Pizza Hut 2013 Annual Report Download - page 115

YUM! BRANDS, INC.-2013 Form10-K 19
Form 10-K
PART II
ITEM7Management’s Discussion and Analysis of Financial Condition and Results of Operations
Restaurant Margin by 0.4 percentage points and did not have a significant
impact on China Division Operating Profit versus 2011.
The purchase price paid for the additional 66% interest and the resulting
purchase price allocation assumed same-store sales growth and new
unit development for the brand. As a result of consolidating Little Sheep,
the primary assets recorded in 2012 were an indefinite-lived Little Sheep
trademark and goodwill of approximately $400 million and $375 million,
respectively. The goodwill was assigned to the newly formed Little Sheep
reporting unit within our China Division.
Little Sheep’s sales were negatively impacted by a longer than expected
purchase approval and ownership transition phase. Our efforts to regain
sales momentum were significantly compromised in May 2013 due to
negative publicity regarding quality issues with unrelated hot pot concepts
in China, even though there was not an issue with the quality of Little
Sheep products.
While we remain confident in the long-term potential of Little Sheep,
the sustained declines in sales and profits that began in May 2013 and
continued through the third quarter, coupled with the anticipated time it will
now take for the business to recover, resulted in a determination during the
quarter ended September7, 2013 that it was not more likely than not that
the Little Sheep trademark and reporting unit fair values were in excess of
their carrying values. Therefore, our Little Sheep trademark and goodwill
were tested for impairment in the quarter ended September7, 2013, prior
to the annual impairment reviews performed in the fourth quarter of each
year in accordance with our accounting policy.
As a result of comparing the trademark’s fair value of $345 million to
its carrying value of $414 million, an impairment charge of $69 million
was recorded. Additionally, after determining the fair value of the Little
Sheep reporting unit was less than its carrying value, goodwill was
written down to $162 million, resulting in an impairment charge of
$222 million. The Company also evaluated other Little Sheep long-lived
assets for impairment and recorded a $4 million impairment charge related
to restaurant-level PP&E.
These non-cash impairment charges totalling $295 million were recorded
in Closures and impairment (income) expense on our Consolidated
Statement of Income. We recorded an $18 million tax benefit associated
with these impairments and allocated $19 million of the after-tax impairment
charges to Net Income (loss) - noncontrolling interests, which resulted in
a net impairment charge of $258 million allocated to Net Income - YUM!
Brands, Inc.
Losses Associated With the Refranchising of the Pizza
Hut UK Dine-in Business
During the fourth quarter of 2012, we refranchised our remaining
331 Company-owned Pizza Hut dine-in restaurants in the United Kingdom
(“UK”). The franchise agreement for these stores allows the franchisee
to pay continuing franchise fees in the initial years of the agreement at a
reduced rate. We agreed to allow the franchisee to pay these reduced fees
in part as consideration for their assumption of lease liabilities related to
underperforming stores that we anticipate they will close that were part of
the refranchising. We recognize the estimated value of terms in franchise
agreements entered into concurrently with a refranchising transaction that
are not consistent with market terms as part of the upfront refranchising
gain (loss). Accordingly, upon the closing of this refranchising in the
fourth quarter of 2012, we recognized a loss of $53 million representing
the estimated value of these reduced continuing fees. The associated
deferred credit is being amortized into YRI’s Franchise and license fees
and income through 2016. This upfront loss largely contributed to a
$70million Refranchising loss we recognized in Special Items during
2012, net of income tax benefits of $9 million. During 2011, we recorded
a $76million charge in Refranchising gain (loss) as a result of our decision
to refranchise or close all of the remaining Company-owned Pizza Hut UK
dine-in restaurants, primarily to write down these restaurants’ long-lived
assets to their then estimated fair value.
For the year ended December 28, 2013, the refranchising of the Pizza Hut
UK dine-in restaurants decreased Company sales by 18% and increased
Franchise and license fees and income and Operating Profit by 2% and
3%, respectively, for the YRI Division versus 2012.
Losses and Other Costs Relating to the LJS and A&W
Divestitures
In 2011, we sold the Long John Silver’s and A&W All American Food
Restaurants brands to key franchise leaders and strategic investors in
separate transactions. We recognized $86 million of losses and other costs
primarily in Closures and impairment (income) expenses as a result of our
decision to sell these businesses. Additionally, we recognized $104million
of tax benefits related to these divestitures. In 2012 as compared to 2011,
System sales and Franchise and license fees and income in the U.S. were
negatively impacted by 5% and 6%, respectively, due to these divestitures
while YRI’s system sales and Franchise and license fees and income
were both negatively impacted by 1%. While these divestitures negatively
impacted both the U.S. and YRI segments’ Operating Profit by 1% in
2012, the impact on our consolidated Operating Profit was not significant.
Other Special Items Income (Expense)
In connection with the aforementioned refranchising of stores in the U.S.,
we have taken several measures to transform our U.S. business, including
G&A productivity initiatives and realignment of resources (primarily severance
and early retirement costs). Other Special Items Income (Expense) in
2013 includes charges relating to these U.S. G&A productivity initiatives
and realignment of resources of $5 million as well as $2 million of costs
recorded in G&A that were part of the $120 million charge related to the
extinguishment of debt. Other Special Items Income (Expense) in 2012
includes the depreciation reduction from the Pizza Hut UK and KFC
U.S. restaurants impaired upon our decision or offer to refranchise that
remained Company stores for some or all of the periods presented of
$13million and $3 million, respectively, gains from real estate sales related
to our previously refranchised Mexico business of $3 million and charges
relating to U.S. G&A productivity initiatives and realignment of resources
of $5 million. Other Special Items Income (Expense) in 2011 includes the
depreciation reduction from the Pizza Hut UK and KFC U.S. restaurants
impaired upon our decision or offer to refranchise that remained Company
stores for some or all of the periods presented of $3 million and $10 million,
respectively, and charges relating to U.S. G&A productivity initiatives and
realignment of resources of $21 million.
Losses Related to the Extinguishment of Debt
During the fourth quarter of 2013, we completed a cash tender offer to
repurchase $550 million of our Senior Unsecured Notes due either March
2018 or November 2037. This transaction resulted in $120 million of losses
as a result of premiums paid and other costs, $118 million of which was
classified as Interest expense, net in our Consolidated Statement of Income.
The repurchase of the Senior Unsecured Notes was funded primarily
by proceeds of $599 million received from the issuance of new Senior
Unsecured Notes. See Note 10 for further discussion on the issuance of
Senior Unsecured Notes.
China Poultry Supply Incident and Avian Flu
In late December 2012 our KFC China sales began to be negatively
impacted by intense media attention surrounding an investigation by
the Shanghai FDA (SFDA) into poultry supply management at our
China Division. In January 2013 the SFDA concluded its investigation
and released its recommendations to Yum! China. During 2013 our
team in China undertook a comprehensive review of our supply chain,
incorporated the SFDA’s recommendations and, as part of our commitment
to quality, took additional steps to further strengthen our overall poultry
supply chain practices, including increased testing of product received