YUMC Yum China Holdings Inc

By Ese Erheriene 

China's once voracious appetite for American fast food is waning as consumers are lured away by emerging domestic chains and food-delivery apps.

Two years after owner Yum Brands Inc. spun off its China business, sales growth is slowing at its KFC and Pizza Hut outlets in China, as homegrown rivals target young people and an army of motorcycle couriers make available greater takeout choices.

Yum China Holdings Inc. continues to open dozens of new stores every month. It has invested in mobile payments, new seasonal menu items such as abalone--or sea-snail--pizza, and marketing using online games and pop stars to draw younger diners. Yet sales fell in the quarter ending June 30, after growth slowed in the two previous quarters.

Shares in Yum China have slipped 20% since a January high, bouncing back slightly after a bid by a consortium, led by Hillhouse Capital Group and which included private-equity firm KKR & Co., to take the company private. The Wall Street Journal reported last week that Yum China rejected the bid, which valued the restaurant operator at more than $17 billion. It would have been the largest ever take-private deal in Asia, according to data provider Dealogic.

The consortium believes Yum China has strong brands but needs to invest to counter pressure from greater local and global competition, according to a person familiar with the situation.

A Yum China spokesman said that China's rising urban and middle-class population offered opportunities for growth and that the company's long-term target was to reach 20,000 stores from just over 8,000 now. In an August earnings release, Yum China Chief Executive Joey Wat told investors and analysts that she was confident in KFC but that Pizza Hut continued to face challenges in the casual-dining market. The company is still the biggest player in the country's $600 billion dollar restaurant industry, according to research by Morningstar.

Louisville, Ky.-based Yum Brands spun off Yum China in late 2016 in a bid to shield itself from the unit's volatile performance, opting to franchise Chinese operations and collect a royalty instead. In 1987, Yum Brands was the first major Western fast-food operator to do business in China. Its China business accounted for about half the company's revenue before the spinoff.

While KFC has averaged 4% growth since the spinoff, Pizza Hut has logged only two quarters of same-store sales growth in the past seven quarters. Total food and beverage sales in China are rising at more than 10% annually, according to China's statistics bureau.

The dwindling cachet of American food, safety scares and changing consumer tastes have made the region a harder place to do business.

"This is American junk food," said Zhao Yueru, a 24-year-old education-industry worker, as she tucked into a spicy chicken sandwich and french fries in KFC in western Shanghai's Changning district last week. "People with even slightly better tastes eat at more fancy places."

Food-delivery apps--such as Meituan and Ele.me, which are backed by technology giants Tencent Holdings Ltd. and Alibaba Group Holding Ltd. respectively--make it easier for consumers to order food directly from a vast range of outlets. Yum China has been expanding delivery capabilities through its KFC and Pizza Hut apps, which have a combined 180 million users. That has helped lift delivery sales to 14% of company sales in 2017 from 10% in 2016.

Competition is also rising from homegrown food chains selling noodles, fast Chinese food and Asian twists on pizza. One of Pizza Hut's biggest challengers is Shenzhen-based La Cesar Pizzeria, which serves popular pizzas topped with durian, a pungent Asian fruit.

Pizza Hut also began offering durian pizzas, as well as other popular ingredients such as crayfish and abalone. KFC has rebooted its breakfast offering by selling wrap-style rice rolls filled with chicken.

"There are more competitors, and consumers are getting more picky," said Zhou Yang, a food and beverage researcher at market research firm Dataway Horizon. Ms. Zhou said Yum China's efforts to connect with younger generations--such as through the popular online game Onmyoji--haven't had much success.

The rapid expansion of KFC may also have cannibalized sales, analysts including Bernstein said, with a wave of new store openings too close to established locations. Sales growth at KFC stores open for at least a year shrank to zero in the last quarter.

Yum China said it plans to open between 600 and 650 new stores in 2018, which is less than last year but up from 2016.

"When I was traveling in foreign countries, I did not see many Pizza Huts," said Shirley Chen, a 19-year-old college student munching on margherita pizza, chicken wings, and fried shrimp at a Shanghai outlet. "But here in China, we have a lot of them. Every mall has a Pizza Hut. I think it is a Chinese restaurant."

Zhou Wei in Shanghai contributed to this article.

Write to Ese Erheriene at ese.erheriene@wsj.com

(END) Dow Jones Newswires

September 03, 2018 09:56 ET (13:56 GMT)

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