CASE STUDY
November, 2013
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Controls for Better Crisis Management
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Summary:
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Yum!, the second-largest quick-service restaurant business comprising Pizza
Hut, Taco Bell and KFC brands, has been dealing with two concurrent
challenges. The first was a breach in supply chain quality controls – a “poultry
supply situation" in China -- to borrow language from their 2013 annual report.
The story made the news and appears on several levels to meet the criteria for a
reputation crisis. The second is an overarching “China market” issue in which
“the operating environment for foreign firms has deteriorated in the last year in
a serious way,” according to experts. These concurrent challenges suggest the
need for better tools that can extract information from a common set of end
points, isolate the contribution of each challenge, and inform management
accordingly. !
Consensiv’s reputation controls provide exactly this kind of visibility and
insight. An analysis of Yum!’s performance using Consensiv’s metrics suggests
that Yum! has consistently improved its operational controls and perhaps
resolved its reputation issues with the majority of stakeholders who judge its
operational efforts (it’s first challenge). With a peer-group leading
ReputationalPremium™ metric (“RP”), together with an improving
ConsensusTrend™ metric (“CT” reflects increased confidence and unanimity
among stakeholders) for most of 2013, the data suggest Yum! weathered its
“poultry supply” crisis well, either by reassuring stakeholders through the
operational response of management, or by capitalizing on its long-standing
reputational value, or both. !
The data suggest a different, still-evolving story on the second challenge. A
recent spike in CT, followed by a precipitous drop in RP, could be tied to
stakeholder fears of Chinese government regulatory action and ongoing
intervention. This could represent a communications challenge for Yum! that
goes far beyond the recently announced plans to reassure consumers about its
product offering. It’s likely that Yum!’s latest earnings problems are at least
somewhat related to rising costs and the threat of potential bureaucratic red
CONSENSIV, LLC | Reputation Controls
414 N. Orleans Street, Suite 210, Chicago, IL 60022 USA | consensiv.com
tape that are making foreign companies less welcomed. The impacts on the
brand’s reputational reveal the depth of this ongoing challenge.
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Yum!’s example suggests both the nuance involved in valuing and controlling
reputational value, as well as a management pathway that can be available to
other companies in similar situations, provided that they have clear, real-time
insight into their own reputational performance, as reflected in the behavior of
key stakeholder groups. !
Situation:
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Yum! Brands, a $31 billion quick-service restaurant business comprising Pizza
Hut, Taco Bell and KFC brands, was subject in late December 2012 to intense
media attention surrounding an investigation by Chinese regulators into poultry
supply management at its China Division. The investigation was prompted by a
report broadcast on China's national television network, which showed that
some poultry farmers were ignoring laws and regulations by using excessive
levels of antibiotics in chicken. Some of this chicken was purchased by two
poultry suppliers of KFC China. By January 2013, the Chinese regulators had
issued a report detailing operational changes that would enhance Yum!’s supply
chain management controls. All recommendations were accepted by the
company, which then began implementation.
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Then, on October 9, 2013, the company announced 3Q earnings that seemed to
surprise and disappoint everyone. Same-store sales fell 68% overall and Yum!’s
China business, which continued to suffer the effects of its product quality
crisis from the preceding December (again, concerning antibiotics in its
chicken), suffered an 11% sales decline on top of far worse losses incurred
earlier in the year. The company took a write-down charge on its expenses in
China, and reversed its expectations that sales would recover this year. Its stock
crashed by 7% in after-hours trading.
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Yum’s journey over the 10 months following December 2012 might appear like
an ongoing crisis, but the true story behind this year-long odyssey is a case
study on deft management of reputational value in the face of emergent
governmental scrutiny and threatened involvement. The evidence revealed by
Consensiv’s reputational metrics, and by the financially-relevant behaviors of
Yum!’s outside stakeholders, shows how the story has played out.
