This is an English adaptation of a FoodBud historical article originally published on November 8, 2021.
FoodBud examined Yum China’s strategy after a difficult third quarter for China’s restaurant sector in 2021, when pandemic disruptions weighed on major operators.
Starbucks’ same-store sales in China fell 7% year on year in its fiscal fourth quarter of 2021, with average ticket down 5% and transactions down 2%. On November 5, 2021, Haidilao announced on the Hong Kong Stock Exchange that it planned to close around 300 underperforming restaurants by December 31, 2021, with some stores to be temporarily suspended and potentially reopened within no more than two years.
Yum China’s own third-quarter report was also mixed. System sales rose 1% year on year, with both KFC and Pizza Hut up 1%. Same-store sales fell 7%, with KFC down 8% and Pizza Hut down 5%.
Yum China had been presenting the market with a long-term target of 20,000 stores. After reporting third-quarter results, it raised its 2021 opening target to more than 1,700 new stores. In the third quarter, it opened 524 new stores. As of September 30, 2021, the system had 11,415 stores, up 1,265 from a year earlier.
KFC and Pizza Hut remained the core engines of expansion. In the third quarter, KFC opened 362 restaurants and Pizza Hut opened 103. Other brands, including Taco Bell, East Dawning, Little Sheep, Huang Ji Huang and COFFii & JOY, had much less visible impact on the group’s revenue and footprint.
For the 20,000-store ambition, KFC was expected to carry much of the new-store load. It had already introduced a small-town store model to deepen penetration in lower-tier markets.
Pizza Hut was using a hub-and-spoke model, adding satellite stores to increase density. A standard Pizza Hut store has a larger dining area, requires initial investment of RMB2.0 million to RMB2.5 million, and usually has a payback period of three to four years. Satellite stores require lower capital expenditure and lower operating cost, with higher margins and a shorter payback period, typically around two to three years.
Yum China said total Pizza Hut store count was expected to increase by at least 6% by the end of 2021, and more than half of new Pizza Hut stores planned that year would be satellite or small-format stores. Its approach combined large and standard stores, which reinforce brand image and dine-in occasions, with smaller stores that increase penetration and density. At the time, there were around 1,000 towns with KFC but no Pizza Hut.
The durability of this density strategy still needed more time to prove itself, especially because KFC and Pizza Hut same-store sales were declining in the third quarter. The pandemic was a clear factor, but the open question was whether same-store sales could hold up without that disruption.
In the first quarter of 2020, Yum China completed its acquisition of a controlling stake in Chinese restaurant chain Huang Ji Huang for about US$185 million. After the transaction, Yum China held 93.3% of Huang Ji Huang. It then formed a Chinese dining business unit consisting of Little Sheep, East Dawning and Huang Ji Huang.
At the same time, Yum China announced a plan to acquire a 25% equity interest in Suzhou KFC for about US$149 million. The value of that stake had appreciated by 72%, and the transaction was completed in August 2020.
Yum China also recorded net gains of US$29 million from its equity investment in Meituan in the third quarter of 2020, up 142% from US$12 million a year earlier.
Beyond restaurant brands and acquisitions, supply chain was another investment focus. In March 2021, Yum China acquired a 5% equity interest in Fujian Sunner Development Co., Ltd. for approximately RMB1.67 billion to RMB1.75 billion. Sunner had become a white-feather broiler producer with capacity of 500 million birds, ranking seventh globally and first in Asia.
In September 2021, Yum China signed an agreement to acquire a 28% equity interest in Hangzhou Catering Service Group for approximately US$250 million in cash. Hangzhou Catering Service held 45% of Hangzhou KFC. Yum China already held 47% of Hangzhou KFC, which operated more than 700 KFC stores in Hangzhou and surrounding areas. The deal was expected to close in the fourth quarter of 2021 after customary closing conditions and regulatory approvals.
After completion, Yum China would directly and indirectly own about 60% of Hangzhou KFC and consolidate it into its financial statements. Hangzhou Catering Service also operated about 60 Chinese restaurants under four heritage brands: Zhiweiguan, Hangzhou Restaurant, Kuiyuan Restaurant and Tianxianglou, as well as a fast-growing food-processing business.
The pattern was clear: Yum China used acquisitions and equity stakes to build brand portfolios, extend into the supply chain, and consolidate attractive regional KFC assets. The article noted that Chinese dining categories such as Huang Ji Huang, Little Sheep and East Dawning were large, but the disclosed financial results had not yet shown especially strong performance from that business.
Coffee had previously played more of a utility role inside Yum China’s system: a tool for KFC to increase breakfast and afternoon-tea transactions.
Yum China had already signaled broader coffee ambitions at its 2019 investor meeting, though the category buildout began earlier. KFC’s K Coffee entered China’s freshly brewed coffee market in 2014. In 2018, Yum China tested the standalone specialty coffee brand COFFii & JOY.
