt covenants with considerable cushion.
- A securities class action dismissal was appealed; certain derivative actions were stayed pending that appeal. Taco Bell wage-and-hour matters continued, with a reasonable estimate provided for one case, but any excess loss could not be estimated. YUM said other proceedings were not expected to materially affect its consolidated financial statements.
Important facts for investors to verify
- Whether China sales, especially KFC China, recovered after the supplier-related food-handling publicity and whether food-safety controls addressed the underlying reputational risk.
- How much of the gap between GAAP EPS of $2.32 and adjusted EPS of $3.09 reflects non-recurring items, and whether further Little Sheep impairments or restructuring costs arise.
- Whether the at-least-10% 2015 adjusted EPS outlook was achieved after the estimated $75 million currency headwind, and whether the division growth assumptions remained credible.
- Debt refinancing and liquidity, particularly the $250 million note maturity in 2015, revolving-credit usage and cash generation relative to capital spending, dividends and repurchases.
- Developments in the securities appeal, employment litigation, pension funding and tax exposures, including the effects of the IRS settlement and any subsequent examinations.