10-K 1 form10k.htm YUM! BRANDS, INC. FORM 10K form10k.htm




UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
                        
 
FORM 10-K

[ü]
 
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
   
EXCHANGE ACT OF 1934 for the fiscal year ended December 29, 2007
     
   
OR
     
[  ]
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
   
EXCHANGE ACT OF 1934

For the transition period from ____________ to _________________
 
Commission file number 1-13163
                        
YUM! BRANDS, INC.
(Exact name of registrant as specified in its charter)

 
North Carolina
 
13-3951308
 
(State or other jurisdiction of
 
(I.R.S. Employer
 
incorporation or organization)
 
Identification No.)
       
 
1441 Gardiner Lane, Louisville, Kentucky
 
40213
 
(Address of principal executive offices)
 
(Zip Code)
       
Registrant’s telephone number, including area code:  (502) 874-8300

Securities registered pursuant to Section 12(b) of the Act
       
 
Title of Each Class
 
Name of Each Exchange on Which Registered
 
Common Stock, no par value
 
New York Stock Exchange
   
 
Securities registered pursuant to Section 12(g) of the Act:
 
None

 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in the Rule 405 of the Securities Act.  Yes   Ö   No     
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes       No  Ö   
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes   Ö   No     
 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [Ö]
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, non-accelerated filer or smaller reporting company. See definition of “accelerated filer, large accelerated filer and smaller reporting company” in Rule 12-b of the Exchange Act (Check one):  Large accelerated filer:  [Ö] Accelerated filer:  [  ] Non-accelerated filer:  [  ] Smaller reporting company:  [  ]
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes       No  Ö   

 
 
 
 
The aggregate market value of the voting stock (which consists solely of shares of Common Stock) held by non-affiliates of the registrant as of June 16, 2007 computed by reference to the closing price of the registrant’s Common Stock on the New York Stock Exchange Composite Tape on such date was $17,730,290,814. All executive officers and directors of the registrant have been deemed, solely for the purpose of the foregoing calculation, to be “affiliates” of the registrant. The number of shares outstanding of the registrant’s Common Stock as of February 18, 2008 was 475,493,520 shares.

Documents Incorporated by Reference

Portions of the definitive proxy statement furnished to shareholders of the registrant in connection with the annual meeting of shareholders to be held on May 15, 2008 are incorporated by reference into Part III.

 




 
 
 

PART I

Item 1.
Business.

YUM! Brands, Inc. (referred to herein as “YUM” or the “Company”), was incorporated under the laws of the state of North Carolina in 1997.  The principal executive offices of YUM are located at 1441 Gardiner Lane, Louisville, Kentucky  40213, and the telephone number at that location is (502) 874-8300.

YUM, the registrant, together with its subsidiaries, is referred to in this Form 10-K annual report (“Form 10-K”) as the Company.  The terms “we,” “us” and “our” are also used in the Form 10-K to refer to the Company. Throughout this Form 10-K, the terms “restaurants,” “stores” and “units” are used interchangeably.

This Form 10-K should be read in conjunction with the Cautionary Statements on pages 47 through 48.

(a)
General Development of Business

In January 1997, PepsiCo announced its decision to spin-off its restaurant businesses to shareholders as an independent public company (the “Spin-off”). Effective October 6, 1997, PepsiCo disposed of its restaurant businesses by distributing all of the outstanding shares of Common Stock of YUM to its shareholders.

On May 7, 2002, YUM completed the acquisition of Yorkshire Global Restaurants, Inc. (“YGR”), the parent company and operator of Long John Silver’s (“LJS”) and A&W All-American Food Restaurants (“A&W”).  On May 16, 2002, following receipt of shareholder approval, the Company changed its name from TRICON Global Restaurants, Inc. to YUM! Brands, Inc.

(b)
Financial Information about Operating Segments

YUM consists of six operating segments:  KFC-U.S., Pizza Hut-U.S., Taco Bell-U.S., LJS/A&W-U.S., YUM Restaurants International (“YRI” or “International Division”) and YUM Restaurants China (“China Division”).  For financial reporting purposes, management considers the four U.S. operating segments to be similar and, therefore, has aggregated them into a single reportable operating segment.  The China Division includes mainland China (“China”), Thailand and KFC Taiwan, and the International Division includes the remainder of our international operations.

Operating segment information for the years ended December 29, 2007, December 30, 2006 and December 31, 2005 for the Company is included in Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) in Part II, Item 7, pages 21 through 48 and in the related Consolidated Financial Statements and footnotes in Part II, Item 8, pages 49 through 101.

(c)
Narrative Description of Business

General

YUM is the world’s largest quick service restaurant (“QSR”) company based on number of system units, with more than 35,000 units in more than 100 countries and territories.  Through the five concepts of KFC, Pizza Hut, Taco Bell, LJS and A&W (the “Concepts”), the Company develops, operates, franchises and licenses a worldwide system of restaurants which prepare, package and sell a menu of competitively priced food items.  In all five of its Concepts, the Company either operates units or they are operated by independent franchisees or licensees under the terms of franchise or license agreements.  Franchisees can range in size from individuals owning just one unit to large publicly traded companies. In addition, the Company owns non-controlling interests in Unconsolidated Affiliates who operate similar to franchisees.

 
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At year end 2007, we had approximately 20,000 system restaurants in the U.S. which generated revenues of $5.2 billion and operating profit of $739 million during 2007.  The International Division, based in Dallas, Texas, comprises more than 12,000 system restaurants, primarily KFCs and Pizza Huts, operating in over 100 countries outside the U.S.  In 2007, YRI achieved revenues of $3.1 billion and operating profit of $480 million.  The China Division, based in Shanghai, China, comprises more than 3,000 system restaurants, predominately KFCs.  In 2007, the China Division achieved revenues of $2.1 billion and operating profit of $375 million.

Restaurant Concepts

Most restaurants in each Concept offer consumers the ability to dine in and/or carry out food. In addition, Taco Bell, KFC, LJS and A&W offer a drive-thru option in many stores.  Pizza Hut offers a drive-thru option on a much more limited basis.  Pizza Hut and, on a much more limited basis, KFC offer delivery service.

Each Concept has proprietary menu items and emphasizes the preparation of food with high quality ingredients, as well as unique recipes and special seasonings to provide appealing, tasty and attractive food at competitive prices.

The franchise program of the Company is designed to assure consistency and quality, and the Company is selective in granting franchises.  Under standard franchise agreements, franchisees supply capital – initially by paying a franchise fee to YUM, purchasing or leasing the land, building and equipment and purchasing signs, seating, inventories and supplies and, over the longer term, by reinvesting in the business.  Franchisees then contribute to the Company’s revenues through the payment of royalties based on a percentage of sales.

The Company believes that it is important to maintain strong and open relationships with its franchisees and their representatives.  To this end, the Company invests a significant amount of time working with the franchisee community and their representative organizations on all aspects of the business, including products, equipment, operational improvements and standards and management techniques.

The Company and its franchisees also operate multibrand units, primarily in the U.S., where two or more of the Concepts are operated in a single unit.  At year end 2007, there were 3,989 multibranded units in the worldwide system, of which 3,699 were in the U.S.  These units were comprised of 2,703 units offering food products from two of the Concepts, 47 units offering food products from three of the Concepts and 1,216 units offering food products from Pizza Hut and WingStreet, a flavored chicken wings concept.  YUM has 23 units offering food products from KFC and Wing Works, another flavored chicken wings concept developed by YUM.

Following is a brief description of each concept:

KFC

·
KFC was founded in Corbin, Kentucky by Colonel Harland D. Sanders, an early developer of the quick service food business and a pioneer of the restaurant franchise concept.  The Colonel perfected his secret blend of 11 herbs and spices for Kentucky Fried Chicken in 1939 and signed up his first franchisee in 1952.  KFC is based in Louisville, Kentucky.
   
·
As of year end 2007, KFC was the leader in the U.S. chicken QSR segment among companies featuring chicken-on-the-bone as their primary product offering, with a 45 percent market share (Source: The NPD Group, Inc.; NPD Foodworld; CREST) in that segment, which is nearly four times that of its closest national competitor.
   
·
KFC operates in 105 countries and territories throughout the world. As of year end 2007, KFC had 5,358 units in the U.S. and 9,534 units outside the U.S., including 2,140 units in mainland China.  Approximately 18 percent of the U.S. units and 25 percent of the non-U.S. units are operated by the Company.
 
 
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·
Traditional KFC restaurants in the U.S. offer fried chicken-on-the-bone products, primarily marketed under the names Original Recipe and Extra Tasty Crispy.  Other principal entree items include chicken sandwiches (including the Snacker and the Twister), KFC Famous Bowls, Colonel’s Crispy Strips, Wings, Popcorn Chicken and seasonally, Chunky Chicken Pot Pies.  KFC restaurants in the U.S. also offer a variety of side items, such as biscuits, mashed potatoes and gravy, coleslaw, corn, and potato wedges, as well as desserts.  While many of these products are offered outside of the U.S., international menus are more focused on chicken sandwiches and Colonel’s Crispy Strips, and include side items that are suited to local preferences and tastes.  Restaurant decor throughout the world is characterized by the image of the Colonel.

Pizza Hut

·
The first Pizza Hut restaurant was opened in 1958 in Wichita, Kansas, and within a year, the first franchise unit was opened.  Today, Pizza Hut is the largest restaurant chain in the world specializing in the sale of ready-to-eat pizza products.  Pizza Hut is based in Dallas, Texas.
   
·
As of year end 2007, Pizza Hut was the leader in the U.S. pizza QSR segment, with a 15 percent market share (Source: The NPD Group, Inc.; NPD Foodworld; CREST) in that segment.
   
·
Pizza Hut operates in 97 countries and territories throughout the world. As of year end 2007, Pizza Hut had 7,515 units in the U.S., and 5,362 units outside of the U.S.  Approximately 17 percent of the U.S. units and 25 percent of the non-U.S. units are operated by the Company.
   
·
Pizza Hut features a variety of pizzas, which may include Pan Pizza, Thin ‘n Crispy, Hand Tossed, Sicilian, Stuffed Crust, Twisted Crust, Sicilian Lasagna Pizza, Cheesy Bites Pizza, The Big New Yorker, The Insider, The Chicago Dish and 4forALL.  Each of these pizzas is offered with a variety of different toppings.  In some restaurants, Pizza Hut also offers chicken wings, breadsticks, pasta, salads and sandwiches.  Menu items outside of the U.S. are generally similar to those offered in the U.S., though pizza toppings are often suited to local preferences and tastes.

Taco Bell

·
The first Taco Bell restaurant was opened in 1962 by Glen Bell in Downey, California, and in 1964, the first Taco Bell franchise was sold. Taco Bell is based in Irvine, California.
   
·
As of year end 2007, Taco Bell was the leader in the U.S. Mexican QSR segment, with a 54 percent market share (Source: The NPD Group, Inc.; NPD Foodworld; CREST) in that segment.
   
