Pizza Hut 2007 Annual Report Download - page 35

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Prior to the acquisition, we accounted for our fifty percent
ownership interest using the equity method of accounting.
Thus, we reported our fifty percent share of the net income
of the unconsolidated affiliate (after interest expense and
income taxes) as Other (income) expense in the Consolidated
Statements of Income. We also recorded a franchise fee for
the royalty received from the stores owned by the unconsoli-
dated affiliate. Since the date of the acquisition, we have
reported Company sales and the associated restaurant costs,
G&A expense, interest expense and income taxes associated
with the restaurants previously owned by the unconsolidated
affiliate in the appropriate line items of our Consolidated
Statement of Income. We no longer record franchise fee
income for the restaurants previously owned by the uncon-
solidated affiliate, nor do we report other income under the
equity method of accounting. As a result of this acquisition,
Company sales and restaurant profit increased $576 mil-
lion and $59 million, respectively, franchise fees decreased
$19 million and G&A expenses increased $33 million in the
year ended December 29, 2007 compared to the year ended
December 30, 2006. As a result of this acquisition, Com-
pany sales and restaurant profit increased $164 million and
$16 million, respectively, franchise fees decreased $7 million
and G&A expenses increased $8 million in the year ended
December 30, 2006 compared to the year ended Decem-
ber 31, 2005. The impacts on operating profit and net income
were not significant in either year.
EXTRA WEEK IN 2005 Our fiscal calendar results in a 53rd
week every five or six years. Fiscal year 2005 included a 53rd
week in the fourth quarter for the majority of our U.S. busi-
nesses as well as our international businesses that report
on a period, as opposed to a monthly, basis. In the U.S., we
permanently accelerated the timing of the KFC business clos-
ing by one week in December 2005, and thus, there was no
53rd week benefit for this business. Additionally, all China
Division businesses report on a monthly basis and thus did
not have a 53rd week.
The following table summarizes the estimated increase
(decrease) of the 53rd week on fiscal year 2005 revenues
and operating profit:
Inter-
national Unallo-
U.S. Division cated Total
Revenues
Company sales $ 58 $ 27 $ — $ 85
Franchise and license fees 8 3 — 11
Total Revenues $ 66 $ 30 $ — $ 96
Operating profit
Franchise and license fees $ 8 $ 3 $ — $ 11
Restaurant profit 14 5 — 19
General and administrative
expenses (2) (3) (3) (8)
Equity income from
investments in
unconsolidated affiliates — 1 — 1
Operating profit $ 20 $ 6 $ (3) $ 23
MAINLAND CHINA 2005 BUSINESS ISSUES Our KFC business
in mainland China was negatively impacted by the interruption
of product offerings and negative publicity associated with a
supplier ingredient issue experienced in late March 2005 as
well as consumer concerns related to Avian Flu in the fourth
quarter of 2005. As a result of the aforementioned issues,the
China Division experienced system sales growth in 2005 of
11%, excluding foreign currency translation which was below
our ongoing target of at least 22%. During the year ended
December 30, 2006, the China Division recovered from these
issues and achieved growth rates of 23% for both system
sales and Company sales, both excluding foreign currency
translation. During 2005, we entered into agreements with
the supplier of the aforementioned ingredient. As a result, we
recognized recoveries of approximately $24 million in Other
income (expense) in our Consolidated Statement of Income
for the year ended December 31, 2005.
SIGNIFICANT 2008 GAINS AND CHARGES In 2008, we expect
that our results of operations will be significantly impacted
by several events, including the sale of our interest in our
unconsolidated affiliate in Japan and refranchising gains and
charges related to our U.S. business.
In December 2007, we sold our interest in our unconsoli-
dated affiliate in Japan for $128 million in cash (includes the
impact of related foreign currency contracts that were settled
in December 2007). Our international subsidiary that owned
this interest operates on a fiscal calendar with a period end
that is approximately one month earlier than our consolidated
period close. Thus, consistent with our historical treatment
of events occurring during the lag period, the pre-tax gain on
the sale of this investment of approximately $87 million will
be recorded in the first quarter of 2008. We also anticipate
pre-tax gains from refranchising in the U.S. of $20 million to
$50 million in 2008. We expect, that together these gains
will be partially offset by charges relating to G&A productivity
initiatives and realignment of resources, as well as invest-
ments in our U.S. brands to drive stronger growth. The net
impact of all of the aforementioned gains and charges is
expected to generate approximately $50 million in operating
profit in 2008.
While we will no longer have an ownership interest in
the entity that operates both KFCs and Pizza Huts in Japan,
it will continue to be a franchisee as it was when it operated
as an unconsolidated affiliate. Excluding the one-time gain,
we do not expect that the sale of our interest in our Japan
unconsolidated affiliate will have a significant impact on our
subsequently reported results of operations in 2008 and
beyond as the Other income we recorded representing our
share of earnings of the unconsolidated affiliate has histori-
cally not been significant ($4 million in 2007).
FUTURE TAX LEGISLATION — MAINLAND CHINA On March 16,
2007, the National People’s Congress in mainland China
enacted new tax legislation that went into effect on January 1,
2008. Upon enactment,which occurred in the China Division’s
2007 second fiscal quarter, the deferred tax balances of all
Chinese entities, including our unconsolidated affiliates, were