NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
(Tabular amounts in millions, except per share data)
Note 1 - Financial Statement Presentation
We have prepared our accompanying unaudited Condensed Consolidated Financial Statements (“Financial Statements”) in accordance with the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim financial information. Accordingly, they do not include all of the information and footnotes required by Generally Accepted Accounting Principles in the United States (“GAAP”) for complete financial statements. Therefore, we suggest that the accompanying Financial Statements be read in conjunction with the Consolidated Financial Statements included in our Annual Report on Form 10-K for the fiscal year ended
December 26, 2015
(“
2015
Form 10-K”).
YUM! Brands, Inc. and Subsidiaries (collectively referred to herein as “YUM” or the “Company”) comprise primarily the worldwide operations of KFC, Pizza Hut and Taco Bell (collectively the “Concepts”). References to YUM throughout these Notes to our Financial Statements are made using the first person notations of “we,” “us” or “our.”
YUM currently consists of four reporting segments:
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•
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YUM China (“China” or “China Division”) which includes all operations in mainland China
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•
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The KFC Division which includes all operations of the KFC concept outside of China Division
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•
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The Pizza Hut Division which includes all operations of the Pizza Hut concept outside of China Division
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•
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The Taco Bell Division which includes all operations of the Taco Bell concept
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Effective January 2016 our India business was segmented by brand, integrated into the global KFC, Pizza Hut and Taco Bell Divisions, and is no longer a separate operating segment. While our consolidated results were not impacted, we have restated our historical segment information for consistent presentation. Integrating India into our Brand Divisions increased Total revenues for the KFC, Pizza Hut and Taco Bell Divisions by
$27 million
,
$2 million
and less than
$1 million
, respectively, and decreased Operating Profit by
$6 million
,
$2 million
and less than
$1 million
, respectively, for the quarter ended
September 5, 2015
. Integrating India into our Brand Divisions increased Total revenues for the KFC, Pizza Hut and Taco Bell Divisions by
$79 million
,
$5 million
and
$2 million
respectively, and decreased Operating Profit by
$12 million
,
$2 million
and
$1 million
, respectively, for the year to date ended
September 5, 2015
.
In October 2015 we announced our intent to separate YUM’s China business from YUM into an independent, publicly-traded company. This transaction, which is expected to be a tax-free spin-off of our China business, will create two powerful, independent, focused growth companies with distinct strategies, financial profiles and investment characteristics.
On September 23, 2016 the YUM Board of Directors (“Board”) approved a distribution of one share of YUM China common stock for each share of YUM common stock held at the close of business on October 19, 2016, the record date for the distribution.
YUM expects to complete the distribution after the close of business on October 31, 2016.
Completion of the spin-off will be subject to certain conditions, including, among others, receipt of various regulatory approvals, receipt of external opinions with respect to certain tax matters, the effectiveness of filings related to public listing and applicable securities laws, and other terms and conditions as may be determined by the Board of Directors.
After the spin-off of our China business, we anticipate reclassifying our China Division historical results, other results attributable to China though not allocated to the China Division (e.g. refranchising gains), and related income tax expense for periods presented prior to the spin-off, including those periods in 2016, to Discontinued Operations within our Consolidated Income Statement. The China business results presented in Discontinued Operations will include an incremental license fee expense similar to what will be paid by YUM China to YUM going forward. Likewise, YUM's historical results for our KFC and Pizza Hut Divisions will include incremental license fee income from our China business such that recast total Net income, including Discontinued Operations, will be the same as previously reported results.