·
Taco Bell operates in 15 countries and territories throughout the world. As of year end 2007, there were 5,580 Taco Bell units in the U.S., and 240 units outside of the U.S.  Approximately 23 percent of the U.S. units and 1 percent of the non-U.S. units are operated by the Company.
   
·
Taco Bell specializes in Mexican-style food products, including various types of tacos, burritos, gorditas, chalupas, quesadillas, taquitos, salads, nachos and other related items.  Additionally, proprietary entrée items include Grilled Stuft Burritos and Border Bowls.  Taco Bell units feature a distinctive bell logo on their signage.

LJS

·
The first LJS restaurant opened in 1969 and the first LJS franchise unit opened later the same year.  LJS is based in Louisville, Kentucky.

 
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·
As of year end 2007, LJS was the leader in the U.S. seafood QSR segment, with a 32 percent market share (Source: The NPD Group, Inc.; NPD Foodworld; CREST) in that segment.
   
·
LJS operates in 7 countries and territories throughout the world.  As of year end 2007, there were 1,081 LJS units in the U.S., and 38 units outside the U.S.  Approximately 30 percent of the U.S. units are operated by the Company.  All non-U.S. units are operated by franchisees or licensees.
   
·
LJS features a variety of seafood and chicken items, including meals featuring batter-dipped fish, chicken, shrimp, hushpuppies and portable snack items.  LJS units typically feature a distinctive seaside/nautical theme.

A&W

·
A&W was founded in Lodi, California by Roy Allen in 1919 and the first A&W franchise unit opened in 1925. A&W is based in Louisville, Kentucky.
   
·
A&W operates in 11 countries and territories throughout the world.  As of year end 2007, there were 371 A&W units in the U.S., and 254 units outside the U.S.  Approximately 1 percent of the U.S. units are operated by the Company.  All non-U.S. units are operated by franchisees.
   
·
A&W serves A&W draft Root Beer and a signature A&W Root Beer float, as well as hot dogs and hamburgers.

Restaurant Operations

Through its Concepts, YUM develops, operates, franchises and licenses a worldwide system of both traditional and non-traditional QSR restaurants.  Traditional units feature dine-in, carryout and, in some instances, drive-thru or delivery services.  Non-traditional units, which are typically licensed outlets, include express units and kiosks which have a more limited menu and operate in non-traditional locations like malls, airports, gasoline service stations, convenience stores, stadiums, amusement parks and colleges, where a full-scale traditional outlet would not be practical or efficient.

The Company’s restaurant management structure varies by Concept and unit size. Generally, each Company restaurant is led by a restaurant general manager (“RGM”), together with one or more assistant managers, depending on the operating complexity and sales volume of the restaurant.  In the U.S., the average restaurant has 25 to 30 employees, while internationally this figure can be significantly higher depending on the location and sales volume of the restaurant.  Most of the employees work on a part-time basis.  We issue detailed manuals, which may then be customized to meet local regulations and customs, covering all aspects of restaurant operations, including food handling and product preparation procedures, safety and quality issues, equipment maintenance, facility standards and accounting control procedures.  The restaurant management teams are responsible for the day-to-day operation of each unit and for ensuring compliance with operating standards. CHAMPS – which stands for Cleanliness, Hospitality, Accuracy, Maintenance, Product Quality and Speed of Service – is our proprietary core systemwide program for training, measuring and rewarding employee performance against key customer measures.  CHAMPS is intended to align the operating processes of our entire system around one set of standards. RGMs’ efforts, including CHAMPS performance measures, are monitored by Area Coaches.  Area Coaches typically work with approximately six to twelve restaurants.  Various senior operators visit the Company’s restaurants from time to time to help ensure adherence to system standards and mentor restaurant team members.

Supply and Distribution

The Company is a substantial purchaser of a number of food and paper products, equipment and other restaurant supplies. The principal items purchased include chicken, cheese, beef and pork products, seafood, paper and packaging materials.

 
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U.S. Division.  The Company, along with the representatives of the Company’s KFC, Pizza Hut, Taco Bell, LJS and A&W franchisee groups, are members in the Unified FoodService Purchasing Co-op, LLC (the “Unified Co-op”) which was created for the purpose of purchasing certain restaurant products and equipment in the U.S.  The core mission of the Unified Co-op is to provide the lowest possible sustainable store-delivered prices for restaurant products and equipment while ensuring compliance with certain quality and safety standards.  This arrangement combines the purchasing power of the Company and franchisee restaurants in the U.S. which the Company believes leverages the system’s scale to drive cost savings and effectiveness in the purchasing function.  The Company also believes that the Unified Co-op has resulted, and should continue to result, in closer alignment of interests and a stronger relationship with its franchisee community.

The Company is committed to conducting its business in an ethical, legal and socially responsible manner.  To encourage compliance with all legal requirements and ethical business practices, YUM has a supplier code of conduct for all U.S. suppliers to our business.  To ensure the quality and safety of food products, suppliers and distributors are required to meet strict quality control standards.  Long-term contracts and long-term vendor relationships are used to ensure availability of products.  The Company has not experienced any significant continuous shortages of supplies, and alternative sources for most of these products are generally available.  Prices paid for these supplies fluctuate.  When prices increase, the Company may be able to pass on such increases to its customers, although there is no assurance that this can be done practically.

Most food products, paper and packaging supplies, and equipment used in the operation of the Company’s restaurants are distributed to individual restaurant units by third party distribution companies.  McLane Company, Inc. (“McLane”) is the exclusive distributor for Company-operated KFCs, Pizza Huts, Taco Bells and Long John Silvers in the U.S. and for a substantial number of franchisee and licensee stores.  McLane became the distributor when it assumed all distribution responsibilities under an existing agreement between Ameriserve Food Distribution, Inc. (“AmeriServe”) and the Company.  This agreement extends through October 31, 2010 and generally prohibits Company-operated KFC, Pizza Hut and Taco Bell restaurants from using alternative distributors in the U.S.  The Company stores within the LJS and A&W systems are covered under a separate agreement with McLane.

International and China Divisions.  Outside of the U.S. we and our franchisees use decentralized sourcing and distribution systems involving many different global, regional, and local suppliers and distributors.  In certain countries, we own all or a portion of the distribution system, including mainland China where we own the entire distribution system.

Trademarks and Patents

The Company and its Concepts own numerous registered trademarks and service marks.  The Company believes that many of these marks, including its Kentucky Fried Chicken®, KFC®, Pizza Hut®, Taco Bell® and Long John Silver’s® marks, have significant value and are materially important to its business.  The Company’s policy is to pursue registration of its important marks whenever feasible and to oppose vigorously any infringement of its marks.  The Company also licenses certain A&W trademarks and service marks (the “A&W Marks”), which are owned by A&W Concentrate Company (formerly A&W Brands, Inc.).  A&W Concentrate Company, which is not affiliated with the Company, has granted the Company an exclusive, worldwide (excluding Canada), perpetual, royalty-free license (with the right to sublicense) to use the A&W Marks for restaurant services.

The use of these marks by franchisees and licensees has been authorized in KFC, Pizza Hut, Taco Bell, LJS and A&W franchise and license agreements.  Under current law and with proper use, the Company’s rights in its marks can generally last indefinitely.  The Company also has certain patents on restaurant equipment which, while valuable, are not material to its business.

Working Capital

Information about the Company’s working capital is included in MD&A in Part II, Item 7, pages 21 through 48 and the Consolidated Statements of Cash Flows in Part II, Item 8, page 53.

 
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Customers

The Company’s business is not dependent upon a single customer or small group of customers.

Seasonal Operations

The Company does not consider its operations to be seasonal to any material degree.

Backlog Orders

Company restaurants have no backlog orders.

Government Contracts

No material portion of the Company’s business is subject to renegotiation of profits or termination of contracts or subcontracts at the election of the U.S. government.

Competition

The retail food industry, in which the Company competes, is made up of supermarkets, supercenters, warehouse stores, convenience stores, coffee shops, snack bars, delicatessens and restaurants (including the QSR segment), and is intensely competitive with respect to food quality, price, service, convenience, location and concept.  The industry is often affected by changes in consumer tastes; national, regional or local economic conditions; currency fluctuations; demographic trends; traffic patterns; the type, number and location of competing food retailers and products; and disposable purchasing power.  Each of the Concepts compete with international, national and regional restaurant chains as well as locally-owned restaurants, not only for customers, but also for management and hourly personnel, suitable real estate sites and qualified franchisees.  In 2007, the restaurant business in the U.S. consisted of about 935,000 restaurants representing approximately $535 billion in annual sales.  The Company’s Concepts accounted for about 2% of those restaurants and about 3% of those sales.  There is currently no way to reasonably estimate the size of the competitive market outside the U.S.

Research and Development (“R&D”)

The Company operates R&D facilities in Louisville, Kentucky; Dallas, Texas; and Irvine, California and in several locations outside the U.S., including Shanghai, China.  The Company expensed $39 million, $33 million and $33 million in 2007, 2006 and 2005, respectively, for R&D activities.  From time to time, independent suppliers also conduct research and development activities for the benefit of the YUM system.

Environmental Matters

The Company is not aware of any federal, state or local environmental laws or regulations that will materially affect its earnings or competitive position, or result in material capital expenditures.  However, the Company cannot predict the effect on its operations of possible future environmental legislation or regulations.  During 2007, there were no material capital expenditures for environmental control facilities and no such material expenditures are anticipated.

Government Regulation

U.S. Division. The Company and its U.S. Division are subject to various federal, state and local laws affecting its business.  Each of the Company’s restaurants in the U.S. must comply with licensing and regulation by a number of governmental authorities, which include health, sanitation, safety and fire agencies in the state or municipality in which

 
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the restaurant is located.  In addition, the Company must comply with various state laws that regulate the franchisor/franchisee relationship.  To date, the Company has not been significantly affected by any difficulty, delay or failure to obtain required licenses or approvals.

The Company is also subject to federal and state laws governing such matters as employment and pay practices, overtime, tip credits and working conditions.  The bulk of the Company’s employees are paid on an hourly basis at rates related to the federal and state minimum wages.

The Company is also subject to federal and state child labor laws which, among other things, prohibit the use of certain “hazardous equipment” by employees younger than 18 years of age.  The Company has not been materially adversely affected by such laws to date.

The Company continues to monitor its facilities for compliance with the Americans with Disabilities Act (“ADA”) in order to conform to its requirements.  Under the ADA, the Company could be required to expend funds to modify its restaurants to better provide service to, or make reasonable accommodation for the employment of, disabled persons.  We believe that expenditures, if required, would not have a material adverse effect on the Company’s results of operations or cash flows.

International and China Divisions.  The Company’s restaurants outside the U.S. are subject to national and local laws and regulations which are similar to those affecting the Company’s U.S. restaurants, including laws and regulations concerning labor, health, sanitation and safety.  The restaurants outside the U.S. are also subject to tariffs and regulations on imported commodities and equipment and laws regulating foreign investment.  International compliance with environmental requirements has not had a material adverse effect on the Company’s results of operations, capital expenditures or competitive position.

