Trust issues hit KFC in China

9 January 2013

BEIJING: KFC, the restaurant chain owned by Yum Brands, has predicted short-term sales in China will be negatively affected by a food safety scare, an issue of great importance to the country's shoppers.

The Shanghai Food and Drug Administration said late last year that 20 tests by a third party agency from 2010–11 found eight different cases where chicken supplied to Yum by Liuhe Group contained higher levels of antibiotics than is officially allowed.

While the firm ceased receiving deliveries from Liuhe in August, it remains under pressure. "Our food is perfectly safe to eat," Jonathan Blum, Yum's senior global nutrition officer, said, Reuters reported.

"We regularly audit our suppliers, and if we ever find a supplier in non-compliance, we take immediate corrective action to resolve the issue, including terminating the relationship if that is warranted."

However, Yum also logged a filing with the Securities and Exchange Commission stating that the "adverse publicity" had exerted a "significant impact" on its business in China at the end of December 2012.

Indeed, it forecast sales in the country may fall by 6% in the Asian nation during the next quarter, having previously anticipated a 4% contraction on this measure, before returning to growth in 2013.

"People tend to trust Western brands, they think these brands have better quality control over the supply chain and they are not going to cut corners," said Shaun Rein, the managing director of the China Market Research Group, told Bloomberg. "The trust in KFC was so high that now the anger is high."

Yum runs over 5,100 restaurant branches across China, which provide more than half of its sales and operating profit. It was also expected to deliver $1bn in operating income this year.

"Until the company is able to mount a PR campaign that successfully regains the trust of Chinese consumers, sales and EPS [earnings per share] are at material risk," said Bryan Elliott, an analyst at Raymond James, the financial advisory group.

RJ Hottovy, an analyst at Morningstar, added that Yum's sales warning was "not overly surprising", but sales should recover after a lull in the first half of the year. "There's usually a little bit of a lingering effect," he said.

Carrefour was reported to be selling expired and mislabelled chicken by CCTV, the state broadcaster, last year, while some 37 staff from Walmart were arrested for mislabelling pork. McDonald's has also been subject to the same accusations as KFC.

"These things happen. They have historically always recovered," Sara Senator, an analyst at Bernstein Research, told CNBC.

Data sourced from Reuters, Bloomberg, CNBC; additional content by Warc staff