YUM’s fiscal year ends on the last Saturday in December. The first three quarters of each fiscal year consist of
12
weeks and the fourth quarter consists of
16
weeks. Our subsidiaries operate on similar fiscal calendars except that China and certain other international subsidiaries operate on a monthly calendar with two months in the first quarter, three months in the second and third quarters and four months in the fourth quarter. The current fiscal year of 2016 will have a
53
week for YUM and our subsidiaries that do not operate on a monthly calendar, which will be included in our fourth quarter results. Our international subsidiaries that operate on a monthly calendar, including China, are not impacted by the addition of a
53
week. Our international subsidiaries within
rd
week. Our international subsidiaries within
week. Our international subsidiaries within
rd
week for YUM and our subsidiaries that do not operate on a monthly calendar, which will be included in our fourth quarter results. Our international subsidiaries that operate on a monthly calendar, including China, are not impacted by the addition of a
53
week. Our international subsidiaries within
rd
week. Our international subsidiaries within
week. Our international subsidiaries within
week for YUM and our subsidiaries that do not operate on a monthly calendar, which will be included in our fourth quarter results. Our international subsidiaries that operate on a monthly calendar, including China, are not impacted by the addition of a
53
week. Our international subsidiaries within
rd
week. Our international subsidiaries within
week. Our international subsidiaries within o
our KFC, Pizza Hut and Taco Bell divisions generally close approximately one month earlier to facilitate consolidated reporting.
our KFC, Pizza Hut and Taco Bell divisions generally close approximately one month earlier to facilitate consolidated reporting.
our KFC, Pizza Hut and Taco Bell divisions generally close approximately one month earlier to facilitate consolidated reporting.
our KFC, Pizza Hut and Taco Bell divisions generally close approximately one month earlier to facilitate consolidated reporting.
our KFC, Pizza Hut and Taco Bell divisions generally close approximately one month earlier to facilitate consolidated reporting.
our KFC, Pizza Hut and Taco Bell divisions generally close approximately one month earlier to facilitate consolidated reporting.
our KFC, Pizza Hut and Taco Bell divisions generally close approximately one month earlier to facilitate consolidated reporting.
our KFC, Pizza Hut and Taco Bell divisions generally close approximately one month earlier to facilitate consolidated reporting.
ur KFC, Pizza Hut and Taco Bell divisions generally close approximately one month earlier to facilitate consolidated reporting.
Our preparation of the accompanying Financial Statements in conformity with GAAP requires us to make estimates and assumptions that affect reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the Financial Statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates.
The accompanying Financial Statements include all normal and recurring adjustments considered necessary to present fairly, when read in conjunction with our
2015
Form 10-K, our financial position as of
September 3, 2016
, and the results of our operations and comprehensive income for the quarters and years to date ended
September 3, 2016
and
September 5, 2015
and cash flows for the years to date ended
September 3, 2016
and
September 5, 2015
. Our results of operations, comprehensive income and cash flows for these interim periods are not necessarily indicative of the results to be expected for the full year.
Our significant interim accounting policies include the recognition of certain advertising and marketing costs, generally in proportion to revenue, and the recognition of income taxes using an estimated annual effective tax rate.
In April 2015 the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update No. 2015-03,
“Interest - Imputation of Interest: Simplifying the Presentation of Debt Issuance Costs”
(ASU 2015-03). ASU 2015-03 amended the then-current presentation guidance by requiring that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. ASU 2015-03 was effective for the Company beginning with the quarter ended March 19, 2016. The adoption of this standard required restatement of our consolidated balance sheet as of December 26, 2015. As a result, Other assets and Long-term debt each decreased by
$13 million
and Prepaid expenses and other current assets and Short-term borrowings each decreased by
$1 million
versus amounts previously reported.
We have reclassified certain items in the Financial Statements for the prior periods to be comparable with the classification for the quarter and year to date ended
September 3, 2016
. These reclassifications had no effect on previously reported Net Income - YUM! Brands, Inc.
Note 2 - Earnings Per Common Share (“EPS”)
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Quarter ended
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Year to date
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2016
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2015
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2016
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2015
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Net Income – YUM! Brands, Inc.