Employees

As of year end 2007, the Company employed approximately 301,000 persons, approximately 84 percent of whom were part-time. Approximately 34 percent of the Company’s employees are employed in the U.S.  The Company believes that it provides working conditions and compensation that compare favorably with those of its principal competitors.  Most Company employees are paid on an hourly basis.  Some of the Company’s non-U.S. employees are subject to labor council relationships that vary due to the diverse cultures in which the Company operates.  The Company considers its employee relations to be good.

(d)
Financial Information about Geographic Areas

Financial information about our significant geographic areas (U.S., International Division and China Division) is incorporated herein by reference from Selected Financial Data in Part II, Item 6, page 19; Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) in Part II, Item 7, pages 21 through 48; and in the related Consolidated Financial Statements and footnotes in Part II, Item 8, pages 49 through 101.

(e)
Available Information

The Company makes available through the Investor Relations section of its internet website at www.yum.com its annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act, as soon as reasonably practicable after electronically filing such material with the Securities and Exchange Commission.  Our Corporate Governance Principles and our Code of Conduct are also located within this section of the website.  The reference to the Company’s website address does not constitute incorporation by reference of the information contained on the website and should not be considered part of this document.  These documents, as well as our SEC filings, are available in print to any shareholder who requests a copy from our Investor Relations Department.

 
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Item 1A.
Risk Factors.

Our business and industry face a variety of risks, including operational, legal, regulatory and product risks.  The following are some of the more significant factors that could affect our business and our results of operations.  Other factors may exist that we cannot anticipate or that we do not consider significant based on currently available information.

Food safety and food-borne illness concerns may have an adverse effect on our business.
 
We consider food safety a top priority and dedicate substantial resources to ensure that our customers enjoy safe, quality food products.  However, food-borne illnesses (such as E. coli, hepatitis A, trichinosis or salmonella) and food safety issues have occurred in the past (see Note 22, Guarantees, Commitments and Contingencies, to the Consolidated Financial Statements included in Part II, Item 8 of this report for a discussion of litigation arising from an E. coli outbreak allegedly linked to a number of Taco Bell restaurants in the Northeast U.S. during November/December 2006), and could occur in the future.  If such instances of food-borne illness or other food safety issues were to occur, whether at our restaurants or those of our competitors, negative publicity could result which could adversely affect sales and profitability.  If our customers become ill from food-borne illnesses, we could also be forced to temporarily close some restaurants.  Additionally, the occurrence of food-borne illnesses or food safety issues could adversely affect the price and availability of affected ingredients.  Finally, like other companies in the restaurant industry, some of our products may contain genetically engineered food products, and our U.S. suppliers are currently not required to label their products as such.  Increased regulation of and opposition to genetically engineered food products have on occasion and may in the future force us to use alternative sources at increased costs.

Our China operations subject us to risks that could negatively affect our business.
 
A significant and growing portion of our restaurants are located in China.  As a result, our financial results are increasingly dependent on our results in China, and our business is increasingly exposed to risks there.  These risks include changes in economic conditions (including inflation, consumer spending and unemployment levels), tax rates and laws and consumer preferences, as well as changes in the regulatory environment.  In addition, our results of operations in China and the value of our Chinese assets are affected by fluctuations in currency exchange rates, which may favorably or adversely affect reported earnings.  There can be no assurance as to the future effect of any such changes on our results of operations, financial condition or cash flows.

In addition, any significant or prolonged deterioration in U.S.-China relations could adversely affect our China business.  Many of the risks and uncertainties of doing business in China are solely within the control of the Chinese government.  China’s government regulates the scope of our foreign investments and business conducted within China.  Although management believes it has structured our China operations to comply with local laws, there are uncertainties regarding the interpretation and application of laws and regulations and the enforceability of intellectual property and contract rights in China.  If we were unable to enforce our intellectual property and contract rights in China, our business would be adversely impacted.

Our other foreign operations subject us to risks that could negatively affect our business.
 
A significant portion of our restaurants are operated in foreign countries and territories outside of the U.S. and China, and we intend to continue expansion of our international operations.  As a result, our business is increasingly exposed to risks inherent in foreign operations.  These risks, which can vary substantially by market, include political instability, social and ethnic unrest, changes in economic conditions (including inflation, consumer spending and unemployment levels), the regulatory environment, tax rates and laws and consumer preferences as well as changes in the laws and policies that govern foreign investment in countries where our restaurants are operated.  In addition, our results of operations and the value of our foreign assets are affected by fluctuations in foreign currency exchange rates, which may favorably or adversely affect reported earnings.  There can be no assurance as to the future effect of any such changes on our results of operations, financial condition or cash flows.

 
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Changes in commodity and other operating costs or supply chain and business disruptions could adversely affect our results of operations.

While we take measures to anticipate and react to changes in food, energy and supply costs, any increase in certain commodity prices could adversely affect our operating results.  Because we provide moderately priced food, our ability to pass along commodity price increases to our customers may be limited.  Additionally, significant increases in gasoline prices could result in a decrease of customer traffic at our restaurants or the imposition of fuel surcharges by our distributors, each of which could adversely affect our business.  We rely on third party distribution companies to deliver food and supplies to our stores.  Interruption of distribution services due to financial distress or other issues could impact our operations.  Our operating expenses also include employee benefits and insurance costs (including workers’ compensation, general liability, property and health) which may increase over time.  Finally, our industry is susceptible to natural disasters which could result in restaurant closures and supply chain and business disruptions.

Health concerns arising from outbreaks of Avian Flu may have an adverse effect on our business.
 
Asian and European countries have experienced outbreaks of Avian Flu, and some commentators have hypothesized that further outbreaks could occur and reach pandemic levels.  While fully-cooked chicken has been determined to be safe for consumption, and while we have taken and continue to take measures to anticipate and minimize the effect of these outbreaks on our business, future outbreaks could adversely affect the price and availability of poultry and cause customers to shift their preferences.  In addition, outbreaks on a widespread basis could also affect our ability to attract and retain employees.

Our operating results are closely tied to the success of our Concepts’ franchisees.
 
As a result of our franchising programs, our operating results are dependent upon the sales volumes and viability of our franchisees.  Any significant inability of our franchisees to operate successfully could adversely affect our operating results.  We have limited control over our franchisees and the quality of franchise restaurant operations may be impacted by factors that are not in our control.  Franchisees may not have access to the financial or management resources that they need to open or continue operating the restaurants contemplated by their franchise agreements with us, or be able to find suitable sites on which to develop them.  In addition, franchisees may not be able to negotiate acceptable lease or purchase terms for the sites, obtain the necessary permits and government approvals or meet construction schedules.  Our franchisees generally depend upon financing from banks and other financial institutions in order to construct and open new restaurants.  In some instances, financing has been difficult to obtain for some operators.  Any of these problems could slow our planned growth.

Our results and financial condition could be affected by the success of our refranchising program.
 
We are in the process of a refranchising program, which could reduce the percentage of company ownership in the U.S., excluding licensees, from approximately 22% at the end of 2007 to potentially less than 10% by the end of 2010.  Our ability to execute this plan will depend on, among other things, whether we can find viable and appropriate buyers for our restaurants, how quickly we can agree to terms with potential buyers and the availability of financing to potential buyers.  The success of the refranchising program once executed will depend on, among other things, our selection of buyers who can effectively operate our restaurants, our ability to limit our exposure to contingent liabilities in connection with the sale of our restaurants, and whether the resulting ownership mix of Company-operated and franchisee-operated restaurants allows us to meet our financial objectives.  In addition, refranchising activity could vary significantly from quarter-to-quarter and year-to-year and that volatility could impact our reported earnings.

We could be party to litigation that could adversely affect us by increasing our expenses or subjecting us to material money damages and other remedies.
 
Like others in the restaurant industry, we are susceptible to claims filed by customers alleging that we are responsible for an illness or injury they suffered at or after a visit to our restaurants.  Regardless of whether any claims against us are

 
10

 

valid, or whether we are ultimately held liable, such litigation may be expensive to defend and may divert time and money away from our operations and hurt our performance.  A judgment for significant monetary damages in excess of any insurance coverage could adversely affect our financial condition or results of operations.  Any adverse publicity resulting from these allegations may also adversely affect our reputation, which in turn could adversely affect our results.

In addition, the restaurant industry has been subject to claims that relate to the nutritional content of food products, as well as claims that the menus and practices of restaurant chains have led to the obesity of some customers.  We may also be subject to this type of claim in the future and, even if we are not, publicity about these matters (particularly directed at the quick service and fast-casual segments of the industry) may harm our reputation and adversely affect our results.

Changes in governmental regulations may adversely affect our business operations.
 
We and our franchisees are subject to various federal, state and local regulations.  Each of our restaurants is subject to state and local licensing and regulation by health, sanitation, food and workplace safety and other agencies.  Requirements of local authorities with respect to zoning, land use, licensing, permitting and environmental factors could delay or prevent development of new restaurants in particular locations.  In addition, we face risks arising from compliance with and enforcement of increasingly complex federal and state immigration laws and regulations.

We are subject to the Americans with Disabilities Act and similar state laws that give civil rights protections to individuals with disabilities in the context of employment, public accommodations and other areas.  The expenses associated with any facilities modifications required by these laws could be material.  Our operations are also subject to the U.S. Fair Labor Standards Act, which governs such matters as minimum wages, overtime and other working conditions, family leave mandates and a variety of similar state laws that govern these and other employment law matters.  The compliance costs associated with these laws and evolving regulations could be substantial.

We also face risks from new or changing laws and regulations relating to nutritional content, nutritional labeling, product safety and menu labeling regulation.  Compliance with these laws and regulations can be costly and can increase our exposure to litigation or governmental investigations or proceedings.  In addition, we are subject to laws relating to information security, privacy, cashless payments and consumer credit, protection and fraud, and any failure or perceived failure to comply with those laws could harm our reputation or lead to litigation, which could adversely affect our financial condition.

We may not attain our target development goals.
 
We are pursuing a disciplined growth strategy, which, to be successful, will depend in large part on our ability and the ability of our franchisees to upgrade existing restaurants and open new restaurants, and to operate these restaurants on a profitable basis.  We cannot guarantee that we, or our franchisees, will be able to achieve our expansion goals or that new, upgraded or converted restaurants will be operated profitably.  Further, there is no assurance that any restaurant we open or convert will obtain operating results similar to those of our existing restaurants.  The success of our planned expansion will depend upon numerous factors, many of which are beyond our control.

Our growth strategy depends in large part on our ability to increase our net restaurant count in our international markets.  Risks which could impact our ability to increase our net restaurant count include prevailing economic conditions and our, or our franchisees’, ability to obtain suitable restaurant locations, obtain required permits and approvals and hire and train qualified personnel.

The retail food industry in which we operate is highly competitive.
 
The retail food industry in which we operate is highly competitive with respect to price and quality of food products, new product development, price, advertising levels and promotional initiatives, customer service, reputation, restaurant location, and attractiveness and maintenance of properties.  If consumer preferences change, or our restaurants are unable to compete successfully with other retail food outlets in new and existing markets, our business could be adversely

 
11

 

affected.  In the retail food industry, labor is a primary operating cost component.  Competition for qualified employees could also require us to pay higher wages to attract a sufficient number of employees.  In addition, our success depends to a significant extent on numerous factors affecting discretionary consumer spending, including economic conditions, disposable consumer income and consumer confidence.  Adverse changes in these factors could reduce guest traffic or impose practical limits on pricing, either of which could harm our results of operations.

