百勝餐飲集團 (YUM) 0 Q0 法說會逐字稿

Good morning, ladies and gentlemen, my name is Paul, and I will be your conference facilitator today.

At this time, I would like to welcome everyone to the Yum!

Brands Incorporated second-quarter 2004 earnings conference call.

All lines have been placed on mute to prevent any background noise.

After the speakers’ remarks there will be a question-and-answer period.

If you would like to ask a question during this time simply press star then the number one on your telephone keypad.

If you would like to withdraw your question press the pound key.

Thank you.

I would now like to turn the conference over to Mr. Tim Jerzyk, Vice President of Investor Relations for Yum!

Brands.

Please go ahead, sir.

Thanks, Paul.

Good morning everyone, and thanks for joining us on the call.

Before we begin, I’d like to go through a few necessary things.

This call is being recorded as always and will be available for playback.

We are broadcasting the conference call via our Web site, www.yum.com.

Please be advised if you ask a question it will be included in both our live conference and in any future use of the recording.

I would also like to advise this conference call may include forward-looking statements that reflect management’s expectations based on currently available data.

However, actual results are subject to future events and uncertainties.

Information in this conference call related to projections or other forward-looking statements may be relied on subject to our Safe Harbor statement included in our earnings release from last night and may continue to be used while this call remains in the active portion of the company’s Web site, which will be until midnight, July 30, 2004.

I’m pleased to say on our call today we have David Novak, Chairman and CEO, Dave Deno, our CFO, and also joining us today is Graham Allan, President of our International business.

All three will follow with remarks, and we will then take your questions.

Now I’ll turn the call over to David Novak.

Thank you, Tim, and good morning everybody.

As you probably saw from our release we had a stronger than expected second quarter, 55 cents per share and 16% growth.

This was led by continued strong performance from our international business as well as very good results from Taco Bell and Pizza Hut in the United States.

KFC U.S. performance lagged as anticipated.

The solid operating performance of our global portfolio was able to more than offset unusually high commodity inflation, which significantly affected our U.S. costs.

In terms of EPS, a one-time benefit in taxes enabled us to exceed our EPS expectation by 3 cents.

Based on the solid year-to-date results and the momentum in our key businesses, we are raising our commitment for 2004.

We are increasing our EPS forecast to at least $2.33 or 13% growth.

We are confident taking our full-year forecast up because we have solid plans in place for the balance of 2004 for all our key businesses and momentum is strong in our biggest businesses.

Dave Deno, our CFO, will provide further detail on the numbers for the quarter and full-year forecast coming up shortly.

Before I turn it over to Dave, let me provide some insights on our current trends and some perspective on the remainder of the year.

First, let me talk about our largest division, our high-growth, high-return international business.

A business that makes Yum! totally unique in the restaurant category.

This business is hitting on nearly all cylinders, and the big markets are strong.

We’re hitting or exceeding our growth targets on system sales and profits.

The second quarter was right on target despite significant challenges due to avian flu, which occurred in Asia earlier in the second quarter.

We fully expect to open at least 1,000 new international restaurants again for the fourth straight year with the vast majority being opened by our franchisees.

Our three biggest profit contributing business segments are all doing well.

China, the United Kingdom, and our extensive franchise-only markets.

China is our number-one market for new-company restaurant development.

We expect to open at least 300 new company and joint-venture restaurants in China and grow same-store sales for both KFC and Pizza Hut brands.

Our strategy is to dominate every significant food-service category in China, and as I speak, China is continuing to perform above expectations at both KFC and Pizza Hut.

Unit growth is running at 26% for all of China, and comps are solidly positive, double-digit positive this quarter so far.

In the United Kingdom, we also continue to open new company and franchise units at a healthy pace plus 8% and grow same-store sales at both Pizza Hut and the KFC brands.

Our very significant franchise-only markets like Asia, the Middle East, South Africa and Latin America, continue to produce solid results.

You can see from last night’s earnings release that system sales growth in local currency terms is strong.

Plus 12% driven by both new unit expansion and same-store-sales growth.

With these key international business segments performing well, it gives us confidence we will continue our international profits at a strong rate.

Currently we expect at least 18% growth in 2004, exceeding our 15% growth target in dollar terms.

Graham Allan, the President of Yum!

Restaurants International, is on the call today, and he will give you a more in-depth look at our high-growth, high-return international business.

In the United States, we also have very good momentum in our two largest businesses, and new programs backing us up.

First, some perspective on Taco Bell, our largest U.S. profit contributor.

Taco Bell continues to lead the way for the U.S. business and the category.

It is clearly performing in the top tier of all restaurant companies.

You can see from last night’s release, the solid performance carried into Period 7, the first period of Q3, with growth of 5% in same-store-sales growth.

Once the turnaround at Taco Bell began in late 2001, 36 out of the last 37 periods have had positive same-store-sales growth.

Year to date Taco Bell is plus 5%, and we expect a strong second half.

These results have come from steadily improving operations, excellent brand positioning, and marketing with relevant quality product news.

Taco Bell’s been raising quality through new products like Quesadillas, Border Bowls and Grilled Stuffed Burritos as well as through quality upgrades of tried and true core menu items like the Fiesta Taco Salad and the Ranchero Chicken Soft Taco, which was introduced earlier this year.

As you may know, one of Taco Bell’s key consumer strengths is our strong value image.

Recently you may have seen the launch of the Big Bell Value Menu.

This is a line of seven products with everyday value of 99 cents to $1.29 positioned to be the first value menu with big, filling products and new taste excitement.

Products include the Double Decker Taco, Grande Soft Taco, One-half Pound Bean Burrito Special, One-half Beef Combo Burrito, One-half Pound Beef and Potato Burrito, Cheese Fiesta Potatoes and Carmel Apple Empenadas.

That’s a Spanish mouthful there, I’ll tell you.

The Big Bell Value Menu is something we have been working on for quite some time and is well-tested.

The intent with this launch is to reinforce our already very strong value position with an insurance policy targeted right at the all-important heavy fast-food user.

We are very pleased with our customers’ initial response to the Big Bell Value Menu, and we’re very excited about it.

Just as importantly, Taco Bell’s operations performance continues to steadily improve with a focus on exceptional executions of the basics.

The net of it all is, we are on a steady, consistent growth path at Taco Bell, have a strong beat-year-ago marketing calendar and expect to stay on track.

Now on to Pizza Hut.

Q2 was another very good quarter at Pizza Hut with 5% same-store-sales growth.

In fact, Pizza Hut has now shown positive same-store-sales growth in 14 of the last 15 periods.

We are steadily improving the consistency of our same-store-sales performance.

Year to date, Pizza Hut same-store sales are up 5%.

As you saw on last night’s release for Period 7, we had 6% growth on top of 4% same-store-sales growth last year.

Pizza Hut is our best performer in the United States year to date.

The brand is being successfully repositioned to target the heart of the pizza category, the family, and the primary decision maker, Mom.

As you may remember, in 2003, the new product pipeline was rebuilt with a record number of product and concept tests.

We kicked off the year with one of these product, the new “4forAll Pizza,” which gives the family four pizza choices in one size.

Everyone in the family gets to pick the topping for their very own pizza.

Consumer acceptance has been very positive and all indications are this product is the most significant pizza category innovation since we launched “Stuffed Crust.”

We just ran the “4forAll Pizza” again with national advertising and as you can see from the results from last night’s earnings release, we had another very good period.

We will continue to work to make this very unique pizza a permanent addition to the Pizza Hut menu.

Pizza Hut is also steadily improving its operations.

Our team-member turnover remains below 100%.

All in all, we expect continued positive performance for Pizza Hut because of the heavy lifting we did last year and the news we have in the pipeline in addition to the base we have already added with the “4forAll Pizza.” The team continues to develop great new pizza products in our pipeline.

KFC U.S. is clearly our biggest challenge, but we remain confident our new management team is taking the right actions to turn the brand around.