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$
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622
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$
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421
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$
|
1,352
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$
|
1,018
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Weighted-average common shares outstanding (for basic calculation)
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392
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436
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406
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437
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Effect of dilutive share-based employee compensation
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6
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8
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6
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|
8
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Weighted-average common and dilutive potential common shares outstanding (for diluted calculation)
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398
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444
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412
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|
445
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Basic EPS
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$
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1.59
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$
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0.97
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$
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3.33
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$
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2.33
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Diluted EPS
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$
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1.56
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$
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0.95
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$
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3.28
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$
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2.29
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Unexercised employee stock options and stock appreciation rights (in millions) excluded from the diluted EPS computation
(a)
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2.3
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4.2
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6.2
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4.3
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(a)
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These unexercised employee stock options and stock appreciation rights were not included in the computation of diluted EPS because to do so would have been antidilutive for the periods presented.
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Note 3 - Shareholders’ Equity
Under the authority of our Board of Directors, we repurchased shares of our Common Stock during the years to date as indicated below. All amounts exclude applicable transaction fees.
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Shares Repurchased (thousands)
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Dollar Value of Shares Repurchased
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Remaining Dollar Value of Shares that may be Repurchased
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Authorization Date
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2016
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2015
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2016
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2015
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2016
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November 2013
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—
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1,779
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$
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—
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|
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$
|
133
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|
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|
$
|
—
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|
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|
November 2014
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—
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|
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2,737
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|
|
|
—
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|
|
237
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|
|
|
—
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|
December 2015
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13,369
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|
—
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|
933
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—
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|
|
—
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March 2016
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2,823
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—
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|
|
228
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—
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—
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May 2016
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30,117
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—
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2,596
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—
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|
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1,604
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Total
|
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46,309
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|
(a)
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|
4,516
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|
|
|
$
|
3,757
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|
(a)
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|
$
|
370
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|
|
|
$
|
1,604
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(a)
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Includes the effect of
$105 million
in share repurchases (
1.2 million
shares) with trade dates prior to September 3, 2016 but cash settlement dates subsequent to September 3, 2016.
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On May 20, 2016 our Board of Directors authorized share repurchases through December 2016 of up to
$4.2 billion
(excluding applicable transaction fees) of our outstanding Common Stock. This authorization superseded all previous unutilized authorizations.
Changes in accumulated other comprehensive income (loss) ("OCI") are presented below.
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Translation Adjustments and Gains (Losses) From Intra-Entity Transactions of a Long-Term Nature
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Pension and Post-Retirement Benefits
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Derivative Instruments
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Total
|
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Balance at December 26, 2015, net of tax
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$
|
(109
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)
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|
$
|
(113
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)
|
|
$
|
(17
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)
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|
$
|
(239
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)
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|
|
|
|
|
|
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Gains (losses) arising during the year classified into accumulated OCI, net of tax
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(92
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)
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—
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|
|
(20
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)
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|
(112
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)
|
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|
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|
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|
|
|
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(Gains) losses reclassified from accumulated OCI, net of tax
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—
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|
5
|
|
|
22
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|
|
27
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|
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|
|
|
|
|
|
|
|
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OCI, net of tax
|
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(92
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)
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|
5
|
|
|
2
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|
(85
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)
|
|
|
|
|
|
|
|
|
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Balance at September 3, 2016, net of tax
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$
|
(201
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)
|
|
$
|
(108
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)
|
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$
|
(15
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)
|
|
$
|
(324
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)
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Note 4 - Items Affecting Comparability of Net Income and Cash Flows
Refranchising (Gain) Loss
The Refranchising (gain) loss by reportable segment is presented below. We do not allocate such gains and losses to our segments for performance reporting purposes.
During the quarter ended
September 3, 2016
we refranchised
123
restaurants, primarily Taco Bell and Pizza Hut restaurants in the U.S. We received
$67 million
in proceeds and recorded
$25 million
of net pre-tax refranchising gains related to these transactions. During the year to date ended September 3, 2016 we refranchised
250
restaurants, primarily Pizza Hut and Taco Bell restaurants in the U.S. We received
$165 million
in proceeds and recorded
$85 million
of net pre-tax refranchising gains related to these transactions.