Item 1B.
Unresolved Staff Comments.

The Company has received no written comments regarding its periodic or current reports from the staff of the Securities and Exchange Commission that were issued 180 days or more preceding the end of its 2007 fiscal year and that remain unresolved.

Item 2.
Properties.

As of year end 2007, the Company owned more than 1,600 units and leased land, building or both in more than 6,000 units worldwide. These units are further detailed as follows:

·
The Company owned more than 1,300 units and leased land, building or both in more than 2,500 units in the U.S.
·
The International Division owned more than 200 units and leased land, building or both in more than 1,300 units.
·
The China Division leased land, building or both in more than 2,000 units.

Company restaurants in the U.S. which are not owned are generally leased for initial terms of 15 or 20 years and generally have renewal options; however, Pizza Hut delivery/carryout units in the U.S. generally are leased for significantly shorter initial terms with short renewal options.  Company restaurants in the International Division which are not owned have initial lease terms and renewal options that vary by country.  Company restaurants in the China Division are generally leased for initial terms of 10 to 15 years and generally do not have renewal options.  Historically, the Company has either been able to renew its China Division leases or enter into competitive leases at replacement sites without significant impact on our operations, cash flows or capital resources.  The Company generally does not lease or sub-lease units that it owns or leases to franchisees.

Pizza Hut and YRI lease their corporate headquarters and a research facility in Dallas, Texas. Taco Bell leases its corporate headquarters and research facility in Irvine, California. KFC owns its and LJS’s, A&W’s and YUM’s corporate headquarters and a research facility in Louisville, Kentucky.  In addition, YUM leases office facilities for certain support groups in Louisville, Kentucky.  The China Division leases their corporate headquarters and research facilities in Shanghai, China.  Additional information about the Company’s properties is included in the Consolidated Financial Statements and footnotes in Part II, Item 8, pages 49 through 101.


Item 3.
Legal Proceedings.

The Company is subject to various claims and contingencies related to lawsuits, real estate, environmental and other matters arising in the normal course of business.  The Company believes that the ultimate liability, if any, in excess of amounts already provided for these matters in the Consolidated Financial Statements, is not likely to have a material adverse effect on the Company’s annual results of operations, financial condition or cash flows.  The following is a brief description of the more significant of the categories of lawsuits and other matters we face from time to time.  Descriptions of specific claims and contingencies appear in Note 22, Guarantees, Commitments and Contingencies, to the Consolidated Financial Statements included in Part II, Item 8.

 
12

 

Franchising

A substantial number of the restaurants of each of the Concepts are franchised to independent businesses operating under arrangements with the Concepts.  In the course of the franchise relationship, occasional disputes arise between the Company and its Concepts’ franchisees relating to a broad range of subjects, including, without limitation, quality, service, and cleanliness issues, contentions regarding grants, transfers or terminations of franchises, territorial disputes and delinquent payments.

Suppliers

The Company, through approved distributors, purchases food, paper, equipment and other restaurant supplies from numerous independent suppliers throughout the world.  These suppliers are required to meet and maintain compliance with the Company’s standards and specifications.  On occasion, disputes arise between the Company and its suppliers on a number of issues, including, but not limited to, compliance with product specifications and terms of procurement and service requirements.

Employees

At any given time, the Company or its affiliates employ hundreds of thousands of persons, primarily in its restaurants. In addition, each year thousands of persons seek employment with the Company and its restaurants.  From time to time, disputes arise regarding employee hiring, compensation, termination and promotion practices.

Like other retail employers, the Company has been faced in a few states with allegations of purported class-wide wage and hour and other labor law violations.

Customers

The Company’s restaurants serve a large and diverse cross-section of the public and in the course of serving so many people, disputes arise regarding products, service, accidents and other matters typical of large restaurant systems such as those of the Company.

Intellectual Property

The Company has registered trademarks and service marks, many of which are of material importance to the Company’s business.  From time to time, the Company may become involved in litigation to defend and protect its use and ownership of its registered marks.

 
13

 

Item 4.
Submission of Matters to a Vote of Security Holders.

No matters were submitted to a vote of shareholders during the fourth quarter of 2007.

Executive Officers of the Registrant

The executive officers of the Company as of February 18, 2008, and their ages and current positions as of that date are as follows:

David C. Novak, 55, is Chairman of the Board, Chief Executive Officer and President of YUM.  He has served in this position since January 2001.  From December 1999 to January 2001, Mr. Novak served as Vice Chairman of the Board, Chief Executive Officer and President of YUM. From October 1997 to December 1999, he served as Vice Chairman and President of YUM. Mr. Novak previously served as Group President and Chief Executive Officer, KFC and Pizza Hut from August 1996 to July 1997.

Richard T. Carucci, 50, is Chief Financial Officer of YUM.  He has served in this position since March 2005. From October 2004 to February 2005, he served as Senior Vice President, Finance and Chief Financial Officer – Designate of YUM. From May 2003 to October 2004, he served as Executive Vice President and Chief Development Officer of YRI.  From November 2002 to May 2003, he served as Senior Vice President for YRI and also assisted Pizza Hut in asset strategy development.  From November 1999 to July 2002, he was Chief Financial Officer of YRI.

Peter R. Hearl, 56, is Chief Operating and Development Officer of YUM.  He has served in this position since December 2006.  From December 2002 to November 2006, he served as President and Chief Concept Officer of Pizza Hut.  From January 2002 to November 2002, he was Chief People Officer and Executive Vice President of YUM.  Mr. Hearl intends to retire from the Company at the end of March 2008.

Christian L. Campbell, 57, is Senior Vice President, General Counsel, Secretary and Chief Franchise Policy Officer of YUM.  He has served as Senior Vice President, General Counsel and Secretary since September 1997.  In January 2003, his title and job responsibilities were expanded to include Chief Franchise Policy Officer.

Jonathan D. Blum, 49, is Senior Vice President – Public Affairs for YUM.  He has served in this position since July 1997.

Anne P. Byerlein, 49, is Chief People Officer of YUM.  She has served in this position since December 2002.  From October 1997 to December 2002, she was Vice President of Human Resources of YUM. From October 2000 to December 2002, she also served as KFC’s Chief People Officer.

Ted F. Knopf, 56, is Senior Vice President Finance and Corporate Controller of YUM.  He has served in this position since April 2005.  From September 2001 to April 2005, Mr. Knopf served as Vice President of Corporate Planning and Strategy of YUM.

Emil J. Brolick, 60, is President of U.S. Brand Building.  He has served in this position since December 2006.  Prior to this position, he served as President and Chief Concept Officer of Taco Bell, a position he held from July 2000 to November 2006.  Prior to joining Taco Bell, Mr. Brolick served as Senior Vice President of New Product Marketing, Research & Strategic Planning for Wendy’s International, Inc. from August 1995 to July 2000.

Gregg R. Dedrick, 48, is President and Chief Concept Officer of KFC.  He has served in this position since September 2003. From January 2002 to September 2003, Mr. Dedrick acted as a Strategic Advisor to YUM while serving as Chief Administrative Officer of his church, which is one of the ten largest churches in the United States.  From July 1997 to January 2002, he served as Chief People Officer of YUM and Executive Vice President of People and Shared Services.

 
14

 

Scott O. Bergren, 61, is President and Chief Concept Officer of Pizza Hut.  He has served in this position since November 2006.  Prior to this position, he served as Chief Marketing officer of KFC and YUM from August 2003 to November 2006.  From September 2002 until July 2003, he was the Executive Vice President, Marketing and Chief Concept Officer for YUM Restaurants International, Inc.  From April 2002 until September 2002, he was Senior Vice President New Concepts for YUM Restaurants International, Inc.  From June 1995 until 2002, he was Chief Executive Officer of Chevy’s Mexican Restaurants, Inc.

Greg Creed, 50, is President and Chief Concept Officer of Taco Bell. He has served in this position since December 2006.  Prior to this position, Mr. Creed served as Chief Operating Officer of YUM from December 2005 to November 2006.  Mr. Creed served as Chief Marketing Officer of Taco Bell from July 2001 to October 2005.

Graham D. Allan, 52, is the President of YRI. He has served in this position since November 2003.  Immediately prior to this position he served as Executive Vice President of YRI.  From December 2000 to May 2003, Mr. Allan was the Managing Director of YRI.

Samuel Su, 55, is the President of YUM Restaurants China.  He has served in this position since 1997.  Prior to this, he was the Vice President of North Asia for both KFC and Pizza Hut.  Mr. Su started his career with YUM in 1989 as KFC International’s Director of Marketing for the North Pacific area.  

Executive officers are elected by and serve at the discretion of the Board of Directors.
 
 
15

 

PART II

Item 5.
Market for the Registrant’s Common Stock, Related Stockholder Matters and Issuer Purchases of Equity Securities.

The Company’s Common Stock trades under the symbol YUM and is listed on the New York Stock Exchange (“NYSE”).  The following sets forth the high and low NYSE composite closing sale prices by quarter for the Company’s Common Stock and dividends per common share.  All per share and share amounts herein have been adjusted for the two-for-one stock split on June 26, 2007.

 
2007
Quarter
High
Low
   
Dividends
Declared
   
Dividends
Paid
First
$
31.03
 
$
27.69
     
$
     
$
  0.075
 
Second
 
34.37
   
28.85
       
0.15
       
   0.15
 
Third
 
34.80
   
29.62
       
       
   0.15
 
Fourth
 
40.27
   
31.45
       
0.30
       
   0.15
 

 
2006
Quarter
High
Low
   
Dividends
Declared
   
Dividends
Paid
First
$
25.59
 
$
23.38
     
$
0.0575
     
$
0.0575
 
Second
 
26.84
   
23.83
       
0.075
       
0.0575
 
Third
 
25.96
   
22.47
       
     —
       
0.075
 
Fourth
 
31.74
   
25.59
       
0.30
       
0.075
 

In 2006, the Company declared one cash dividend of $0.0575 per share of Common Stock, three cash dividends of $0.075 per share of Common Stock and one cash dividend of $0.15 per share of Common Stock.  In 2007, the Company declared three cash dividends of $0.15 per share of Common Stock, one of which had a distribution date of February 1, 2008.  The Company is targeting an annual dividend payout ratio of 35% to 40% of net income.

As of February 18, 2008, there were approximately 85,000 registered holders of record of the Company’s Common Stock.

The Company had no sales of unregistered securities during 2007, 2006 or 2005.
 