The KFC team is taking the similar actions that we took to turn around Taco Bell and Pizza Hut.

The key here is, is that there has to be a major ops focus on improving the basics, and we are taking key actions, like the following: The implementation of a one-system ops structure.

This aligns the field management focus on both company and franchise restaurants.

This is the same approach we took at Taco Bell three years ago.

We have a massive “Clean Across KFC” campaign leading to the implementation of cleaning captains at every restaurant as they prepare for new products that we are developing in our pipeline.

We also have a focus on improved speed of service, also implementing the Taco Bell drive-through program, which is also improving our speed of service at KFC.

Just as significantly, we’ve started to implement some key initiatives that will build this brand over the long term.

This included the launch of a new advertising campaign in early May and a new menu board roll out systemwide in the U.S., which is being completed as we speak.

The new “Chicken Capital USA” ad campaign has produced excellent consumer awareness scores, and the KFC system is pleased with the new menu boards currently being put in place.

Our recent “Oven Roasted Strips” promotion did not meet expectation,. but our fried chicken tie-in with Dale Earnhardt, Jr. created an uptick in sales.

We believe fried products that are closer in to our DNA will provide more offense than introducing non-fried products.

A number of new products are in concept development and in test market.

And we are starting to build a pipeline like we have now at Taco Bell and Pizza Hut.

While we are committed to offering our customers new roasted products to broaden the appeal of our KFC menu in store, and you will see those products in store, the bulk of our nationally advertised product and promotional news will be fried going forward to drive the frequency of our core user.

The key to growing any business and the key to turning any business around is increasing frequency with that heavy user.

We expect same-store sales at KFC to be up 1 to 2% balance of the year with the momentum building as we move into 2005.

I remain confident we are working on the right things at KFC and it will pay off.

Overall, when you look at our entire U.S. portfolio, led by the strength of Taco Bell and Pizza Hut, we expect third-quarter blended same-store sales to be up 3 to 4%.

Now let’s talk about one of our key strategies, multibranding our category-leading brands.

We continue to make progress.

In the second quarter we passed a 2,300 store mark in number of U.S. multibranding units.

This year we expect to add at least 500 U.S. multibrand units.

These 500 additions will be very focused on additions of Long John Silver’s to either Taco Bell, KFC or in combination with A&W.

Additionally, you’ll see expanded multibrand testing at Pizza Hut delivery restaurants.

Our strategic focus over the next five years will be to make Long John Silver’s a national brand.

A key factor is we are transforming Long John Silver’s into a fish and shrimp seafood restaurant and improving the product quality.

We just recently launched salads which adds better-for-you variety to our menu.

At Pizza Hut, we are continuing to expand the testing of multibranding with new concept we created call “WingStreet.” This is focused on providing branded variety to our Pizza Hut delivery locations.

WingStreet offers a line of tasty bone-in and boneless flavored chicken wings.

Initial results are promising enough for to us expand our testing.

We have expanded this test during Q2 to additional markets and will watch the results.

As you can see we are in the very early stages of multibrand development at Pizza Hut U.S.

Overall, we have invested G&A in a big way behind our multibranding strategy.

We have a full-time dedicated operations team working on the systems that will help us expand our multibranding business even more successfully in the future.

Significant progress is being made at improving multibrand service systems, investment costs, and margins.

We are more confident than ever on the prospects of multibranding opening up new-unit growth in the United States, particularly given the success we are seeing with Long John Silver’s and A&W new-unit combinations.

And the obvious opportunity to make that combination into a national brand if we continue to see the kind of results we’re generating.

Customers clearly love multibranding, and our franchisees are opening up half of our units, which is indicative of the power of the unit economics of a well-run store.

Last but not least the Yum! investment grade rated balance sheet is in outstanding shape, and we are about to pay our first quarterly dividend to our shareholders.

We continue to be in great position to buy back our stock, further reduce our debt, in addition to initiation of a quarterly dividend.

With that as a preamble, let me turn it over to Dave Deno to take you through the details of the numbers.

Thank you, David.

And good morning everybody.

As we stated in the earnings release yesterday, we continue to feel very good about our business outlook and trends in 2004 relative to the commitment we made to our shareholders.

We are pleased to report that our new EPS forecast prior to our special-item gain for 2004 of at least $2.33, or 13% growth, is 10 cents ahead of our original commitment to shareholders last December.

As you know, our stated goal is to grow EPS at least 10% every year, and we’re once again exceeding that target.

The financial strength of our company is better than ever.

We continue to expect about $1.2 billion in net cash provided by operating activities this year.

We’ll hit our substantial cash flow commitments for the year.

We made significant progress in the first half of returning cash to shareholders with share buy backs.

We invested $294 million in share buy backs year to date, which is more than we have ever invested previously for an entire fiscal year.

And now we have initiated a new, meaningful quarterly dividend beginning in Q3, that, from the start, is comparable to our peers.

Now let’s talk about the second quarter in some detail.

During the quarter we were able to achieve 55 cents a share with growth of 16% versus a year ago.

This was 3 cents a share better than what was expected in April, primarily because of a lower-than-expected tax rate of 26%.

The drivers behind the lower rate versus a year ago were settlements in connection with closure of regular audit cycles and the permanent rate change in Canada.

Overall, we were especially pleased with the second-quarter results considering the avian flu situation in Asia and higher commodity costs in the United States.

This once again demonstrates the power of our global business portfolio.

Our international business had a great quarter even though avian flu had a negative impact on some of our Asian businesses.

Systems sales are up 15%, profits are up 23%, and restaurants margin expanded by 30 basis points.

In addition, we opened up another 166 new units in the quarter, not bad.

Our businesses in China, the U.K., Pizza Hut Korea, Australia and our Middle East franchise business all had strong quarters.

And just as a reminder, our international business is now over 35% of Yum!’s profits and generates over 60% of our year-on-year earnings growth.

In the United States, our blended U.S. same-store-sales growth was 2%, which is at the high end of our 1 to 2% ongoing target.

Our two biggest businesses, Taco Bell and Pizza Hut, is drawing quarters with same-store-sales growth of 3% and 5% respectively.

David has already taken you through impressive plans these businesses have in place to keep the momentum going.

Taco Bell and Pizza Hut generate over 75% of Yum!’s U.S. profits.

Overall restaurant margin in the U.S. was down 50 basis points.

While we are never happy to see declining margins, this performance was quite good especially considering we experienced a 2.3 percentage point negative impact from higher commodity costs.

Cheese was by far the largest component of this increase but we also saw increases in all the meat categories including pork, chicken, and beef.

We were able to overcome most of the commodity increase because of on-target sales growth and excellent restaurant controls.

Our overhead for the quarter was up 12%.

That was a bit higher than we expected but for good reason.

One, let me just talk about those reasons in just a minute here.

One, spending behind our rapidly growing international division, especially China, was up.

Investing behind terrific new financial and human-resource systems.

These benefits will yield future benefits.

Ownership of Pizza Hut and Taco Bell restaurants in Canada.

Last year these restaurants were on a joint venture, and the overhead to manage this venture was not in our books.

And finally, higher compensation costs for bonuses per our current plan as some of our businesses, as you can see, are having absolutely terrific years.

I can tell you though, we will continue to be very diligent in managing our overhead, but we will continue to make strong investments up against our growth opportunities.

Finally, for the second quarter, we incurred some losses from refranchising transactions, which are set to occur.

Expense for facility actions increased $4 million versus last yea, which includes expenses for restaurant closures and impairment as well as gains and losses from refranchising.

Importantly, we flow these items through our ongoing operating earnings and don’t take them as a one-time charge.

We are appropriately moving ahead with our planned refranchise transactions.

This quarter included some losses as transactions are being completed.

Overall, this was approximately a 1-cent headwind for us in the quarter.

Now moving to the third quarter.

For the third quarter we are comfortable with the consensus estimate of 60 cents per share or 11% growth.