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Quarter ended
|
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Year to date
|
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|
2016
|
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2015
|
|
2016
|
|
2015
|
|
China
|
|
$
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(4
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)
|
|
$
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(3
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)
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$
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(8
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)
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$
|
(7
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)
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|
KFC Division
(a)
|
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1
|
|
|
4
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2
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|
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36
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|
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Pizza Hut Division
(a)
|
|
(8
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)
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15
|
|
|
(64
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)
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52
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|
|
Taco Bell Division
|
|
(14
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)
|
|
(14
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)
|
|
(15
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)
|
|
(21
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)
|
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Worldwide
|
|
$
|
(25
|
)
|
|
$
|
2
|
|
|
$
|
(85
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)
|
|
$
|
60
|
|
|
|
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(a)
|
In 2010 we refranchised our then-remaining Company-operated restaurants in Mexico. To the extent we owned it, we did not sell the real estate related to certain of these restaurants, instead leasing it to the franchisee. During the quarter ended June 13, 2015, we initiated plans to sell this real estate and determined it was held for sale in accordance with GAAP. On September 28, 2015, subsequent to our quarter ended September 5, 2015, we sold the real estate for approximately
$58 million
. While these proceeds exceeded the book value of the real estate, the sale represented a substantial liquidation of our Mexican operations under GAAP. Accordingly, we were required to include accumulated translation losses associated with our Mexican business within our carrying value when performing impairment evaluations subsequent to determining that the real estate was held for sale. We recorded charges of
$12 million
and
$80 million
in the quarter and year to date ended September 5, 2015, respectively, representing the excess of the sum of the book value of the real estate and other related assets and our accumulated translation losses over the then-expected sales price. Consistent with the classification of the original market refranchising transaction, these charges were classified as Refranchising (Gain) Loss. Refranchising Losses of
$4 million
and
$40 million
were associated with the KFC Division for the quarter and year to date ended September 5, 2015, respectively. Refranchising Losses of
$8 million
and
$40 million
were associated with the Pizza Hut Division for the quarter and year to date ended September 5, 2015, respectively. The proceeds ultimately received for the real estate approximated our carrying value including the remaining unrecognized accumulated translation losses as of September 5, 2015.
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Additionally, during the quarter and year to date ended September 5, 2015 we recognized charges of
$8 million
and
$13 million
, respectively, within Refranchising (Gain) Loss associated with the planned refranchising of our company-owned Pizza Hut restaurants in Korea.
KFC U.S. Acceleration Agreement
During the first quarter of 2015, we reached an agreement with our KFC U.S. franchisees that gave us brand marketing control as well as an accelerated path to expanded menu offerings, improved assets and enhanced customer experience. In connection with this agreement we anticipate investing approximately
$125 million
from 2015 through 2017 primarily to fund new back-of-house equipment for franchisees and to provide incentives to accelerate franchisee store remodels. We recorded pre-tax charges of less than
$1 million
and
$21 million
for the quarters ended
September 3, 2016
and
September 5, 2015
, respectively, for these investments. We recorded pre-tax charges of
$17 million
and
$31 million
for the years to date ended
September 3, 2016
and
September 5, 2015
, respectively, for these investments. These amounts were recorded primarily as Franchise and license expenses. We recorded total pre-tax charges of
$72 million
during the year ended December 26, 2015 and we currently expect a total pre-tax charge of approximately
$30 million
in 2016 for these investments. These charges are not being allocated to the KFC Division segment operating results.
In addition to the investments above we agreed to fund
$60 million
of incremental system advertising from 2015 through 2018. During the quarters ended
September 3, 2016
, and
September 5, 2015
, we incurred
$5 million
and
$3 million
in incremental system advertising expense, respectively. During the years to date ended
September 3, 2016
and
September 5, 2015
, we incurred
$14 million
and
$6 million
in incremental system advertising expense, respectively. We funded approximately
$10 million
of such advertising during the year ended December 26, 2015. These amounts were recorded primarily in Franchise and license expenses and are included in the KFC Division segment operating results. We currently expect to fund approximately
$20 million
of such advertising in both 2016 and 2017 and
$10 million
in 2018.