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Example #1: The market is always right (except when it’s not):
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Stock price has long been recognized as a decent but nevertheless imperfect
measure of enterprise value. Short-term distortions in stock prices can be
driven by a range of externalities, including "rising tide" effects driven by
abnormally low cost of credit, speculative failures resulting in short squeezes,
and news-driven episodes of investor panic (as in the case of Yum!’s Chinabased antibiotics chicken-doping scandal). This pattern in distorted stock
pricing is illustrated by the directional movement of Yum!’s stock price in Chart
1 below. Yum’s stock value was initially highly correlated with the movement of
the S&P500 index overall. Both moved in sync as shown in the chart below at
(1), until Yum! revealed its chicken scare in late November 2012 (2), and then
the two chart lines all but disconnect. Yum!’s stock price continued to trend up
thereafter, but at a far slower rate (albeit one that still paralleled the
movements of the market index somewhat).
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S&P500 index value (top chart) mapped to Yum! stock price
(bottom chart). The curves are parallel until (2), November 2012.!
Did Yum!’s frequent ups and downs post November 2012 evidence investor
concern over the sales and profit implications of Yum!’s ongoing supply chain
issues? Perhaps, but not in any directionally relevant or reliable way.
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We believe that Chart 1 shows that equity value, or any measures thereupon
based, are often not helpful as indicators of corporate reputational
performance. Rather, stock prices tend to express the limited insight and
expectations of one particular stakeholder group -- equity investors . From
time to time, stock prices fail to draw on the knowledge and behaviors of other
key stakeholder audiences, such as creditors, vendors, customers, employees,
etc.
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Example #2: Reputation metrics can provide clarity amidst the equity fog:
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While stock arbitrageurs may delight in periodic pricing errors, the equity
market can make management pay for acting on pricing errors introduced by
the equity market itself. Bad pricing provides bad information, which in turn can
promote management decision errors. (The problem is akin to navigating a ship
through a series of underwater reefs by sonar, where “false echoes” might easily
lead the helmsman to steer straight into an atoll.) That is why management
needs a more compelling alternative narrative than stock price, in order to
better understand the broader stakeholder response to a crisis episode (like
Yum!’s China chicken scandal). !
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Yum!’s reputational value score, an average of which comprises
the Consensus Benchmark (CB) (top chart) mapped to Yum! stock
price (bottom chart). Note the independence of the reputation
score relative to stock price.!
Real reputation-linked operational controls(tm) can help to address
management’s informational need. “CB,” is Consensiv’s unweighted average of
our reputation value scores, which measures the expectations of stakeholder
expectations across the enterprise -- suppliers, vendors, regulators, lenders,
insurers, even employees -- evidenced by their financially-relevant behaviors
and expressed as a percentage. When Yum!’s CB is shown superimposed on the
equity valuations for the period (November, 2012 to October 2013), the trend
of a positive and strengthening reputation is clearly evident.
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When the chicken crisis hit, CB dropped along with equity pricing, but the CB
fell by a far smaller percentage of total value, showing that the stakeholders
that CB tracks were far more confident in Yum!’s reputation than were equity
investors. It suggests that those stakeholders were either aware of management
activities that were addressing the crisis (and were satisfied by them) and/or
they were more forgiving of the situation than equity investors, based on
Yum!‘s long-term reputational value. One plausible interpretation was that
Yum! was doing exactly what it was supposed to do, in the face of the crisis.
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Example #3: Its reputational strength has only increased during the past year:
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Our ReputationPremium™, or “RP,” confirms that Yum! had things well under
control. RP, our ranking of the company’s reputation value score ranking within
its industry peer group over the preceding 12 months, expressed as a
percentile, shows Yum! all but topping its sector. Note that Yum!’s RP also
appears somewhat impervious to the ups and downs of its stock price.
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Consensiv’s ReputationPremium(tm) (top chart) mapped to Yum!
stock price (bottom chart). Note the independence of the
reputation premium measure relative to stock price.