Looking further ahead, we expect to generate at least 71 cents per share in the fourth quarter that ties to our at-least $2.33 full-year forecast.

We expect our international business will continue to lead the way with broad-based profit growth including very strong results in China and the added benefit of several million dollars from foreign currency conversion.

And as David mentioned earlier, we expect another solid quarter in U.S. blended same-store-sales growth in the plus 3 to 4% range.

You’ll notice from our release yesterday, the quarter got off to a very good start with solid Period 7 sales results both for international and in the U.S.

Keep in mind, international lapped the SARS impact in China this period, so please do not expect the 14% local-currency growth rate to continue.

I want to emphasize this business is doing very well but we do expect some moderation in results ahead.

Our ongoing target of 7 to 9% growth in international system sales prior to conversion to U.S. dollars.

Over the last several years, this business has had an excellent track record of pretty consistently right in that range.

For the third quarter, simply put, our strong international business continued with above-target sales trends at Pizza Hut and Taco Bell and modest improvement for KFC U.S. are expected and will help us more than offset the negative U.S. commodity impact.

As we noted in the earnings release yesterday, we expect well-above average commodity cost to impact our third-quarter U.S. restaurant margin.

The inflation in Q3 will be more in the meats category, predominantly chicken.

Cheese inflation is included in this estimate.

Yes, we are very happy to see cheese prices dropping fairly rapidly.

Given typical seasonality for cheese prices, it has been unusual as to the extent and speed given the normal seasonal peaks in the summer, excuse me, given the normal seasonal peak in prices is usually late summer.

We’ll see what happens to cheese prices as we go through the quarter.

This is an extremely difficult market to predict given its unique structure.

Needless to say, if cheese prices stay at this level, around $1.40 per pound, it’s good news for YUM! and more like business as usual.

Adding this all up we expect to drive 11% growth in third-quarter EPS.

As always you can track our progress during the quarter as we provide you with both international and U.S. sales updates in every four-week period.

If our earnings expectations change, you will hear from us in these updates.

Otherwise you should expect that we’re at least on our EPS target.

Stepping back, when you look at our company, you can see we have a strong ability to handle short-term challenges such as SARS, commodity spikes, and avian flu.

I hope you have the sense that management is very responsive and biased to take action.

We’re a large, global, diversified company with plenty of opportunities and are definitely not the typical restaurant company you see in the category.

Overall, given our terrific first half, strong business trends and plans for the balance of 2004, we again raised our full-year estimate to at least $2.33 for the year, or 3 cents, or at least 13% growth.

Now let me review our ever strengthening balance sheet and what you can expect regarding our strong cash flow.

We continue to expect about $1.2 billion in net cash provided by operating activities with about $770 million in capital spending.

So frequent cash flow will be substantial again this year, over $400 million.

In addition as you expect from us, we’ll generate additional $100 million from refranchising, at least $130 million in employee stock-option proceeds, and about $50 million from sales of surplus property and equipment.

That’s over $250 million of cash we will have available for a total of $650 to $700 million.

We expect 2004 will be another year of the Yum! balance sheet continues to strengthen and financial ratios continue to move in a favorable direction.

For 2004, we’ll use our cash available to continue to buying back our stock, pay our shareholders a nice quarterly dividend, and look for additional opportunities to reduce debt.

Before I wrap, up let me point out a couple of things for investors to consider for 2005.

First for Yum! it will be a fiscal year with 53 weeks, one additional week.

Second, we will separate our China business as a reporting segment.

As you will see in our earnings releases now, there is an international segment and a U.S. segment.

For 2005, there will be three: U.S., China, and international, which, of course, would be the same business today excluding China.

China, with very strong double-digit growth in revenues, profits, and scale is already an important segment for our overall YUM! business and deserving of special reporting.

This year we’re expecting profits to increase by nearly 25% despite the second-quarter avian-flu impact.

As I mentioned earlier, our international business today represents at least 60% of Yum! earnings — Yum! year-over-year earnings growth on an ongoing basis.

China represents about half of that 60%.

Graham Allan will briefly review the 2005 version of YUM!

Restaurants International ex-China coming up shortly on the call.

Now to wrap it up.

We beat our earnings expectations for Q1 with 19% growth, delivered 16% growth in Q2 with strong business performances more than offsetting short-term cost surges.

We’re committed to grow at least 13% before special items this year ahead of our plus 10% target and believe we have plans in place for our key businesses to have a terrific year.

We’ll provide more details on 2005 later this year, but we remain confident we will be able to continue our growth track record.

In my view there are six very good reasons to feel confident about our 2005 prospect.

First, international growth is strong in a minimally competitive marketplace, and we have great momentum.

Second, China growth and dominance.

Third, excellent business momentum at Taco Bell and Pizza Hut with proven programs tested and ready for next year.

Fourth, profit upside from KFC U.S.

Fifth, hopefully a better commodity situation, and finally, an ever-strengthening balance sheet and terrific cash flow.

We remain very focused on achieving at least 10% growth in EPS each year going forward, and we will work very hard to exceed that.

Back to you, David.

Thank you, Dave.

Appreciate it.

Before we take questions, I’d like to turn the call over to Graham Allan.

Graham was named President of our international business last fall, or as we call it, YRI, Yum!

Restaurants International.

In February, 2005, when Pete Bassi retires, Graham Allan will lead our international business excluding China and report to me.

Sam Su, the President of our China business, will then also report directly to me.

With that introduction, let me turn it over to Graham who has been in our company for 12 years now, great international experience, great leader, he built our KFC U.K. business and turned it into the fantastic success story that it is for us today.

He’s been leading our efforts to get KFC established in continental Europe, and he’s been largely responsible for the great results we’re generating outside of China this year.

Graham.

Thank you, David.

Good morning, everybody.

I appreciate the opportunity to share with you some perspectives on our international business, or as we call it, Y-R-I, Yum!

Restaurants International.

You’ve all heard a lot previously about our extraordinary business in China, YRI’s largest and fastest growing business.

Along with its clear number one position in the QSR category, the KFC brand in China is more recognized by Chinese consumers than any other brand in any category.

Despite the impact of avian flu in the earliest half of Q2, the China business continues to power ahead.

As you’ve heard already, it will achieve nearly 25% growth in operating profit this year off a base of $157 million in 2003.

The size and unique strength of this business fully justifies its reporting as separate division of YUM! in 2005.

Enough on China for today.

My real objective is to provide you with an overview of the YRI business ex-China so that you can make your own assessment on the strength and growth potential of our international business going forward.

Specifically, I’ll be providing perspective in four key areas of interest.

First the two strong brands that we have in international markets; second, the scale and composition of our international portfolio; third, the priorities we have for sustaining performance; and finally, the growth opportunity in front of us.

Let me turn first to the brands.

KFC and Pizza Hut make up most of our international restaurant and system sales.

Off the total restaurant base of 11,300 in YRI ex-China, that number includes licensed units nearly 60% are KFCs, and almost 40% are Pizza Huts.

We want new-unit growth and same-store-sales growth of our both brands going forward.

KFC is our real powerhouse internationally.

It has developed very differently outside the United States and is a very different business compared to its U.S. counterpart.

In almost all markets, it competes in the heart of the QSR category and capitalizes on the universal appeal of chicken and our hard-won reputation for value and superior quality.

For example, in many markets, sandwiches, snackable items and products other than chicken on the bone account for well over 50% of menu mix.

In the U.S., these would normally account for about 30% of mix.

Our assets internationally are more modern.

They’re typically located right in the heart of thriving trade areas, and operators, whether they be us or our franchise partners, have consistently invested to keep units contemporary and appealing.

Our consumer base for KFC internationally has a great balance of young adults and families.

These elements have given us wide distribution.

In several markets, particularly in Asia and in Mexico, we have stronger unit distribution than any other QSR competitor including McDonald’s.