Costs Associated with the Planned Spin-off of the China Business and YUM Recapitalization
In connection with our planned separation of the YUM China business into an independent, publicly-traded company and the related recapitalization of YUM, we incurred
$10 million
and
$29 million
of pre-tax costs in the quarter and year to date ended
September 3, 2016
, respectively, which were recorded in General and administrative ("G&A") expenses. Cumulative project costs since the announcement of the planned separation total
$38 million
and we currently expect to incur additional cash costs of approximately
$25 million
in the fourth quarter of 2016 to complete the spin-off transaction. Additionally, we expect to incur a non-cash charge related to certain share-based awards that will be modified in connection with the spin-off. The amount of the non-cash charge will be based on the net increase in fair value of the modified awards that are vested as of the separation date. These costs are not being allocated to any of our segment operating results.
See Notes 10 and 11 for details on YUM's recapitalization.
YUM's Strategic Transformation Initiatives
On October 11, 2016, we announced our strategic transformation plans to drive global expansion of the KFC, Pizza Hut and Taco Bell brands ("YUM's Strategic Transformation Initiatives") following the anticipated separation of our China business on October 31, 2016. Major features of the Company’s growth and transformation strategy involve being more focused on the development of our three brands, increasing our franchise ownership and creating a leaner, more efficient cost structure. This transformation will result in YUM being at least
98%
refranchised by the end of 2018. During the quarter ended September 3, 2016, YUM offered a Voluntary Retirement Program to certain U.S. employees as a step towards becoming a leaner, more efficient organization. This program will provide separation pay and benefits to employees who elected to voluntarily separate from YUM. We have incurred pre-tax costs of
$26 million
and
$32 million
for the quarter and year to date, respectively, related to our Strategic Transformation Initiatives primarily related to this U.S. Voluntary Retirement Program. YUM's Strategic Transformation Initiatives represent the continuation of YUM's transformation of its operating model and capital structure following the China spin-off and recapitalization of YUM. Due to the scope of the initiatives as well as their significance, costs associated with the initiatives are not being allocated to any segment for performance reporting.
Income Tax Benefit related to Little Sheep Investment
See Note 7.
Note 5 - Other (Income) Expense
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarter ended
|
|
Year to date
|
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
|
Equity (income) loss from investments in unconsolidated affiliates
|
$
|
(18
|
)
|
|
$
|
(15
|
)
|
|
$
|
(44
|
)
|
|
$
|
(31
|
)
|
|
Foreign exchange net (gain) loss and other
|
3
|
|
|
12
|
|
|
(6
|
)
|
|
19
|
|
|
Other (income) expense
|
$
|
(15
|
)
|
|
$
|
(3
|
)
|
|
$
|
(50
|
)
|
|
$
|
(12
|
)
|
Note 6 - Supplemental Balance Sheet Information
Accounts and Notes Receivable, net
The Company’s receivables are primarily generated as a result of ongoing business relationships with our franchisees and licensees as a result of franchise and lease agreements. Trade receivables consisting of royalties from franchisees and licensees are generally due within
30
days of the period in which the corresponding sales occur and are classified as Accounts and notes receivable on our Condensed Consolidated Balance Sheets.
|
|
|
|
|
|
|
|
|
|
|
|
|
9/3/2016
|
|
12/26/2015
|
|
Accounts and notes receivable, gross
|
$
|
460
|
|
|
$
|
393
|
|
|
Allowance for doubtful accounts
|
(20
|
)
|
|
(16
|
)
|
|
Accounts and notes receivable, net
|
$
|
440
|
|
|
$
|
377
|
|
Property, Plant and Equipment, net
|
|
|
|
|
|
|
|
|
|
|
|
|
9/3/2016
|
|
12/26/2015
|
|
Property, plant and equipment, gross
|
$
|
7,708
|
|
|
$
|
7,832
|
|
|
Accumulated depreciation and amortization
|
(3,698
|
)
|
|
(3,643
|
)
|
|
Property, plant and equipment, net
|
$
|
4,010
|
|
|
$
|
4,189
|
|
Assets held for sale at
September 3, 2016
and
December 26, 2015
total
$14 million
and
$28 million
, respectively, and are included in Prepaid expenses and other current assets on our Condensed Consolidated Balance Sheets.