In September 2021, Yum China and Luigi Lavazza S.p.A. signed an agreement for their previously established joint venture and announced plans to accelerate LAVAZZA coffee-store expansion in China, targeting 1,000 stores by 2025. The two parties planned to initially contribute US$200 million to the joint venture. The joint venture was expected to become LAVAZZA’s exclusive distributor in mainland China and bring more products from LAVAZZA’s international markets into China. Yum China held 65% of the joint venture and consolidated it after the September 2021 agreement became effective.
That created a three-part coffee portfolio: K Coffee for the mass market, COFFii & JOY for specialty coffee, and LAVAZZA for the premium segment.
Yum China said it saw many opportunities in coffee and would continue investing. In the near term, it planned to refine store models, improve unit economics and manage portfolio profitability. Smaller brands were expected to remain in investment mode for the next few years.
Yum China segmented coffee demand into daily, functional, experiential and premium occasions. Its portfolio logic was:
COFFii & JOY was positioned as a promoter of specialty coffee culture for younger Chinese consumers. Its revenue had increased in 2020 and 2021, and most stores were profitable. Yum China planned to apply those lessons to LAVAZZA.
LAVAZZA was positioned around authenticity: as Italy’s leading coffee brand, it could offer Chinese consumers an Italian restaurant experience. The first 22 LAVAZZA stores were progressing toward expectations, with positive consumer feedback, high ratings on review platforms and favorable word of mouth in Yum China’s internal monitoring.
Yum China’s plan was for a premium brand such as LAVAZZA to open many stores in first-, second- and third-tier cities, but only across roughly 200 cities. The company was tracking 2,700 towns in China, and COFFii & JOY was seen as a complementary option beyond the top 200 to 300 cities.
CITIC Securities said the coffee business’s growth contribution to Yum China was becoming clearer, noting positive market feedback for LAVAZZA and K Coffee’s traffic contribution. Nomura Orient International noted that Yum China intended to resume COFFii & JOY expansion from 2022, which could help the company cover different coffee segments in China.
Alongside coffee, Yum China was pushing new retail products through stores such as KFC.
The company had started incubating the So Fun brand several years earlier and accelerated new retail development from 2020. At the time, new retail represented about 1% of overall portfolio sales, because scale would take time to build.
In some regional markets, including parts of northern China, new retail accounted for 2% to 3% of sales at KFC and Pizza Hut. Yum China’s food R&D center proposed around 5,000 products on average. Because of menu and operational complexity, only 500 were launched at KFC and Pizza Hut in the prior year. The remaining 4,500 products could become candidates for new retail.
Yum China’s logic was that it had products, stores to test them, online and offline sales channels, and a delivery team that could bring new products directly to customers alongside KFC or Pizza Hut orders. Its retail products were already sold through online channels including Tmall, Freshippo and JD.com, and the company was expanding into offline channels.
The company also had a large supplier base, with around 300 food and beverage suppliers. Since 2019 and 2020, Yum China had launched many new retail products, which it said demonstrated its ability to use supplier resources to support the strategy.
Yum China said it was still learning. It would start small, and if a product proved popular, it would work with suppliers on capacity investment so that the product could be promoted across China. It was also continuing to recruit and screen new suppliers to support the new retail strategy.
The company did not rule out any future development path for new retail, including distribution and wholesale, but said the business was still early and needed to progress step by step.
Yum China’s front-end expansion required stronger back-end supply chain and digital capabilities.
In its 2020 annual report, the company said its supply chain system included 25 logistics centers, seven consolidation centers, more than 2,000 cold-chain vehicles and real-time monitoring systems. In 2021, after a supply chain support center in Chengdu, Yum China was building another logistics center in Huai’an and planning additional projects. The company planned to operate around 45 to 50 logistics and consolidation centers over the next several years to support expansion and improve efficiency.
On the digital side, Yum China had launched digital R&D centers in Shanghai, Nanjing and Xi’an. These centers were described as an important part of the company’s investment strategy, applying technology to store digitalization and operational optimization.
The digital R&D centers were expected to integrate and expand dedicated resources, using big data, artificial intelligence, middle-platform architecture and digital catering cloud services to develop new solutions and services, supporting end-to-end digitalization.
Yum China planned to invest US$1.0 billion to US$1.5 billion in digital infrastructure over the following five years. As part of that plan, it intended to invest US$100 million to US$200 million in digital R&D centers over five years and grow the R&D team to 500 people, while recruiting from universities in Shanghai, Nanjing and Xi’an.
At the time, Yum China’s next phase was only beginning: deeper KFC and Pizza Hut penetration, a more serious coffee portfolio, new retail experimentation, supply-chain extension and sustained digital investment.
Note: investment amounts, ownership levels, store targets and forward-looking plans above are historical figures from the 2021 source article.