And we have a presence in 120 countries and territories, even excluding China with lots of future development potential in those countries and elsewhere.

Our Pizza Hut business internationally is also very different from its U.S. counterpart.

It is skewed more towards dine-in and has a consumer execution which ranges from being largely a family-dining brand in some markets, to being a contemporary, young adult-based, casual-dining brand in others.

Importantly, Pizza Hut is the largest branded dine-in business in the world and has a category-defining position in many markets.

We don’t yet have a strong delivery business like the one that exists in the U.S.

That represents a significant opportunity for us.

Consumer trends outside of the U.S. are trending towards greater convenience and a high propensity to eat meals prepared away from home.

These trends will help our dine-in business, but they also underscore the potential that we have to emulate the high-return U.S. delivery business with a brand which is the recognized leader in its category around the world.

Let me now turn to YRI’s profile excluding China.

As I said earlier, YRI ex-China now has about 11,300 restaurants including licensed units.

We expect to end the year with about 11,600 restaurants in YRI after this year’s net build.

Of the 11,300 restaurants, just over 15% are equity owned with KFC U.K., Pizza Hut Korea, Australia and Mexico being our core equity markets.

Of course even in these so-called equity markets we have a healthy franchise base.

Another 14% are owned by joint ventures and affiliates in which we have an equity stake.

Pizza Hut U.K. and Japan being the largest of them.

The remaining 70%, or 8,000 units, are franchise restaurants in over 100 countries with Asia franchise accounting for nearly 2,000, and the rest being broadly spread through Europe, Australasia, the Middle East, Central and Latin America, and Southern Africa.

The high proportion of franchise restaurants provides a secure source of franchise fees to YRI.

Indeed fee revenues from our franchise and joint-venture partners will total almost $400 million this year.

Naturally, we have less leverage on the sales upsides of these revenues than we have in our equity operations, but we love the stability and high returns which this stream of cash represents.

We will not be increasing our equity ownership unless we can see a clear business case based on strengthening our brands in any market and on earning attractive financial returns for shareholders.

We pride ourselves on the financial discipline which has delivered consistently strong profit growth and high returns over the past few years.

That discipline will endure through the organization changes occurring next year.

Last December, we confirmed that China’s share of YRI’s 2003 operating profit was $157 million.

That means the balance of YRI contributed $284 million for 2003.

Dave Deno has mentioned that China will grow profits this year by nearly 25%.

The rest of YRI will grow by about 15%.

In other words, full-year operating profit from YRI, even without China, will grow at a very healthy clip.

To help you break down that profit number, the key equity markets of the U.K., Australia, and Pizza Hut Korea represents slightly over 50% of the profit of the new YRI.

Operating profits from a very diversified franchise-only business units in Asia, South Africa, the Middle East, Europe, and Latin America will be about another 30%.

This profile is consistent with the strategy we have communicated previously.

Our approach is to have a small number of countries in which we have equity operations, currently 12 if you exclude China, and to leverage those markets by building scale and holding ourselves to the highest standards of operations excellence.

Our development profile reflects a similar pattern.

Of the 1,000 plus new builds we’re planning for this year, about 750 will occur outside China.

The two businesses in the U.K. will build more than 100, Australia and Mexico combined will add over 80, and franchisees in the markets covered by our franchise-only business units will add over 400.

Indeed, if you include franchise development worldwide in all our markets, our franchisees and joint-venture partners will build over 80% of the restaurants opened by YRI ex-China this year.

I repeat, 80%.

I now want to turn briefly to the priorities we have for the division to sustain our growth track.

We have three big priorities which we’re working against to perpetuate the track record of profit growth and financial performance.

Together with the growth options we’re investing in, which I’ll discuss in a moment, we see these priorities as the key drivers of ongoing profit growth which we are projecting at 13% per annum for YRI excluding China.

The first priority is to strengthen consumer appeal through value and product innovation.

We have great brands today, but we believe that a tight focus on value and new products which are relevant to local consumers will drive continued same-store-sales growth.

Value is the key strategy, especially at KFC.

Value products and bundles have been a big source of unit-volume growth in Asia, Australia, and the U.K. this year.

The spectacular same-store-sales growth we’ve had in South Africa for the past few years has in large part been attributable to a concerted drive against the value.

And the Mexican business, which as you know, was a problem for us last year, launched at the beginning of Q2, a nationwide affordable value initiative known as Abusados comprising individual combos for less than the equivalent of $3 U.S. and a family combo for less than $10.

We’re seeing encouraging trends on transactions and sales from this initiative.

We also know that product innovation drives the category and we want to be the innovation leaders.

Pizza Hut Korea has led the way on this.

Successive versions of its Rich Gold Pizza, a Stuffed Crust Pizza with sweet potato on the top have driven double-digit same-store-sales growth for the past year and in the most recent quarter, in a very tough macro environment: A great example of developing winning products by customizing them to local tastes.

All of our businesses are working to provide healthy choices for our consumers like the salads program at KFC U.K., rice bowls which are being rolled out across a number of markets, and roasted sandwiches.

Our second key strategy is to sustain our unit development and by the way, to do with it world-class facilities.

So far this year, we’ve opened 249 new units internationally excluding any development in China.

To give you an idea of how broad-based is our new unit program, we’ve opened new KFCs and Pizza Huts in 50 countries so far this year.

Our third priority is to achieve the highest standards of excellence in restaurant operations.

We have some excellent operations for both brands and in many markets, though we have an opportunity to be more consistent and to set new standards for the industry across the world.

We’re taking this opportunity seriously.

With new programs around industry basics like cleanliness, hospitality and speed, we’re confident that our restaurant operations will scale new heights in the years ahead and will be instrumental in driving superior financial performance.

Finally, let me turn to the issue of growth.

Where is it coming from in the future?

We believe that we still have a huge runway in front of us.

In the last few years, we’ve been investing to gain a foothold in high-potential markets where we have only a small presence today, particularly KFC in continental Europe and KFC in Brazil.

It hasn’t all been easy, particularly in Germany, but sales are unit economics are moving in the right direction.

We also have several large countries where we have a tiny presence today, India and Russia being at the top of the list.

We’ve got plans to get much bigger in both of these important markets.

Additionally, our franchise-only business units all have new-market entry opportunities.

Several parts of the Middle East and Latin America in particular are open territory for us.

And even Asia, which is generally more penetrated, has some smaller new-market opportunities as well as expansion potential in highly populated countries like Indonesia and the Philippines.

And of course there’s delivery.

I mentioned this earlier as a huge opportunity for YRI, and we’ve barely scratched the surface yet.

We’re also testing multibranding in Australia and the U.K. with Long John Silver’s as our lead concept.

In both these markets, fish consumption is high and there is no national competitor.

Pizza Hut WingStreet is being tested in Canada, and we’re watching carefully the evolution of Pasta Bravo in the U.S. for possible application internationally.

All in all, a rich slate of future opportunities to add to the solid base which underwrites historic performance, which is why you hear all about Yum! being so excited about our unique international business.

Thanks for the chance to share a little of it with you.

Let me now hand it back to David.

Thank you very much, Graham.

Expect this year to be another very good year for YUM!.

We’ll achieve at least 13% EPS growth before any special items.

Our full-year target once again is at least $2.33.

We hope to do even better given the strengths of our core business.

However, remember we’re only half-way to the finish line, and so there’s no need for anyone to get ahead of us.

We are focused on executing our three key strategies.

International is continuing to expand profitably.

We are making steady progress operating our restaurants with a more trusted consumer experience, and multibranding is continuing to expand with a focus on Long John Silver’s.

So that’s wraps up our comments for this morning.

Now we’re happy to take any questions that you may have.

Ladies and gentlemen, as a reminder press star then the number one on your telephone keypads if you have any questions at this time.

Our first question comes from John Ivankoe with JP Morgan.

Hi, thanks.

Actually I’ll have two questions if I may, and they are unrelated.