Noncontrolling Interests
Noncontrolling interests represent the ownership interests of minority shareholders of the entities that operate KFC restaurants in Beijing and Shanghai, China. At December 26, 2015, the Redeemable noncontrolling interest comprised the
7%
ownership interest in Little Sheep held by the Little Sheep founding shareholders, and was classified outside of permanent equity on our Condensed Consolidated Balance Sheets due to redemption rights held by the Little Sheep founding shareholders. During the quarter ended June 11, 2016, the Little Sheep founding shareholders sold their remaining
7%
Little Sheep ownership interest to YUM pursuant to their redemption rights. The difference between the purchase price of less than
$1 million
, which was determined using a non-fair value based formula pursuant to the agreement governing the redemption rights, and the carrying value of their redeemable noncontrolling interest, was recorded as an
$8 million
loss attributable to noncontrolling interests during the quarter ended June 11, 2016. Consistent with our 2012 gain on the acquisition of Little Sheep and subsequent impairments of Little Sheep goodwill and intangibles in 2013 and 2014, this loss attributable to noncontrolling interests is not being allocated to any segment operating results. A reconciliation of the beginning and ending carrying amount of the equity attributable to noncontrolling interests is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Noncontrolling Interests
|
|
Redeemable Noncontrolling Interest
|
|
Balance at December 26, 2015
|
$
|
58
|
|
|
$
|
6
|
|
|
Net Income (loss) – noncontrolling interests
|
17
|
|
|
1
|
|
|
Noncontrolling interest loss upon redemption
|
—
|
|
|
(8
|
)
|
|
Dividends declared
|
(7
|
)
|
|
—
|
|
|
Currency translation adjustments and other
|
(2
|
)
|
|
1
|
|
|
Balance at September 3, 2016
|
$
|
66
|
|
|
$
|
—
|
|
Note 7 - Income Taxes
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarter ended
|
|
Year to date
|
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
|
Income tax (benefit) provision
|
$
|
(65
|
)
|
|
$
|
145
|
|
|
$
|
183
|
|
|
$
|
358
|
|
|
Effective tax rate
|
(11.6
|
)%
|
|
25.3
|
%
|
|
11.8
|
%
|
|
25.9
|
%
|
Our effective tax rate is generally lower than the U.S. federal statutory rate of
35%
due to the majority of our income being earned outside the U.S. where tax rates are generally lower than the U.S. rate.
During the quarter ended September 3, 2016, we recorded a tax benefit of
$233 million
related to previously recorded losses associated with our Little Sheep business. The tax benefit associated with these losses was able to be recognized as a result of
legal entity restructuring completed in anticipation of the China spin-off. The cash tax savings associated with this benefit will be realized as we recognize future U.S. refranchising gains.
Our third quarter and year to date effective tax rates were lower than the prior year primarily due to the recognition of the aforementioned Little Sheep tax benefits, lapping a valuation allowance charge resulting from a change in judgment regarding the future use of certain deferred tax assets in a foreign market, partially offset by the increased cost of repatriating current year foreign earnings.