16

 
Issuer Purchases of Equity Securities

The following table provides information as of December 29, 2007 with respect to shares of Common Stock repurchased by the Company during the quarter then ended:

Fiscal Periods
 
Total number
of shares purchased
   
Average
price paid per
share
   
Total number of
shares purchased
as part of publicly
announced plans
or programs
   
Approximate dollar
value of shares that
may yet be
purchased under the
plans or programs
Period 10
                         
9/9/07 – 10/6/07
 
 4,140,000
   
$
33.56
   
 4,140,000
   
$
     26,137,093
                           
Period 11
                         
10/7/07 – 11/3/07
 
 5,706,777
   
$
38.37
   
 5,706,777
   
$
1,057,158,754
                           
Period 12
                         
11/4/07 – 12/1/07
 
 3,958,428
   
$
37.87
   
 3,958,428
   
$
  907,256,535
                           
Period 13
                         
12/2/07 – 12/29/07
 
 2,468,063
   
$
38.24
   
 2,468,063
   
$
  812,876,870
                           
Total
 
16,273,268
   
$
37.01
   
16,273,268
   
$
  812,876,870

In March 2007, our Board of Directors authorized additional share repurchases, through March 2008, of up to an additional $500 million (excluding applicable transaction fees) of our outstanding Common Stock.  For the quarter ended December 29, 2007, approximately 4.9 million shares were repurchased under this authorization.  This authorization was completed during the quarter.

In October 2007, our Board of Directors authorized additional share repurchases, through October 2008, of up to an additional $1.25 billion (excluding applicable transaction fees) of our outstanding Common Stock.  For the quarter ended December 29, 2007, approximately 11.4 million shares were repurchased under this authorization.

In January 2008, our Board of Directors authorized additional share repurchases, through January 2009, of up to an additional $1.25 billion (excluding applicable transaction fees) of our outstanding Common Stock.
 
17

 
Stock Performance Graph

This graph compares the cumulative total return of our Common Stock to the cumulative total return of the S&P 500 Stock Index and the S&P 500 Consumer Discretionary Sector, a peer group that includes YUM, for the period from December 27, 2002 to December 28, 2007, the last trading day of our 2007 fiscal year.  The graph assumes that the value of the investment in our Common Stock and each index was $100 at December 27, 2002 and that all dividends were reinvested.
 
 
Stock Perfomance Graph

   
12/27/02
 
12/26/03
 
12/23/04
 
12/30/05
 
12/29/06
 
12/28/07
                         
YUM!
 
$      100
 
 $    140
 
 $    193
 
 $    197
 
 $    250
 
 $    333
S&P 500
 
$      100
 
 $    125
 
 $    138
 
 $    143
 
 $    162
 
 $    169
S&P Consumer Discretionary
 
$      100
 
 $    137
 
 $    153
 
 $    144
 
 $    169
 
 $    145
 
18

 
Item 6.
Selected Financial Data.
Selected Financial Data
YUM! Brands, Inc. and Subsidiaries
(in millions, except per share and unit amounts)
 
Fiscal Year
 
2007
2006
2005
2004
2003
Summary of Operations
                             
Revenues
                             
Company sales
$
9,100
 
$
8,365
 
$
8,225
 
$
7,992
 
$
7,441
 
Franchise and license fees
 
1,316
   
1,196
   
1,124
   
1,019
   
939
 
Total
 
10,416
   
9,561
   
9,349
   
9,011
   
8,380
 
Closures and impairment expenses(a)
 
(35
)
 
(59
)
 
(62
)
 
(38
)
 
(40
)
Refranchising gain (loss)(a)
 
11
   
24
   
43
   
12
   
4
 
Operating profit(b)
 
1,357
   
1,262
   
1,153
   
1,155
   
1,059
 
Interest expense, net
 
166
   
154
   
127
   
129
   
173
 
Income before income taxes and cumulative effect of accounting change
 
1,191
   
1,108
   
1,026
   
1,026
   
886
 
Income before cumulative effect of accounting change
 
909
   
824
   
762
   
740
   
618
 
Cumulative effect of accounting change, net of tax(c)
 
   
   
   
   
(1
)
Net income
 
909
   
824
   
762
   
740
   
617
 
Basic earnings per common share
 
1.74
   
1.51
   
1.33
   
1.27
   
1.05
 
Diluted earnings per common share
 
1.68
   
1.46
   
1.28
   
1.21
   
1.01
 
Cash Flow Data
                             
Provided by operating activities
$
1,567
 
$
1,299
 
$
1,233
 
$
1,186
 
$
1,099
 
Capital spending, excluding acquisitions
 
742
   
614
   
609
   
645
   
663
 
Proceeds from refranchising of restaurants
 
117
   
257
   
145
   
140
   
92
 
Repurchase shares of Common Stock
 
1,410
   
983
   
1,056
   
569
   
278
 
Dividends paid on common shares
 
273
   
144
   
123
   
58
   
 
Balance Sheet
                             
Total assets
$
7,242
 
$
6,368
 
$
5,797
 
$
5,696
 
$
5,620
 
Long-term debt
 
2,924
   
2,045
   
1,649
   
1,731
   
2,056
 
Total debt
 
3,212
   
2,272
   
1,860
   
1,742
   
2,066
 
Other Data
                             
Number of stores at year end
                             
Company
 
7,625
   
7,736
   
7,587
   
7,743
   
7,854
 
Unconsolidated Affiliates
 
1,314
   
1,206
   
1,648
   
1,662
   
1,512
 
Franchisees
 
24,297
   
23,516
   
22,666
   
21,858
   
21,471
 
Licensees
 
2,109
   
2,137
   
2,376
   
2,345
   
2,362
 
System
 
35,345
   
34,595
   
34,277
   
33,608
   
33,199
 
                               
U.S. Company same store sales growth(d)
 
(3)%
   
   
4%
   
3%
   
 
International Division system sales growth(e)
                             
Reported
 
15%
   
7%
   
9%
   
14%
   
13%
 
Local currency(f)
 
10%
   
7%
   
6%
   
6%
   
5%
 
China Division system sales growth(e)
                             
Reported
 
31%
   
26%
   
13%
   
23%
   
23%
 
Local currency(f)
 
24%
   
23%
   
11%
   
23%
   
23%
 
Shares outstanding at year end(g)
 
499
   
530
   
556
   
581
   
583
 
Cash dividends declared per common share(g)
$
0.45
 
$
0.4325
 
$
0.2225
 
$
0.15
 
$
 
Market price per share at year end (g)
$
38.54
 
$
29.40
 
$
23.44
 
$
23.14
 
$
16.82
 
 
19

 
Fiscal years 2007, 2006, 2004 and 2003 include 52 weeks and fiscal year 2005 includes 53 weeks.

Fiscal years 2007, 2006 and 2005 include the impact of the adoption of Statement of Financial Accounting Standards (“SFAS”) No. 123R (Revised 2004), “Share Based Payment,” (“SFAS 123R”).  This resulted in a $37 million, $39 million and $38 million decrease in net income, for 2007, 2006 and 2005, respectively.  This translates to a decrease of $0.07 to both basic and diluted earnings per share for 2007 and 2006, and a decrease of $0.07 and $0.06 to basic and diluted earnings per share, respectively, for 2005.  If SFAS 123R had been effective for prior years presented, both reported basic and diluted earnings per share would have decreased $0.06 for 2004 and 2003 consistent with previously disclosed pro-forma information.

The selected financial data should be read in conjunction with the Consolidated Financial Statements and the Notes thereto.

(a)
See Note 5 to the Consolidated Financial Statements for a description of Closures and Impairment Expenses and Refranchising Gain (Loss) in 2007, 2006 and 2005.
   
(b)
Fiscal years 2007, 2006, 2005, 2004 and 2003 included $11 million income, $1 million income, $4 million income, $30 million income and $16 million expense, respectively, related to Wrench litigation and AmeriServe.  The Wrench litigation relates to a lawsuit against Taco Bell Corporation, which was settled in 2004, including financial recoveries from settlements with insurance carriers.  Amounts related to AmeriServe are the result of cash recoveries related to the AmeriServe bankruptcy reorganization process for which we incurred significant expense in years prior to those presented here (primarily 2000).  AmeriServe was formerly our primary distributor of food and paper supplies to our U.S. stores.
   
(c)
Fiscal year 2003 includes the impact of the adoption of SFAS No. 143, “Accounting for Asset Retirement Obligations,” which addresses the financial accounting and reporting for legal obligations associated with the retirement of long-lived assets and the associated asset retirement costs.
   
(d)
U.S. Company same-store sales growth only includes the results of Company owned KFC, Pizza Hut and Taco Bell restaurants that have been open one year or more.  U.S. same store sales for Long John Silver’s and A&W restaurants are not included given the relative insignificance of the Company stores for these brands and the limited impact they currently have and will have in the future, on our U.S. same store sales, as well as our overall U.S. performance.
   
(e)
International Division and China Division system sales growth includes the results of all restaurants regardless of ownership, including Company owned, franchise, unconsolidated affiliate and license restaurants.  Sales of franchise, unconsolidated affiliate and license restaurants generate franchise and license fees for the Company (typically at a rate of 4% to 6% of sales).  Franchise, unconsolidated affiliate and license restaurant sales are not included in Company sales we present on the Consolidated Statements of Income; however, the fees are included in the Company’s revenues.  We believe system sales growth is useful to investors as a significant indicator of the overall strength of our business as it incorporates all our revenue drivers, Company and franchise same store sales as well as net unit development.  Additionally, we began reporting information for our international business in two separate operating segments (the International Division and the China Division) in 2005 as a result of changes in our management structure.  Segment information for periods prior to 2005 has been restated to reflect this reporting.
   
(f)
Local currency represents the percentage change excluding the impact of foreign currency translation.  These amounts are derived by translating current year results at prior year average exchange rates.  We believe the elimination of the foreign currency translation impact provides better year-to-year comparability without the distortion of foreign currency fluctuations.
   
(g)
Adjusted for the two for one stock split on June 26, 2007.  See Note 3 to the Consolidated Financial Statements.
 
20

 
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations.


The following Management’s Discussion and Analysis (“MD&A”), should be read in conjunction with the Consolidated Financial Statements on pages 52 through 55 (“Financial Statements”) and the Cautionary Statements on pages 47 through 48.  Throughout the MD&A, YUM! Brands, Inc. (“YUM” or the “Company”) makes reference to certain performance measures as described below.

·
The Company provides the percentage changes excluding the impact of foreign currency translation.  These amounts are derived by translating current year results at prior year average exchange rates.  We also provide the percentage changes excluding the extra week that certain of our businesses had in fiscal year 2005.  We believe the elimination of the foreign currency translation and the 53rd week impact provides better year-to-year comparability without the distortion of foreign currency fluctuations or an extra week in fiscal year 2005.
   
·
System sales growth includes the results of all restaurants regardless of ownership, including Company-owned, franchise, unconsolidated affiliate and license restaurants.  Sales of franchise, unconsolidated affiliate and license restaurants generate franchise and license fees for the Company (typically at a rate of 4% to 6% of sales).  Franchise, unconsolidated affiliate and license restaurant sales are not included in Company sales on the Consolidated Statements of Income; however, the franchise and license fees are included in the Company’s revenues.  We believe system sales growth is useful to investors as a significant indicator of the overall strength of our business as it incorporates all of our revenue drivers, Company and franchise same store sales as well as net unit development.
   