The first is on KFC.

I think it’s interesting that you discuss a shift to the core user, which does seem somewhat contradictory relative to other QSR brands that I’ve had considerable success appealing to their limited-use consumer.

So please describe that.

And also, as it related to the roasted-strip introduction could you please describe any systematic changes in new-product introductions that may currently be implemented that can reduce some of the risk of future product introductions?

And secondly, which is kind of a quick question on China, it is currently an inflationary market.

If you could discuss your actions with regards to menu pricing and input cosst in that market that would be great.

Thanks.

I’ll take the second question first, John, it’s Dave, and then we’ll take on the KFC questions.

We continue to see food-costs benefits because of our terrific supply-chain work, and also a broader and more open marketplace.

We don’t really see or plan on any major pricing increases in that market.

So we’re able to expand our margins but also we are able to absorb any cost increases on the labor line or anything else because we’re doing a better job managing our supply chain and managing our restaurant economics, so it’s a good situation to be in.

John, your two questions, first on KFC.

When we look at the performance within the category, and we look at brands that have success and are turned around, typically what we see is that the, your core user, the heavy user, you have to maintain that base and the easiest and most close-in opportunity you have is to increase frequency among that group.

So that’s why we’re saying at KFC we believe that by working on a steady stream of fried news, leveraging our core operating platforms and the equity that we have, what we’re known for, that represents our closest-in opportunity.

So a lot of the pipeline work we’re doing is geared towards driving frequency of that heavy user.

We also believe we have to get a more relevant menu for light and medium users, and we’re working on oven-roasted products and salads that will get that light and medium user.

We believe that that’s going to be most likely more defensive for us because we think we’re so heavily known for fried that it’s going to be more likely to be defensive than offense that we can get from the fried product that is closer in to our core equities.

But I think the best way I would describe this is we’re trying to get the magic of the “and” here.

We think core user frequency, heavy user frequency is the closest in opportunity.

More difficult and more long term is to change behavior and bring in more frequency from the lighter and medium users.

But we’re pursuing that with our roasted-product line.

I think the second question you had was, where do we stand or how can we get more predictable in terms of our new-product pipeline.

We have instituted a field-ready process across YUM! now that we’re basically implementing globally.

It started a few years back at Pizza Hut where we had a great reputation for driving tremendous innovation in the pizza category.

We took that, expanded that to Taco Bell.

Taco Bell has refined it, now we’ve honed in our best practice there, and we’ve recently have shared that new-product process with all of our brands and countries around the world, and we’re implementing versions of that everywhere to try to get more predictability and reliability in terms of our new-product development.

I think we have the process.

You know, we’ve demonstrated great results in terms of generating pipelines at both Taco Bell and Pizza Hut using that process.

We’re putting that in place at KFC, where our pipeline has lagged, and we expect that to pay dividends for us in the next year.

What exactly is going to change?

Is it just going to be more time or different testing, more customer work or your different types of markets?

I think basically what we will do much more upfront work on the consumer insight to make sure that we really have an insight that really provides meaningful differentiation to our concept.

Really do a better job of quantifying the degree of unsatisfied need that exists in the category.

We expect to have a more disciplined process in terms of test marketing, so we get more reliability in terms of our read so we hope to go to more markets and have more experience before we roll out products.

We’ve got this instituted, as I said, and being implemented very religiously at Taco Bell.

We’re doing the same thing at Pizza Hut and KFC.

It also requires a bit more investment on the marketing side for test markets and upfront development, which we believe has a good payoff for us.

Okay.

Thanks.

Thanks, John.

Paul, next question, please.

Next question comes from Janice Meyer with CSFB.

This is sort of a follow-up actually to what John asked about KFC.

Taco Bell has had good success with product innovation around the light and medium user and has driven positive same-store sales in periods where they did promote those types of items.

So on the roasted platform, I guess one thing is, how certain are you that that is the right way to attract the light and medium user, you know, is that the right product line?

And I guess secondly, if it is, how certain are you that the lack of success of roast had to do with demand as opposed to maybe product quality or execution at the store?

First of all, when you look at Taco Bell, Janice, while we’ve taken our pricing up and developed higher-quality products, when you look at the growth and where the real growth is coming from, it’s coming from frequency of our heavy user.

We haven’t brought in — while we thought that the products that we’re developing would have more of a light to medium user appeal, it’s been mainly driving frequency among the heavy user.

So, you know, that’s one fact that we’ve learned.

And we think that’s because you’ve got that core user group there looking for exciting reasons to use you, and the more reasons that you can give them, the more reason they’ll come back, and that’s how you drive your frequency.

I think when you look at KFC, we think that what we need to provide more relevance and to attack the veto votes for the entire family is we need more choice.

So we believe we need to have more than just fried products.

So we think we need to have a fried and nonfried platform.

We don’t think that we came out of the box in the roasted category with the best effort that we could have had on the product side.

The awareness of that product and the trial of that product was low, so that tells us two things.

On the awareness side, in trials we probably didn’t market it as well as we could have.

And when we look at that, we thought we should have had a more introductory price point, and we think that our advertising may have been too targeted towards women.

When we look at the product itself, we think that the product itself could have been higher quality.

We didn’t pick this up in our test markets, and we didn’t have customer complaints.

We knew it was more of a targeted product, but we think that the product was more polarizing than a roasted product should be and that we have the opportunity to get a product with more mainstream appeal.

So we are convinced that the roasted platform makes sense to us, but we think we have the opportunity to improve the meat block in the quality of the product that we plan to roast, put into our twisters, put into our salads.

So you will be revisiting this, but you know from you’re saying with actually better marking support and better quality behind the product?

Yes, we will be revisiting.

We’re going to evolve with it, we’re into the platform.

We’re going to evolve.

We want to make sure that we have a higher-quality product as we go forward, and I think that’s upside for us as we go ahead.

So we just, you know, we were not happy with the oven-roasted launch, and I think it missed, in summary, on two points.

Okay?

One, in terms of awareness and trial.

We needed to have a more introductory price point, we believe, and we think we were too explicitly targeted to women with the product.

In terms of just repeat, we think that the product was more polarized, and we had more flavor on the product than was required and we’re going back and figuring out how to evolve that and improve that as we go forward.

Having said all that, we’re very committed to the green menu.

We are committed to providing products that are nonfried and make sure that we get into that segment, but we really do believe that when you look at the growth that we’re going to achieve over the long term, we think that bringing fried excitement and product innovation is more likely to play more of an offensive role for us, but that remains to be seen.

Again, we want to go after both of them in the right way, and we’re going to learn as we go forward.

That’s just a judgment at this point in time.

Thanks so much.

You bet.

Thanks, Janice.

Paul, next question, please.

Next question comes from David Palmer with UBS.

Hey, guys.

I just wanted to ask one last question on KFC, and then I would love to lob one to Graham about China.

And that is, on KFC, just from a, on a future healthier-menu introduction front, does the poor performance of oven roasted chicken make it difficult for you to push through other healthier menu items with the franchisee base?

I know a lot of these guys were fairly cynical about the oven roasted to begin with.

Now that this has become less than a success, without a, are you going to be, can you really generate a viable, healthy, you know, green menu board and without one, can you really generate a sustainable brand recovery?

I think the vast, vast majority of our franchisees believe in a green menu and want us to pursue it.

I think everybody wants to pursue it with a product that is going to be of the highest possible quality and that’s really what the system is galvanized around, making happen right now.

I think that we’ve had a hiccup.

Okay?

I mean there’s no doubt we were anticipating, you know, a stronger reaction to the product that we introduced.

The system now is rallying together.

In fact, I’m pleased with the way — how the system is rallying together to get our green menu moving forward, and I’m absolutely convinced that we will have one.

But I don’t want to sugar coat the fact that we wish we would have gotten out of the box better with this initial product.

But the team is rallying around making it happen, and I’m very convinced that we will.