Note 8 - Reportable Operating Segments
We identify our operating segments based on management responsibility. As described in Note 1, effective January 1, 2016 our India business was segmented by brand and integrated into the global KFC, Pizza Hut and Taco Bell Divisions. Segment information for previous periods has been restated to reflect this reporting change. The following tables summarize Revenues and Operating Profit for each of our reportable operating segments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarter ended
|
|
Year to date
|
|
Revenues
|
2016
|
|
2015
|
|
2016
|
|
2015
|
|
China
|
$
|
1,883
|
|
|
$
|
1,969
|
|
|
$
|
4,774
|
|
|
$
|
4,861
|
|
|
KFC Division
|
723
|
|
|
721
|
|
|
2,060
|
|
|
2,109
|
|
|
Pizza Hut Division
|
230
|
|
|
264
|
|
|
741
|
|
|
802
|
|
|
Taco Bell Division
|
481
|
|
|
473
|
|
|
1,370
|
|
|
1,382
|
|
|
Unallocated
|
(1
|
)
|
|
—
|
|
|
(2
|
)
|
|
—
|
|
|
|
$
|
3,316
|
|
|
$
|
3,427
|
|
|
$
|
8,943
|
|
|
$
|
9,154
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarter ended
|
|
Year to date
|
|
Operating Profit
|
2016
|
|
2015
|
|
2016
|
|
2015
|
|
China
(a)
|
$
|
348
|
|
|
$
|
327
|
|
|
$
|
751
|
|
|
$
|
661
|
|
|
KFC Division
|
160
|
|
|
144
|
|
|
469
|
|
|
459
|
|
|
Pizza Hut Division
|
61
|
|
|
65
|
|
|
212
|
|
|
206
|
|
|
Taco Bell Division
|
143
|
|
|
132
|
|
|
401
|
|
|
386
|
|
|
Unallocated and Corporate General and administrative expenses
(b)
|
(80
|
)
|
|
(53
|
)
|
|
(213
|
)
|
|
(153
|
)
|
|
Unallocated Other income (expense)
|
(3
|
)
|
|
(10
|
)
|
|
4
|
|
|
(19
|
)
|
|
Unallocated Refranchising gain (loss)
(c)
|
25
|
|
|
(2
|
)
|
|
85
|
|
|
(60
|
)
|
|
Operating Profit
|
$
|
654
|
|
|
$
|
603
|
|
|
$
|
1,709
|
|
|
$
|
1,480
|
|
|
Interest expense, net
|
(87
|
)
|
|
(32
|
)
|
|
(164
|
)
|
|
(99
|
)
|
|
Income Before Income Taxes
|
$
|
567
|
|
|
$
|
571
|
|
|
$
|
1,545
|
|
|
$
|
1,381
|
|
|
|
|
|
(a)
|
Includes equity income from investments in unconsolidated affiliates of
$18 million
and
$15 million
for the quarters ended
September 3, 2016
and
September 5, 2015
, respectively. Includes equity income from investments in unconsolidated affiliates of
$44 million
and
$31 million
for the years to date ended
September 3, 2016
and
September 5, 2015
, respectively.
|
|
|
|
|
(b)
|
Primarily Corporate G&A expenses for the quarters ended
September 3, 2016
and
September 5, 2015
. Amounts also include costs associated with the KFC U.S. Acceleration Agreement of
$21 million
for the quarter ended
September 5, 2015
and
$17 million
and
$31 million
for the years to date ended
September 3, 2016
and
September 5, 2015
, respectively. Also included are
$10 million
and
$29 million
for the quarter and year to date ended
September 3, 2016
, respectively, related to the planned spin-off of the China business and YUM recapitalization, and
$26 million
for the quarter and
$32 million
for the year to date ended
September 3, 2016
, respectively, associated with YUM's Strategic Transformation Initiatives. See Note 4.
|
|
|
|
|
(c)
|
See the Refranchising (Gain) Loss section of Note 4.
|
Note 9 - Pension Benefits
We sponsor qualified and supplemental (non-qualified) noncontributory defined benefit pension plans covering certain full-time salaried and hourly U.S. employees. The most significant of these plans, the YUM Retirement Plan (the "Plan"), is funded. We fund our other U.S. plans as benefits are paid. The Plan and our most significant non-qualified plan in the U.S. are closed to new salaried participants.