·
Worldwide same store sales is the estimated growth in sales of all restaurants that have been open one year or more.  U.S. Company same store sales include only KFC, Pizza Hut and Taco Bell Company owned restaurants that have been open one year or more.  U.S. same store sales for Long John Silver’s and A&W restaurants are not included given the relative insignificance of the Company stores for these brands and the limited impact they currently have, and will have in the future, on our U.S. same store sales as well as our overall U.S. performance.
   
·
Company restaurant margin as a percentage of sales is defined as Company sales less expenses incurred directly by our Company restaurants in generating Company sales divided by Company sales.

All Note references herein refer to the Notes to the Financial Statements on pages 56 through 101.  Tabular amounts are displayed in millions except per share and unit count amounts, or as otherwise specifically identified.  All per share and share amounts herein, and in the accompanying Financial Statements and Notes to the Financial Statements have been adjusted to reflect the June 26, 2007 stock split (see Note 3).

Description of Business

YUM is the world’s largest restaurant company in terms of system restaurants with over 35,000 restaurants in more than 100 countries and territories operating under the KFC, Pizza Hut, Taco Bell, Long John Silver’s or A&W All-American Food Restaurants brands.  Four of the Company’s restaurant brands – KFC, Pizza Hut, Taco Bell and Long John Silver’s – are the global leaders in the chicken, pizza, Mexican-style food and quick-service seafood categories, respectively.  Of the over 35,000 restaurants, 22% are operated by the Company, 72% are operated by franchisees and unconsolidated affiliates and 6% are operated by licensees.

YUM’s business consists of three reporting segments:  United States, the International Division and the China Division.  The China Division includes mainland China, Thailand and KFC Taiwan and the International Division includes the remainder of our international operations.  The China and International Divisions have been experiencing dramatic growth and now represent over half of the Company’s operating profits.  The U.S. business operates in a highly competitive marketplace resulting in slower profit growth, but continues to produce strong cash flows.
 
21


Strategies

The Company continues to focus on four key strategies:

Build Leading Brands in China in Every Significant Category – The Company has developed the KFC and Pizza Hut brands into the leading quick service and casual dining restaurants, respectively, in mainland China.  Additionally, the Company owns and operates the distribution system for its restaurants in mainland China which we believe provides a significant competitive advantage.  Given this strong competitive position, a rapidly growing economy and a population of 1.3 billion in mainland China, the Company is rapidly adding KFC and Pizza Hut Casual Dining restaurants and testing the additional restaurant concepts of Pizza Hut Home Service (pizza delivery) and East Dawning (Chinese food).  Our ongoing earnings growth model includes annual system-sales growth of 20% in mainland China driven by at least 425 new restaurants each year, which we expect to drive annual operating profit growth of 20% in the China Division.

Drive Aggressive International Expansion and Build Strong Brands Everywhere – The Company and its franchisees opened over 850 new restaurants in 2007 in the Company’s International Division, representing 8 straight years of opening over 700 restaurants.  The International Division generated $480 million in operating profit in 2007 up from $186 million in 1998.  The Company expects to continue to experience strong growth by building out existing markets and growing in new markets including India, France, Russia, Vietnam and Africa.  Our ongoing earnings growth model includes annual operating profit growth of 10% driven by 750 new restaurant openings annually for the International Division.  New unit development is expected to contribute to system sales growth of at least 5% (3% to 4% unit growth and 2% to 3% same store sales growth) each year.

Dramatically Improve U.S. Brand Positions, Consistency and Returns – The Company continues to focus on improving its U.S. position through differentiated products and marketing and an improved customer experience.  The Company also strives to provide industry leading new product innovation which adds sales layers and expands day parts.  We are the leader in multibranding, with nearly 3,700 restaurants providing customers two or more of our brands at a single location.  We continue to evaluate our returns and ownership positions with an earn the right to own philosophy on Company owned restaurants.  Our ongoing earnings growth model calls for annual operating profit growth of 5% in the U.S. with same store sales growth of 2% to 3% and leverage of our General and Administrative (“G&A”) infrastructure.

Drive Industry-Leading, Long-Term Shareholder and Franchisee Value – The Company is focused on delivering high returns and returning substantial cash flows to its shareholders via share repurchases and dividends.  The Company has one of the highest returns on invested capital in the Quick Service Restaurants (“QSR”) industry.  Additionally, 2007 was the third consecutive year in which the Company returned over $1.1 billion to its shareholders through share repurchases and dividends.  The Company is targeting an annual dividend payout ratio of 35% to 40% of net income.

2007 Highlights

·
Diluted earnings per share of $1.68 or 15% growth.
   
·
Worldwide system sales growth of 8% driven by new-unit growth in mainland China and the International Division.
   
·
Worldwide same store sales growth of 3% and operating profit growth of 8%.
   
·
Double digit operating profit growth of 30% from the China Division and 18% from the International Division, offsetting a 3% decline in the U.S.
   
·
Effective tax rate of 23.7%.
   
·
Payout to shareholders of $1.7 billion through share repurchases and dividends, with repurchases helping to reduce our diluted share count by a net 4%.
 
22


Significant Known Events, Trends or Uncertainties Impacting or Expected to Impact Comparisons of Reported or Future Results

The following factors impacted comparability of operating performance for the years ended December 29, 2007, December 30, 2006 and December 31, 2005 and could impact comparability with our results in 2008.

Mainland China Commodity Inflation

China Division restaurant margin as a percentage of sales declined to 20.1% during 2007 from 20.4% in 2006.  This decline was driven by rising chicken costs in mainland China, which make up approximately 40% of mainland China’s cost of food and paper, and higher restaurant labor costs in mainland China.  Rising chicken costs are resulting from both lower than expected availability and increased demand in the market.  The increased costs were partially offset in 2007 by strong same store sales growth, including the impact of menu pricing increases.  In mainland China, we expect that high commodity inflation (including higher chicken costs) will continue into the first half of 2008 and moderate later in the year.

U.S. Restaurant Profit

Our resulting U.S. restaurant margin as a percentage of sales decreased 1.3 percentage points in 2007 and increased 0.8 percentage points in 2006.  Our U.S. restaurant profit was impacted in 2007 and 2006 by several key events and trends.  These include the negative impact on the Taco Bell business of adverse publicity related to a produce-sourcing issue in the fourth quarter of 2006 and an infestation issue in one franchise store in February 2007, fluctuations in commodity costs, and lower self-insured property and casualty insurance reserves.

Taco Bell experienced significant sales declines at both Company and franchise stores in the fourth quarter 2006 and for almost all of 2007, particularly in the northeast U.S. where both issues originated.  For the full year 2007, Taco Bell's Company same store sales were down 5%.  Taco Bell’s Company same store sales were flat in the fourth quarter of 2007 and we believe that Taco Bell will fully recover from these issues.  However, our experience has been that recoveries of this type vary in duration.

In 2007, we experienced significant increases in commodity costs resulting in approximately $44 million of commodity inflation.  This inflation was primarily driven by meats and cheese products.  We expect these unfavorable commodity trends to continue in 2008 resulting in commodity inflation of approximately 5% for the full year, with the majority of this impact seen in the first half of the year.  In 2006, restaurant profits were positively impacted versus 2005 by a decline in commodity costs, principally meats and cheese, of approximately $45 million.

The sizeable February 2008 beef recall in the U.S. had no impact on our results though the impact, if any, on beef prices going forward is not yet known.

Self-insurance property and casualty insurance expenses were down $27 million versus the prior year in both 2007 and 2006, exclusive of the estimated reduction due to refranchising stores.  The favorability in insurance expenses was the result of improved loss trends, which we believe are primarily driven by safety and claims handling procedures we implemented over time, as well as workers’ compensation reforms at the state level.  We anticipate that given the significant favorability in 2007, property and casualty expense in 2008 will be significantly higher in comparison.  The increased expenses are currently expected to be most impactful to our second quarter of 2008.
 
23

 
Pizza Hut United Kingdom Acquisition

On September 12, 2006, we completed the acquisition of the remaining fifty percent ownership interest of our Pizza Hut United Kingdom (“U.K.”) unconsolidated affiliate from our partner, paying approximately $178 million in cash, including transaction costs and net of $9 million of cash assumed.  Additionally, we assumed the full liability, as opposed to our fifty percent share, associated with the Pizza Hut U.K.’s capital leases of $97 million and short-term borrowings of $23 million.  This unconsolidated affiliate operated more than 500 restaurants in the U.K.

Prior to the acquisition, we accounted for our fifty percent ownership interest using the equity method of accounting.  Thus, we reported our fifty percent share of the net income of the unconsolidated affiliate (after interest expense and income taxes) as Other (income) expense in the Consolidated Statements of Income.  We also recorded a franchise fee for the royalty received from the stores owned by the unconsolidated affiliate.  Since the date of the acquisition, we have reported Company sales and the associated restaurant costs, G&A expense, interest expense and income taxes associated with the restaurants previously owned by the unconsolidated affiliate in the appropriate line items of our Consolidated Statement of Income.  We no longer record franchise fee income for the restaurants previously owned by the unconsolidated affiliate, nor do we report other income under the equity method of accounting.  As a result of this acquisition, Company sales and restaurant profit increased $576 million and $59 million, respectively, franchise fees decreased $19 million and G&A expenses increased $33 million in the year ended December 29, 2007 compared to the year ended December 30, 2006.  As a result of this acquisition, Company sales and restaurant profit increased $164 million and $16 million, respectively, franchise fees decreased $7 million and G&A expenses increased $8 million in the year ended December 30, 2006 compared to the year ended December 31, 2005.  The impacts on operating profit and net income were not significant in either year.

Extra Week in 2005

Our fiscal calendar results in a 53rd week every five or six years.  Fiscal year 2005 included a 53rd week in the fourth quarter for the majority of our U.S. businesses as well as our international businesses that report on a period, as opposed to a monthly, basis.  In the U.S., we permanently accelerated the timing of the KFC business closing by one week in December 2005, and thus, there was no 53rd week benefit for this business.  Additionally, all China Division businesses report on a monthly basis and thus did not have a 53rd week.

The following table summarizes the estimated increase (decrease) of the 53rd week on fiscal year 2005 revenues and operating profit:

 
U.S.
   
International Division
   
Unallocated
   
Total
Revenues
                                   
Company sales
$
58
     
$
27
     
$
     
$
85
 
Franchise and license fees
 
8
       
3
       
       
11
 
Total Revenues
$
66
     
$
30
     
$
     
$
96
 
Operating profit
                                   
Franchise and license fees
$
8
     
$
3
     
$
     
$
11
 
Restaurant profit
 
14
       
5
       
       
19
 
General and administrative expenses
 
(2
)
     
(3
)
     
(3
)
     
(8
)
Equity income from investments in unconsolidated affiliates
 
       
1
       
       
1
 
Operating profit
$
20
     
$
6
     
$
(3
)
   
$
23
 
 
 
 
24

 
 
Mainland China 2005 Business Issues

Our KFC business in mainland China was negatively impacted by the interruption of product offerings and negative publicity associated with a supplier ingredient issue experienced in late March 2005 as well as consumer concerns related to Avian Flu in the fourth quarter of 2005.  As a result of the aforementioned issues, the China Division experienced system sales growth in 2005 of 11%, excluding foreign currency translation which was below our ongoing target of at least 22%.  During the year ended December 30, 2006, the China Division recovered from these issues and achieved growth rates of 23% for both system sales and Company sales, both excluding foreign currency translation.  During 2005, we entered into agreements with the supplier of the aforementioned ingredient.  As a result, we recognized recoveries of approximately $24 million in Other income (expense) in our Consolidated Statement of Income for the year ended December 31, 2005.