We are continuing to roll out our menu board.

You know, we are going to have a new menu board.

The green section will be in the vast majority of the stores, and, you know, we expect to come back and have a national-advertised green event next year.

On China, thanks, David.

On China, the consumer, consumption growth has been 8% plus for a few years and a lot of consumers have been pushed, and there’s been wealth creation to the point where Chinese consumers are being pushed in a position where they can afford Pizza Hut or KFC.

Can you illustrate for us how important the economic picture is in China to your growth in terms of same-store sales and even expansion plans?

What if there was a cooling economic picture?

What would that mean?

Well, obviously there’s steps being taken to slow the extraordinary growth that’s been achieved in China over the last few years, but we’re expecting there to be continued growth in China.

As you know, most of the restaurants that we have in China are KFC restaurants as opposed to Pizza Hut.

KFC’s been very sensitive to its value position with China’s consumers.

It’s particularly wanted to target very wide distribution across all provinces in China and to be affordable, not just in major cities but in cities all around the country.

So although we are expecting there might be some modest slowdown in China, I don’t think it will have a material impact on our development program, and nor would we expect it to have a material impact on same-store sales that are really powering ahead right now.

I think, David, you’d have to agree that the biggest driver for development and success in China will be disposable income, and I think that’s got to be the single biggest thing that you’d want to look at and you have a very advancing economy on that front.

I read recently in Bank Credit Analyst, I think everybody knows that China has a trillion dollar economy.

There are 200 cities with more than one million population.

The average Chinese income, according to what was in Bank Credit Analyst, and it’s consistent with everything we know, is expected to rise 250% to about $3,500 by 2020.

And to be much higher, have much higher levels in urban areas.

And then if you look at just, you go across Asia, you know, there are expected to be 1.4 billion, and this is really important for us because we have such a tremendous Asian business, I mean that’s the real strength of our international business.

But across Asia, there expected to be 1.4 billion people earning at least $5,000 by 2020 compared to 300 million today.

So I think what you’re going to see in Asia is an explosion in discretionary income, and as that happens, you know, we’re obviously, because of the nature of our food, the everyday affordability of our food, you know, we are well positioned to do well in that kind of environment.

Even in the United States, you know, one of the things that people always look at, at our category, when there’s really hard times with the economy, people have to eat.

Okay?

And I think what we’ve got here is a part of the world where the discretionary income is going to grow significantly, and we’re there.

Okay?

And we’re going to become more and more affordable for more and more people down the road.

But as I say, here in the U.S., I say everywhere, give me a great economy, I’ll take it everywhere.

I’d much rather operate in a great economy than a bad economy.

Thank you.

Thanks, David.

Paul, next question, please.

Next question comes from Joe Buckley with Bear Stearns.

Good morning.

Two questions as well if I could.

First on international same-store sales, the release indicates that they were slightly positive in the quarter.

The numbers are in unit growth versus sales growth for China would suggest that China was probably negative, I’m assuming because of the impact of the avian flu.

Could you comment on that and give us the overall picture on what drove comps positive internationally?

Sure.

It’s Dave, Joe.

We saw China slightly negative in Q2.

I don’t think you can necessarily just do the math on that because a lot of the unit openings happened late in the quarter.

So the growth in unit openings necessarily wasn’t, in a sense, a comp growth, but it was slightly negative.

We bounced back after first few weeks of avian flu, Joe, in a very big way.

The team did a great job on value, did a great job on new products, and we’re doing that very, very well throughout the quarter.

And right now we are just, as David mentioned, we are just hitting the ball out of the park in China from both a new-unit development standpoint and a comp standpoint.

So we had slightly negative growth in Q2.

We bounced back quickly, and we’re doing very well right now.

And, Dave, what led the pack, then?

What pushed it overall positive, since China’s slightly negative?

We had, that’s, we talk a lot about China, but we have a lot of countries that did exceptionally well throughout the international portfolio.

The U.K. business did very well.

Pizza Hut Korea has done very well.

Our franchise business has done very well, and Australia has done very well.

And Graham talked about that.

So I think that’s, the international business, what I’m trying to say is, we’re so proud of China, but it’s more than that.

And a lot of other countries did extremely well.

Now, right now, earlier in the second quarter, Joe, we also are continuing to support our breakfast line in China.

We also had new products in pork and shrimp in China.

We have a very broad business in China.

And also right now, we are lapping some of the SARS drop off from last year, so those are things coming together to give us our sales picture.

I think just to reiterate two points that I think Graham made in his comments that are very powerful about our company is number one, you know, we’re going to be growing 15% outside of China this year with our international business, and number two, 80% — 80% of the restaurants opened by YRI outside of China are being opened by franchisees.

Okay?

I think those two points you show the power of the growth that we have outside of China and also the power of the infrastructure we have in place.

Okay?

And this is what I always come back to talk about, is that, you know, McDonald’s is a great competitor, we love having them as a competitor, but we love most of all that they’re the only one.

And we also love the fact that we’ve invested in past years, you know, so much to have that infrastructure to be in place for us to really, you know, leverage our scale now, and that’s why you’ve seen such dramatic profit growth in our international business going from $170 million to over $500 million in the last six and a half years.

And then if I could, we’re beating KFC to death, I suspect, but just a couple questions on KFC.

Did the menu-board rollout have any impact on check?

No, we have not seen — it was too new, Joe.

Too new.

We’ll watch that in coming quarters and provide everybody an update.

And then just a question on the fried-chicken focus.

Does that have negative implications in terms of the timing of healthier product rollouts, and also, as you’re trying to rebuild frequency with the core consumer, why do you think the frequency went down?

You know, I think that in terms of the timing of the rollouts, we will be rolling out our green menu I would say over the next seven, eight months.

Okay?

You know, across the country.

We don’t expect to have anything nationally advertised.

When you look at what’s really driving the better-for-you segment it’s obviously salads.

If you break it all down, what is the better-for-you driver in the QSR category.

It’s salads.

We don’t have a salad.

We have elected not to advertise our salad program this year in the fall.

We think that it makes more sense for to us come back and to launch that sometime in the spring/summer period of next year.

We are putting the meat block, the testing, the operational excellence it’s going to take, we’re working hard to make sure that we have that so that when we launch that we can nationally advertise that in a way that says to people we have the number-one better-for-you type product that people are looking at.

So I think that’s how we’re proceeding as we go forward.

Now, in some markets, we will be rolling out salads earlier, where you have, you know, seasonality, you know.

There is not that — it doesn’t get cold in Phoenix.

Okay?

Dallas, those kind of markets, California, the West Coast, you know.

We will be moving earlier with salads, and there will be local support for salads, but it will be more of a staggered roll as we go forward.

We think in terms of our core user, it’s very much like what we saw at Taco Bell.

Three years ago when we did our problem-detection study with our core user, what was our problem?

There were two problems that we had.

Okay?

One was that our operations were not as good as they needed to be.

They had slipped.

So there we’ve obviously made tremendous strides in operations at Taco Bell.

The other thing was that our product line — we needed to have more portable-type products and we could improve our quality.

All right?

So basically we introduced the Quesadillas as the hot new hand-held and the heavy-duty portable was the Grilled Stuffed Burrito, and we took up our product quality in terms of our ingredients and the pipeline that we’ve brought forward, and our menu’s been dramatically improved.

When you look at KFC, they’re telling us the same thing.

Our operations need to be improved, you know, we talked about the operational improvement that we’re making.

That’s number one.

That is number one the biggest single thing that we can do to improve our KFC businesses, just to bring our great brand to the customer in a more trusted experience.

So we are putting an all-out focus on making improvement in that arena.

That’s where Aylwin is spending, you know, a great deal of his time and focused now just as he did at Taco Bell.

You know, we’ve got the team really focused on getting after that.

When you look at our core user, there are two things that we can do from a product-development standpoint.

One is, they do love fried things, but they like news.

They like to try new things.