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Perhaps just as notably, Yum!‘s RP maintains and grows reputational value
during the initial chicken scare, and then builds and continues to maintain
value in the quarter leading up to the latest earning announcement. Yum!’s RP
was at the 75th percentile on October 11 2012 and at the 97th percentile on
October 4th 2013. Yum! is one of 65 companies in the Restaurants sector.
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We believe that Yum’s RP profile provides a window onto the strength and
resilience of Yum!’s reputation, across the myriad of stakeholder groups with
which the company is involved. Could Yum’s credibility and reputational
performance be traced back to its public comments when the crisis first hit, and
how the company proved to be very transparent in admitting the impacts were
deeper that it expected, and would take longer to fix than it had hoped?
Almost certainly, its stakeholders were less surprised by, and/or more forgiving
of, the latest sales and earnings report, than were its equity investors.
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Example #4: Yum!’s challenges in the broader context of the Chinese market:
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Despite Yum!’s deft management of its internal reputational controls and ability
to address its product quality issues, the context within which it does business
is also a major influence on its reputational value and risks thereto. The
business climate in China has been changing over the past year; just recently,
officials accused Starbucks of charging “too much” for coffee, and alleged that
Samsung’s smartphones don’t “work properly.” This raises many red flags (no
pun intended) concerning possible regulatory intervention that may affect
business performance. It may already play more of a role than originally
though, as IBM – a longstanding performer in the Chinese market – announced
a 22% drop in revenue and first-ever decline in sales (it cited delays in orders
from state-owned companies). !
Interestingly, while Yum!‘s stock price took a nosedive after the announcement,
returning to near its starting point at the end of 2012, the company’s CT began
to spike thereafter, and was followed by a precipitious drop in its RP. This
suggests to us that while its stakeholders understand and approve of its efforts
concerning its supply chain and other reputation and governance-related
activities, they’re becoming increasingly wary of the company’s ability to
perform to expectations in light of the government’s increasingly strident
posture.
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The good news for stakeholders is that, unlike many of its peers that still
confuse reputational value with the marketing concept known as brand, Yum!
quite clearly links reputational risk to operations in its 2013 10K Item 1A, Risk.
Not surprisingly, with its heightened sensitivity, food safety heads the list.
Other listed business process, intangible assets if you will, include sustainable
labor practices, ethics and regulatory compliance, and cyber security. Yum!
concludes its risk disclosure with an all-encompassing summary, “The retail
food industry in which we operate is highly competitive with respect to price
and quality of food products, new product development, advertising levels and
promotional initiatives, customer service, reputation, restaurant location, and
attractiveness and maintenance of properties." The signal provided by CT is
that outside stakeholders saw Yum!’s performance as increasingly predictable
and understandable up until quite recently (in the period from April to July
2013). When combined with the company’s generally solid RP over the same
period (which suggests top-of-industry-peer-group reputational performance),
the interpretation seems clear: the company was being managed in a way that
was perceived by diverse stakeholders as both reliable and operationally
superior, but the current state of affairs represents a real threat to its
reputational value.
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The Consensiv data suggest that Yum!’s stakeholders are expecting the
company going forward to adapt its operations to address the issues disclosed
above, and that it may need to be far more aggressive and public in its
attention to the changing political and regulatory climate in its important
Chinese market.
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Conclusion:
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Reputation crises usually involve far more than meets the eye, both literally and
figuratively. Yum! is a good example of the shortcomings of relying on only
one measure of company performance (e.g., stock price), and on basing the
definition of reputational value on concepts of PR and marketing.
For more information, please contact:!
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Jonathan Salem Baskin, Managing Director!
CONSENSIV, LLC | Reputation Controls!
414 N. Orleans Street, Suite 210!
Chicago, IL 60022 USA!
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+1 312 725 0261!
jonathan@consensiv.com!
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