Significant 2008 Gains and Charges

In 2008, we expect that our results of operations will be significantly impacted by several events, including the sale of our interest in our unconsolidated affiliate in Japan and refranchising gains and charges related to our U.S. business.

In December 2007, we sold our interest in our unconsolidated affiliate in Japan for $128 million in cash (includes the impact of related foreign currency contracts that were settled in December 2007).  Our international subsidiary that owned this interest operates on a fiscal calendar with a period end that is approximately one month earlier than our consolidated period close. Thus, consistent with our historical treatment of events occurring during the lag period, the pre-tax gain on the sale of this investment of approximately $87 million will be recorded in the first quarter of 2008.  We also anticipate pre-tax gains from refranchising in the U.S. of $20 million to $50 million in 2008.  We expect, that together these gains will be partially offset by charges relating to G&A productivity initiatives and realignment of resources, as well as investments in our U.S. brands to drive stronger growth.  The net impact of all of the aforementioned gains and charges is expected to generate approximately $50 million in operating profit in 2008.

While we will no longer have an ownership interest in the entity that operates both KFCs and Pizza Huts in Japan, it will continue to be a franchisee as it was when it operated as an unconsolidated affiliate.  Excluding the one-time gain, we do not expect that the sale of our interest in our Japan unconsolidated affiliate will have a significant impact on our subsequently reported results of operations in 2008 and beyond as the Other income we recorded representing our share of earnings of the unconsolidated affiliate has historically not been significant ($4 million in 2007).

Future Tax Legislation – Mainland China

On March 16, 2007, the National People’s Congress in mainland China enacted new tax legislation that went into effect on January 1, 2008.  Upon enactment, which occurred in the China Division’s 2007 second fiscal quarter, the deferred tax balances of all Chinese entities, including our unconsolidated affiliates, were adjusted.  The impacts on our income tax provision and operating profit in the year ended December 29, 2007 were not significant.  We currently estimate that these income tax rate changes will positively impact our 2008 net income between $10 million and $15 million compared to what it would have otherwise been had no new tax legislation been enacted.

Mexico Value Added Tax (“VAT”) Exemption

On October 1, 2007, Mexico enacted new legislation that eliminated a tax ruling that allowed us to claim an exemption related to VAT payments.  Beginning on January 1, 2008, we will be required to remit VAT on all Company restaurant sales resulting in lower Company sales and restaurant profit.  As a result of this new legislation, we estimate that our 2008 International Division’s Company sales and restaurant profit will be unfavorably impacted by approximately $38 million and $34 million, respectively.  Additionally, the International Division’s system sales growth and restaurant margin as a percentage of sales will be negatively impacted by approximately 0.3% and 1.2 percentage points, respectively.

 
 
25

 

China 2008 Reporting Issues

We have historically not consolidated an entity in China in which we have a majority ownership interest, instead accounting for the unconsolidated affiliate using the equity method of accounting.  Our partners in this entity are essentially state-owned enterprises.  We have not consolidated this entity due to the historical effective participation of our partners in the significant decisions of the entity that were made in the ordinary course of business as addressed in Emerging Issues Task Force ("EITF") Issue No. 96-16, "Investor's Accounting for an Investee When the Investor Has a Majority of the Voting Interest but the Minority Shareholder or Shareholders Have Certain Approval or Veto Rights".  Concurrent with a decision that we made on January 1, 2008 regarding top management of the entity, we no longer believe that our partners effectively participate in the decisions that are made in the ordinary course of business.  Accordingly, we will begin to consolidate this entity in 2008.  The change will result in higher Company sales, restaurant profit, G&A expenses and Income tax provision, as well as lower franchise and license fees and Other income.  Had this change occurred at the beginning of 2007, our China Division’s Company sales, restaurant profit and G&A expenses would have increased approximately $227 million, $49 million and $5 million, respectively, and our franchise and license fees and Other income would have decreased $14 million and $13 million, respectively.  The net impact of these changes and the resulting minority interest would have resulted in Operating profit increasing by $11 million with an offsetting increase in Income tax provision such that Net income would not have been impacted.


From time to time we sell Company restaurants to existing and new franchisees where geographic synergies can be obtained or where franchisees’ expertise can generally be leveraged to improve our overall operating performance, while retaining Company ownership of strategic U.S. and international markets.  In the U.S., we are targeting Company ownership of restaurants potentially below 10% by year end 2010, down from its current level of 22%.  Consistent with this strategy, 756 Company restaurants in the U.S. were sold to franchisees in 2006 and 2007.  In the International Division, we expect to refranchise approximately 300 Pizza Huts in the U.K. over the next several years reducing our Pizza Hut Company ownership in that market from approximately 80% currently to approximately 40%.  Refranchisings reduce our reported revenues and restaurant profits and increase the importance of system sales growth as a key performance measure.  Additionally, G&A expenses will decline over time as a result of these refranchising activities.  The timing of such declines will vary and often lag the actual refranchising activities as the synergies are typically dependent upon the size and geography of the respective deals.  G&A expenses included in the tables below reflect only direct G&A that we are no longer incurring as a result of stores that were operated by us for all or some of the respective previous year and were no longer operated by us as of the last day of the respective year.

The following table summarizes our worldwide refranchising activities:

   
2007
 
2006
 
2005
 
Number of units refranchised
   
420
     
622
     
382
   
Refranchising proceeds, pre-tax
 
$
117
   
$
257
   
$
145
   
Refranchising net gains, pre-tax
 
$
11
   
$
24
   
$
43
   

In addition to our refranchising program, from time to time we close restaurants that are poor performing, we relocate restaurants to a new site within the same trade area or we consolidate two or more of our existing units into a single unit

 
 
26

 

(collectively “store closures”).  Store closure (income) costs includes the net of gain or loss on sales of real estate on which we formerly operated a Company restaurant that was closed, lease reserves established when we cease using a property under an operating lease and subsequent adjustments to those reserves, and other facility-related expenses from previously closed stores.

The following table summarizes worldwide Company store closure activities:

   
2007
 
2006
 
2005
 
Number of units closed
   
204
     
214
     
246
   
Store closure (income) costs
 
$
(8
)
 
$
(1
)
 
$
   


The following table summarizes the estimated historical results of refranchising and Company store closures:

 
2007
 
U.S.
   
International Division
   
China Division
   
Worldwide
Decreased Company sales
$
(449
)
   
$
(181
)
   
$
(34
)
   
$
(664
)
Increased franchise and license fees
 
20
       
9
       
       
29
 
Decrease in total revenues
$
(429
)
   
$
(172
)
   
$
(34
)
   
$
(635
)

 
2006
 
U.S.
   
International Division
   
China Division
   
Worldwide
Decreased Company sales
$
(377
)
   
$
(136
)
   
$
(22
)
   
$
(535
)
Increased franchise and license fees
 
14
       
6
       
       
20
 
Decrease in total revenues
$
(363
)
   
$
(130
)
   
$
(22
)
   
$
(515
)

The following table summarizes the estimated impact on operating profit of refranchising and Company store closures:

 
2007
 
U.S.
   
International Division
   
China Division
   
Worldwide
Decreased restaurant profit
$
(39
)
   
$
(7
)
   
$
(4
)
   
$
(50
)
Increased franchise and license fees
 
20
       
9
       
       
29
 
Decreased general and administrative expenses
 
7
       
3
       
       
10
 
Increase (decrease) in operating profit
$
(12
)
   
$
5
     
$
(4
)
   
$
(11
)
 
 
 
27

 
 
 
2006
 
U.S.
   
International Division
   
China Division
   
Worldwide
Decreased restaurant profit
$
(38
)
   
$
(5
)
   
$
     
$
(43
)
Increased franchise and license fees
 
14
       
6
       
       
20
 
Decreased general and administrative expenses
 
1
       
1
       
       
2
 
Increase (decrease) in operating profit
$
(23
)
   
$
2
     
$
     
$
(21
)

Results of Operations

 
2007
   
% B/(W)
vs. 2006
   
2006
   
% B/(W)
vs. 2005
                                     
Company sales
$
9,100
       
9
     
$
8,365
       
2
 
Franchise and license fees
 
1,316
       
10
       
1,196
       
7
 
Total revenues
$
10,416
       
9
     
$
9,561
       
2
 
Company restaurant profit
$
1,327
       
4
     
$
1,271
       
10
 
                                     
% of Company sales
 
14.6
%
     
(0.6
) ppts.
     
15.2
%
     
1.2
  ppts
                                     
Operating profit
 
1,357
       
8
       
1,262
       
9
 
Interest expense, net
 
166
       
(8
)
     
154
       
(22
)
Income tax provision
 
282
       
1
       
284
       
(7
)
Net income
$
909
       
10
     
$
824
       
8
 
Diluted earnings per share(a)
$
1.68
       
15
     
$
1.46
       
14
 

(a)
See Note 4 for the number of shares used in this calculation.
 