We haven’t brought forward enough product news, so we’re trying to bring forward in this segment where we have the operating platform, you know.

They’re asking for more news, and they’re looking for some flavor excitement.

Because as you know, a lot of the trends that we see is, there’s more of a trend towards flavor, heightened taste experience, so we think that’s an opportunity that we can go down and are going down at KFC.

The other thing that people are looking for are looking for ways to eat healthier.

So, you know, that’s where we’re coming at it with our green menu, and we’re also looking at things in the fried arena that we think we can leverage our existing platform that will provide some news there that I really can’t talk about at this point in time.

But I think our core user has slipped because our operations have, need to be improved.

We haven’t done enough, brought enough exciting news to bear from our own standpoint, and then I think the third thing is, is that we’re not the only people out there selling chicken.

I mean, Wendy’s has come out and introduced strips.

If you look at the protein that’s growing in the category, it’s mostly chicken related.

So there’s lots of competition out there, which only tells us we have to get on our game a lot better at KFC to be successful in the future.

Now, the good news for us is that we think that we have taken the hit at KFC.

Okay, and that’s this year.

We’d see profit upside at KFC in the future, because we think we’ve pretty much hit bottom.

Okay?Awe see real upside as we go forward, and, you know, that’s, believe me, we want to get all these brands moving on all cylinders.

I hate even talking about portfolio.

I don’t run this business on portfolio.

It’s just a fact that we have.

Okay?

And this is only 15% of our profits right now, but damn it, I don’t want it to be 15% of our profits, and I can assure you nobody at KFC wants it to be 15% of our profits, too.

And we’ve got to get all over it and turn this business around like we’ve done the other businesses.

But you know, we’ve got a new team in place, they’ve been in place eight months, usually takes a year before everything starts to come together.

I’m hoping that we go into next year with some momentum and more tested things and more focus to get after what needs to get after as we move forward.

I know the team is focused on that right now.

Thank you.

Thanks, Joe.

Paul, next question.

Next question comes from Mark Wiltamuth with Morgan Stanley.

I just wanted to focus a little more on the U.S. business in general.

With the Taco Bell and Pizza Hut comps up so strongly, and here in the first half, I was surprised that the overall operating earnings weren’t up a little more.

Was that all just from the sharply higher commodity costs or were there some other factors there that were disappointing?

Yeah, Mark, it’s Dave.

It’s two things.

One, it’s commodity fees, especially cheese, and secondly, it’s some of the sales deleverage at KFC.

Those are the two things that came together, which hopefully the cheese market is going to be moderating for us and we’ll see what happens, but Q1 was positive.

So those are the two things that came together in the quarter.

How long does it take the cheese, if we see a lower spot price on cheese prices, how long does it take that to cycle through the system?

About six weeks.

Okay.

Do you feel like the second quarter was the high-water mark for costs in general on the U.S. side?

I hope so, Mark, but I’ve known the cheese market for 13 years.

I don’t think anybody expected it to go up to $2.20.

I don’t think anybody expected it to drop this quickly to between $1.35 and $1.40.

So that’s a very dicey one to predict, but we hope so.

Okay.

Thank you.

Yep.

One thing that last week we had is a franchise summit where we bring all of our franchisees together and talk about our operating platform and get their input on the things that we really believe are going to drive our future success.

And Aylwin and I basically host that meeting.

But the Pizza Hut, just to give you a sense of the franchise mindset, the Taco Bell franchisees are having incredibly great year.

I mean, they are just, they couldn’t be happier, they’re making lots of money, things are terrific.

Pizza Hut is having the best year it’s had in a long time.

But the commodity situation has impacted their margins big time this year.

So everybody was talking about that.

If it wasn’t for the commodities (the cheese pricing, and other topping prices, for that matter), you know, the Pizza Hut would be having just a sensational year.

So KFC, second half of the year, has been hit by, you know, not only our sales softness but also the chicken prices.

So we don’t have a whole lot good going on at KFC right now from a financial-unit economics perspective, but as I’ve said before, you know, nobody was going bankrupt at KFC when our sales were $200,000 less than they are today.

So I think our unit economics are fine there, it’s just a very difficult and challenging year.

There’s just been no ability to pass on pricing on the pizza side?

We took a strong look at that revenue management, Mark, because you don’t want to get out ahead of it.

You want to keep your value scores well or strong.

We did a pretty thorough check on that.

I don’t want to get into any kind of detail because it is competitive, but we do a good job managing our revenues and also, importantly, getting after our costs.

I think we do a very good job of that.

Okay.

Thank you.

Thanks, Mark.

Paul, next question, please.

Our next question comes from Peter Oakes with Piper Jaffray.

Hi, guys.

Good morning.

Actually I have a couple of questions.

One, we’ve had a nice discussion on the roll as to the heavy user for both KFC and Taco Bell this morning.

Could you remind us what the frequency is of the heavy users for those two brands and how has that evolved over the last couple of years as we’ve seen them kind of cross paths and direction?

And then secondly, maybe a little bigger picture, four or six weeks ago there was an awful lot of headline activity in the papers about higher gas prices and what it means to the consumer wallet and also the psychology.

If you had the concept heads with you today, can you point to kind of P6 and P7, how much it might have impacted the business?

Thanks.

We, to answer the second question, we did not see in our trends changes in trends negatively from higher gas prices.

If you look at our numbers they were, our numbers in our brands were very strong.

So we have not seen that.

I think one of the things we look at carefully in our business is disposable income and consumer confidence and things like that.

So those are the things that we take a look at.

We did not see change in our trends.

On the specifics on heavy-user frequency and things like that, I defer to others in the room, but I think that’s something we prefer to keep not disclosed.

Right.

Good judgment, Dave.

Peter?

Yeah, maybe if you don’t want to give us the hard numbers on the heavy user just give us something kind of proportional.

I mean, is Taco Bell’s heavy user like a two-to-one factor relative to the role they play versus KFC?

Because obviously you’re making a bit of strategic shift here at KFC of de-emphasizing trying to expand the consumer audience.

I’m just telling you where we’re headed with KFC, and I think it is the magic of the “and.” Okay?

Even as we’ve talked about the green menu in the past and moving towards these nonfried offers, we’ve never said it was the panacea.

Okay?

It was the thing that we needed to get at in terms of relevance, and I know I’ve been very, very clear on that.

We do think we have to have a broader menu at KFC, and we’re heading toward it.

The biggest thing that I can tell you is the average purchase cycle for KFC is about, I would say close to three times longer, okay, than the average purchase cycle for Taco Bell.

So we don’t have as many transactions coming into our restaurants every day, that’s why it’s harder to bring in new users.

It’s harder even to get additional purchase frequency because you’re not working off the same leverage factor or the same transaction base that you would have at a Taco Bell or McDonald’s where the average ticket is much lower.

So, you know, I think that the, we’ve always been in the fried business, we’ve always been proud to sell fried chicken.

We think there are other things that we can sell that can leverage our fried platform.

We think that’s where the bulk of the product news will be coming for us as we go forward, and we think that’s going to be more attractive to our heavy KFC user who comes to us already with that mindset.

And the magic of the “and” for us is to broaden our menu, okay, which we think obviously will have some appeal to the heavy user, give them another thing that they can eat and enjoy, and hopefully we’ll bring in some lighter users as well.

We’ll see.

So I don’t think this is like a, you know, a dramatic shift in strategy.

Okay?

I think what we’re saying is, is this is how we’re approaching the business, and we’ll see what happens, but we definitely think we need both.

We need to have really exciting fried products, and we need to have nonfried products and salads, and even you, Peter, have asked me the question, you know, why are we rolling out a salad nationally in October when we could do it in the spring and the summer?

So those are the kind of things we work through with our franchise system, and, you know, I think we did.

I’m being totally honest with you in terms of, you know, we’re not happy with our initial foray in terms of the meat block with the oven-roasted strip.

I think, that has slowed us down a bit at KFC, but it hasn’t slowed down our strategic intent.

We’re very committed.

Just kind of on the follow-up on that is we’re all trying to understand the KFC challenges sitting here today.

When you talk about the frequency maybe as one-third relative to a Taco Bell how does that, how has that shifted as the chicken sandwich has been commoditized over the last five years, say in the category as a whole?

Is that really making it a hurdle that’s going to be that much more challenging to get ove,r or is it just basically trying to get more excitement from the existing customer who is waiting for you to say, entice me why I need to come back more frequently?

I don’t think it’s really had that much impact, to be honest with you.

I think there’s been a lot of competition that has had a significant impact in the chicken category, but the core user is telling us basically give me a better KFC, and that comes from reliability, in terms of better operations and also in terms of giving me, give me my core products the way I really want them, because I love them, and also I like fried things, and I come to you for fried things.

And then the other opportunity that we have is to improve our relevance so that we can, over time, increase the breadth of our business, and that’s where we’re trying to move after the relevant side with the green menu and also, you know, trying to offer up our meals in affordable everyday values, which we’re doing in our company stores at $4 meals.

But the two issues are KFC relevance and reliability are the two big things that we’ve been working on, and we’re focused on that.

Thanks, Peter.

Paul, next question.

Next question comes from Larry Miller with Prudential.

Yeah, hi.

I just had a question.

It was a reoccurrence of the bird flu in Thailand, and I was wondering if you could put some parameters around that outbreak.

Maybe, Graham, you could help me with that?

Maybe in terms of both what happened with the commodity out there and what the consumers are reacting to this outbreak.

And also is there anything that’s governments are doing any differently now in the second time around to control the outbreak?

It’s Dave, Larry.

We have had no impact at all from the avian flu announcement last week.

Sales trends continue to be very strong,.

The supply chain continues to be very strong and I think the governments over there continue to take aggressive action with the flocks in question when that comes up, and our results continue to be very good over in Asia.

Great.

Just one other question.

At Pizza Hut are you any closer to any solutions at the dine-in business, and even testing Pasta Bravo, and do you have any backup plans if Bravo doesn’t tend work out for you guys?

We’re very excited about what’s going on on Pizza Hut on two fronts.

One is, we are testing Pasta Bravo.

In fact, Peter Hearl, who’s the president of Pizza Hut, and I are going to visit a franchisee who just opened up one in Tennessee this, we’re going there Friday.

You know, but we’re also pursuing additional casual-dining-type menu items, pastas, salads, sandwiches within the Pizza Hut brand called Italian Bistro.

Our franchisees are very excited about that.

It’s been developed and started the testing earlier in the year so we think we have some good dine-in news with and without, with or without Pasta Bravo as we go forward.

Thank you.

Thanks, Larry.

Paul another question, please.

Next question comes from Howard Penney with Friedman, Billings, Ramsey.

Howard, your question.

Hi, thanks very much.

Sorry about that.

Two questions.

One on the U.S. business trying to understand how you’re viewing the third quarter.

You’ve upped your guidance for same-store sales relative to the second quarter, you’re talking about margin decline comparable to the second quarter, maybe even a little more, yet assume the operational performance should continue.

Can you kind of talk to the, how you’re viewing the third quarter U.S. business and would you expect profits to rise in the third quarter on an absolute basis?

And the second question is on your share repurchase program, when you think of companies that are buying back stock and returning cash to shareholders, those companies are showing actually reduces in their share, reducing in their share count.

Through the first six months you’ve bought back 8 million shares, your share count is actually up, and relative to 2005 when you actually to have expense your stock options, will you continue the aggressive share repurchase program, or will that share, cash be returned to shareholders through dividends?

The answer on the first question on the U.S. business we expect similar performance through Q3.

We talked about — versus Q2.

We talked about the commodity assumptions we have in there, Howard, on the cheese prices, and if they continue to be relatively moderate that’s good news for our company.

We do have some chicken costs that are a bit of a headwind right now that we have to address.

So that’s kind of the Q3 profit and margin picture versus Q2.

On share repurchases, if you look at the accounting of it and also how you figure out the number of shares in your denominator, we’ve been blessed with a rising stock price, and so the number of our shares go up in that sense.

Also, our employees are blessed with big gains in their share price over the years so we have had some stock-option exercises.

We will continue to repurchase our shares.

We think it’s an extraordinary value.

You look at the growth of our international business in places like China, it’s a remarkable business.

We think there’s opportunity for us and our shareholders to be rewarded from that.

And our decision on repurchasing shares really has nothing to do with the book economics of it.

We look at the overall return to our shareholders and where the share price, how the share price looks and how we account for it will obviously account for it as we are directed by government authorities in the FASB, but we’ll look at it on an economic basis going forward, and right now we think there is a big opportunity in our share price and you’ve seen that in the first half of the year with almost $300 million money being spent against our stock.

And in 2005, what is the dilution from the options?

Given the way it’s currently recommended, Howard, on the old Black-Scholes model, which you’ll see in our annual report the last few years, it’s 12 cents a share.

Thanks.

Paul, one last question.

Our last question comes from Eric Elbell with Fenimore.

Good morning, gentlemen.

Would just like to ask if you can go into a little bit more detail.

Looking at your U.S. business, the rent and other line obviously came in at a nice percentage for the quarter, but it’s also your lowest or, you know, going back to the similar percentage run rate you were at about two years ago, which obviously is good, but just want to delve into that a little more, you know, what’s behind that, where you recognize those benefits and then if could you break out both the categories, the rent, you know, and then segregate out the other.

What’s in the other?

Sure.

I don’t have the rent and the other details in front of me, but I can give you a sense of what is going on.

Our new-unit mix, especially international, continues to be very favorable.

And too, every year we address low-performing assets.

Right.

So, I mean, we go through and we go through and we go through and we look at low performing assets.

We take the writeoffs through our operating earnings every quarter through impairments and closures.

We get benefit from that because running off of very low performing assets with very high rent and other costs.

We are opening up new restaurants at a very favorable rate, especially internationally, that helps our mix.

So that’s basically the leverage that we’re getting off of the business.

Is there anything in the other category?

No, not that, I don’t have that kind of detail in front of me.

We’ll be happy to follow-up with you but there’s nothing that I’m aware of.

Okay.

Thank you.

Okay.

Let me wrap this up.

We went into this year.

We said we would grow EPS at least 10% this year.

At this stage now we’re saying it’s at least 15%.

When you look at our business, I think you should feel good about the fact that our biggest businesses are performing extremely well.

International is having an outstanding year, and China is fully back on track and just having an excellent performance.

Taco Bell is demonstrating to be a model of consistency.

Pizza Hut is now on track with, you know, great programs in place and planned in the future.

Our multibranding strategy, we continue to make progress, and Long John Silver’s is, has more potential than we even imagined, especially in combination with A&W.

We hadn’t even thought about that as being a combination when we did the acquisition.

And you know, I think our biggest challenge is KFC, which we understand, and we’re on top of it and we expect to fully turn around the business.

And I’d like to just close with the fact that as we go into 2005, you know, repeat the things that Dave talked about to give us a lot of optimism to at least keep our 10% growth rate moving forward.

Just to repeat again, number one, international growth, strong, with minimal competition, and we have great momentum.

Number two, China growth and dominance.

Number three, you’ve got Taco Bell and Pizza Hut moving forward with tested programs ready for next year.

Fourth, while we have downside at KFC this year, you know, we see upside next year.

Fifth, you know, we’re weathering a very difficult commodity situation this year, and we expect hopefully a better commodity situation next year.

And finally, we have an ever-strengthening balance sheet and terrific cash flow as we go ahead.

So, we’re very excited about our company, feel good about our progress to date, have a lot more to do, and we’ll go after it.

Thank you very much for your time.

Ladies and gentlemen, this concludes today’s call.

You may now disconnect.