 
 
28

 
 
Restaurant Unit Activity

Worldwide
   
Company
   
Unconsolidated
Affiliates
   
Franchisees
   
Total
Excluding
Licensees(a)(b)
Balance at end of 2005
   
7,587
     
1,648
     
22,666
     
31,901
 
New Builds
   
426
     
136
     
953
     
1,515
 
Acquisitions
   
556
     
(541
)
   
(15
)
   
 
Refranchising
   
(622
)
   
(1
)
   
626
     
3
 
Closures
   
(214
)
   
(33
)
   
(675
)
   
(922
)
Other
   
3
     
(3
)
   
(39
)
   
(39
)
Balance at end of 2006
   
7,736
     
1,206
     
23,516
     
32,458
 
New Builds
   
505
     
132
     
1,070
     
1,707
 
Acquisitions
   
9
     
6
     
(14
)
   
1
 
Refranchising
   
(420
)
   
(6
)
   
426
     
 
Closures
   
(204
)
   
(24
)
   
(706
)
   
(934
)
Other
   
(1
)
   
     
5
     
4
 
Balance at end of 2007
   
7,625
     
1,314
     
24,297
     
33,236
 
% of Total
   
23%
     
4%
     
73%
     
100%
 

United States
   
Company
   
Unconsolidated
Affiliates
   
Franchisees
   
Total
Excluding
Licensees(a)
Balance at end of 2005
   
4,686
     
     
13,605
     
18,291
 
New Builds
   
99
     
     
235
     
334
 
Acquisitions
   
     
     
     
 
Refranchising
   
(452
)
   
     
455
     
3
 
Closures
   
(124
)
   
     
(368
)
   
(492
)
Other
   
3
     
     
(22
)
   
(19
)
Balance at end of 2006
   
4,212
     
     
13,905
     
18,117
 
New Builds
   
87
     
     
262
     
349
 
Acquisitions
   
8
     
     
(7
)
   
1
 
Refranchising
   
(304
)
   
     
304
     
 
Closures
   
(106
)
   
     
(386
)
   
(492
)
Other
   
(1
)
   
     
3
     
2
 
Balance at end of 2007
   
3,896
     
     
14,081
     
17,977
 
% of Total
   
22%
     
     
78%
     
100%
 
 
 
 
29

 
 
International Division
   
Company
   
Unconsolidated
 Affiliates
   
Franchisees
   
Total
Excluding
Licensees(a)(b)
Balance at end of 2005
   
1,375
     
1,096
     
8,848
     
11,319
 
New Builds
   
47
     
35
     
703
     
785
 
Acquisitions
   
555
     
(541
)
   
(14
)
   
 
Refranchising
   
(168
)
   
(1
)
   
169
     
 
Closures
   
(47
)
   
(25
)
   
(303
)
   
(375
)
Other
   
     
(3
)
   
(16
)
   
(19
)
Balance at end of 2006
   
1,762
     
561
     
9,387
     
11,710
 
New Builds
   
54
     
18
     
780
     
852
 
Acquisitions
   
1
     
6
     
(7
)
   
 
Refranchising
   
(109
)
   
(6
)
   
115
     
 
Closures
   
(66
)
   
(11
)
   
(314
)
   
(391
)
Other
   
     
     
2
     
2
 
Balance at end of 2007
   
1,642
     
568
     
9,963
     
12,173
 
% of Total
   
13%
     
5%
     
82%
     
100%
 

China Division
   
Company
   
Unconsolidated Affiliates
   
Franchisees
   
Total
Excluding
Licensees
Balance at end of 2005
   
1,526
     
552
     
213
     
2,291
 
New Builds
   
280
     
101
     
15
     
396
 
Acquisitions
   
1
     
     
(1
)
   
 
Refranchising
   
(2
)
   
     
2
     
 
Closures
   
(43
)
   
(8
)
   
(4
)
   
(55
)
Other
   
     
     
(1
)
   
(1
)
Balance at end of 2006
   
1,762
     
645
     
224
     
2,631
 
New Builds
   
364
     
114
     
28
     
506
 
Acquisitions
   
     
     
     
 
Refranchising
   
(7
)
   
     
7
     
 
Closures
   
(32
)
   
(13
)
   
(6
)
   
(51
)
Other
   
     
     
     
 
Balance at end of 2007
   
2,087
     
746
     
253
     
3,086
 
% of Total
   
68%
     
24%
     
8%
     
100%
 

(a)
The Worldwide, U.S. and International Division totals exclude 2,109, 1,928 and 181 licensed units, respectively, at December 29, 2007.  There are no licensed units in the China Division.  Licensed units are generally units that offer limited menus and operate in non-traditional locations like malls, airports, gasoline service stations, convenience stores, stadiums and amusement parks where a full scale traditional outlet would not be practical or efficient.  As licensed units have lower average unit sales volumes than our traditional units and our current strategy does not place a significant emphasis on expanding our licensed units, we do not believe that providing further detail of licensed unit activity provides significant or meaningful information.
   
(b)
The Worldwide and International Division totals at the end of 2007 exclude approximately 32 units from the 2006 acquisition of the Rostik’s brand in Russia that have not yet been co-branded into Rostik’s/KFC restaurants.  The Rostik’s units will be presented as franchisee new builds as the co-branding into Rostik’s/KFC restaurants occurs.
 
 
 
30

 
 
Multibrand restaurants are included in the totals above.  Multibrand conversions increase the sales and points of distribution for the second brand added to a restaurant but do not result in an additional unit count.  Similarly, a new multibrand restaurant, while increasing sales and points of distribution for two brands, results in just one additional unit count.  Franchise unit counts include both franchisee and unconsolidated affiliate multibrand units.  Multibrand restaurant totals were as follows:

2007
   
Company
   
Franchise
   
Total
United States
   
1,750
     
1,949
     
3,699
 
International Division
   
6
     
284
     
290
(a)
Worldwide
   
1,756
     
2,233
     
3,989
 

2006
   
Company
   
Franchise
   
Total
United States
   
1,802
     
1,631
     
3,433
 
International Division
   
11
     
192
     
203
 
Worldwide
   
1,813
     
1,823
     
3,636
 

(a)
Includes 53 Pizza Hut Wing Street units that were not reflected as multibrand units at December 30, 2006.

For 2007 and 2006, Company multibrand unit gross additions were 86 and 212, respectively.  For 2007 and 2006, franchise multibrand unit gross additions were 283 and 197, respectively.  There are no multibrand units in the China Division.

System Sales Growth

   
Increase
   
Increase excluding foreign currency translation
   
Increase excluding foreign currency translation and 53rd week
   
2007
   
2006
   
2007
   
2006
   
2007
   
2006
United States
 
     
     
N/A
     
N/A
     
N/A
     
1%
 
International Division
 
15%
     
7%
     
10%
     
7%
     
10%
     
9%
 
China Division
 
31%
     
26%
     
24%
     
23%
     
24%
     
23%
 
Worldwide
 
8%
     
4%
     
6%
     
4%
     
6%
     
5%
 

The explanations that follow for system sales growth consider year over year changes excluding, where applicable, the impact of foreign currency translation and the 53rd week in fiscal year 2005.

The increases in International Division, China Division and Worldwide system sales in 2007 and 2006 were driven by new unit development and same store sales growth, partially offset by store closures.

In 2007 U.S. system sales were flat as new unit development was largely offset by store closures.  The increase in U.S. system sales in 2006 was driven by new unit development and same store sales growth, partially offset by store closures.

 
 
31

 

Revenues
   
Amount
 
% Increase
(Decrease)
 
% Increase
(Decrease)
excluding
foreign currency 
translation
 
% Increase
(Decrease)
excluding foreign
currency
translation and
53rd week
   
2007
   
2006
 
2007
   
2006
 
2007
 
2006
 
2007
   
2006
Company sales
                                                     
United States
 
$
4,518
     
$
4,952
   
(9
)
   
(6
)
 
N/A
   
N/A
   
N/A
   
(5)
International Division
   
2,507
       
1,826
   
37
     
9
   
31
   
8
   
31
   
10
China Division
   
2,075
       
1,587
   
31
     
26
   
24
   
23
   
24
   
23
Worldwide
   
9,100
       
8,365
   
9
     
2
   
6
   
1
   
6
   
2
                                                       
Franchise and license fees
                                                     
United States
   
679
       
651
   
4
     
3
   
N/A
   
N/A
   
N/A
   
4
International Division
   
568
       
494
   
15
     
10
   
10
   
10
   
10
   
11
China Division
   
69
       
51
   
35
     
25
   
29
   
21
   
29
   
21
Worldwide
   
1,316
       
1,196
   
10
     
7
   
8
   
6
   
8
   
8
                                                       
Total revenues
                                                     
United States
   
5,197
       
5,603
   
(7
)
   
(5
)
 
N/A
   
N/A
   
N/A
   
(4)
International Division
   
3,075
       
2,320
   
33
     
9
   
26
   
9
   
26
   
10
China Division
   
2,144
       
1,638
   
31
     
26
   
24
   
23
   
24
   
23
Worldwide
 
$
10,416
     
$
9,561
   
9
     
2
   
6
   
2
   
6
   
3

The explanations that follow for revenue fluctuations consider year-over-year changes excluding, where applicable, the impact of foreign currency translation and the 53rd week in fiscal year 2005.

Excluding the favorable impact of the Pizza Hut U.K. acquisition, Worldwide Company sales decreased 1% in 2007.  The decrease was driven by refranchising and store closures, partially offset by new unit development and same store sales growth.  Excluding the favorable impact of the Pizza Hut U.K. acquisition, Worldwide Company sales were flat in 2006.  Increases from new unit development and same store sales growth were offset by decreases in refranchising and store closures.

Excluding the unfavorable impact of the Pizza Hut U.K. acquisition, Worldwide franchise and license fees increased 9% and 8% in 2007 and 2006, respectively.  These increases were driven by new unit development, same store sales growth and refranchising, partially offset by store closures.

In 2007, the decrease in U.S. Company sales was driven by refranchising, same store sales declines and store closures, partially offset by new unit development.  In 2006, the decrease in U.S. Company sales was driven by refranchising and store closures, partially offset by new unit development.

In 2007, U.S. Company same store sales were down 3% due to transaction declines partially offset by an increase in average guest check.  In 2006, U.S. Company same store sales were flat as a decrease in transactions was offset by an increase in average guest check.

 
 
32

 
 
In 2007, the increase in U.S. franchise and license fees was driven by refranchising and new unit development, partially offset by store closures. In 2006, the increase in U.S. franchise and license fees was driven by new unit development, refranchising and same store sales growth, partially offset by store closures.

Excluding the favorable impact of the Pizza Hut U.K. acquisition, International Division Company sales decreased 1% in 2007.  The decrease was driven by refranchising and store closures, partially offset by same store sales growth and new unit development.  Excluding the favorable impact of the Pizza Hut U.K. acquisition, International Division Company sales were flat in 2006.  The impacts of refranchising and store closures were partially offset by new unit development and same store sales growth.

Excluding the unfavorable impact of the Pizza Hut U.K. acquisition, International Division franchise and license fees increased 14% and 13% in 2007 and 2006, respectively.  The increases were driven by new unit development and same store sales, partially offset by store closures.  2007 was also favorably impacted by refranchising.

In 2007 and 2006, the increases in China Division Company sales and franchise and license fees were driven by new unit development and same store sales growth.

Company Restaurant Margins

2007
     
U.S.
   
International
Division
   
China
Division
   
Worldwide
Company sales
     
100.0
%
   
100.0
%
   
100.0
%
   
100.0
%
Food and paper
     
29.2
     
29.9
     
36.4
     
31.0
 
Payroll and employee benefits
     
30.5
     
26.1
     
13.2
     
25.3
 
Occupancy and other operating expenses
     
27.0
     
31.7
     
30.3
     
29.1
 
Company restaurant margin
     
13.3
%
   
12.3
%
   
20.1
%
   
14.6
%

2006
     
U.S.
   
International
Division
   
China
Division
   
Worldwide
Company sales
     
100.0
%
   
100.0
%
   
100.0
%
   
100.0
%
Food and paper
     
28.2
     
32.2
     
35.4
     
30.5
 
Payroll and employee benefits
     
30.1
     
24.6
     
12.9
     
25.6
 
Occupancy and other operating expenses
     
27.1
     
31.0
     
31.3
     
28.7
 
Company restaurant margin
     
14.6
%
   
12.2
%
   
20.4
%
   
15.2
%

2005
     
U.S.
   
International
Division
   
China
Division
   
Worldwide
Company sales