Subsequent to the quarter ended September 3, 2016 we contributed
$20 million
to the Plan, and do not expect to make any further significant contributions in 2016.
The components of net periodic benefit cost associated with our significant U.S. pension plans are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarter ended
|
|
Year to date
|
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
|
Service cost
|
$
|
4
|
|
|
$
|
5
|
|
|
$
|
12
|
|
|
$
|
13
|
|
|
Interest cost
|
12
|
|
|
13
|
|
|
37
|
|
|
38
|
|
|
Expected return on plan assets
|
(15
|
)
|
|
(15
|
)
|
|
(45
|
)
|
|
(43
|
)
|
|
Amortization of net loss
|
1
|
|
|
10
|
|
|
4
|
|
|
31
|
|
|
Amortization of prior service cost
|
2
|
|
|
1
|
|
|
4
|
|
|
1
|
|
|
Net periodic benefit cost
|
$
|
4
|
|
|
$
|
14
|
|
|
$
|
12
|
|
|
$
|
40
|
|
|
|
|
|
|
|
|
|
|
|
Additional loss (gain) recognized due to settlements
(a)
|
$
|
1
|
|
|
$
|
—
|
|
|
$
|
1
|
|
|
$
|
1
|
|
|
|
|
|
(a)
|
Losses are a result of settlement transactions from a non-funded plan which exceeded the sum of annual service and interest costs for that plan. These losses were recorded in G&A expenses.
|
Note 10 - Short-term Borrowings and Long-term Debt
|
|
|
|
|
|
|
|
|
|
|
|
|
Short-term Borrowings
|
|
9/3/2016
|
|
12/26/2015
|
|
|
Current maturities of long-term debt
|
|
$
|
55
|
|
|
$
|
313
|
|
|
Unsecured Short-term Loan Credit Facility (the "Bridge Facility")
|
|
—
|
|
|
600
|
|
|
Other
|
|
—
|
|
|
9
|
|
|
|
|
55
|
|
|
922
|
|
|
Less current portion of debt issuance costs and discounts
|
|
(7
|
)
|
|
—
|
|
|
Short-term borrowings
|
|
$
|
48
|
|
|
$
|
922
|
|
|
|
|
|
|
|
|
Long-term Debt
|
|
|
|
|
|
Securitization Notes
|
|
$
|
2,300
|
|
|
$
|
—
|
|
|
Subsidiary Senior Unsecured Notes
|
|
2,100
|
|
|
—
|
|
|
Term Loan A Facility
|
|
500
|
|
|
—
|
|
|
Term Loan B Facility
|
|
2,000
|
|
|
—
|
|
|
YUM Senior Unsecured Notes
|
|
2,200
|
|
|
2,500
|
|
|
Senior Unsecured Revolving Credit Facility
|
|
—
|
|
|
701
|
|
|
Capital lease obligations
|
|
154
|
|
|
169
|
|
|
Other
|
|
9
|
|
|
—
|
|
|
|
|
9,263
|
|
|
3,370
|
|
|
Less debt issuance costs and discounts
|
|
(89
|
)
|
|
(16
|
)
|
|
Less current maturities of long-term debt
|
|
(55
|
)
|
|
(313
|
)
|
|
Long-term debt
|
|
$
|
9,119
|
|
|
$
|
3,041
|
|
During the quarter ended September 3, 2016, a group of our subsidiaries issued
$2.1 billion
in Senior Unsecured Notes and entered into a Credit Agreement providing for senior, secured credit facilities consisting of a
$500 million
Term Loan A Facility, a
$2.0 billion
Term Loan B Facility and a
$1.0 billion
revolving credit facility that was undrawn as of September 3, 2016. Also during the quarter we repaid and terminated the Senior Unsecured Revolving Credit Facility, which had
$701 million
of outstanding borrowings as of December 26, 2015.
During the quarter ended June 11, 2016, a subsidiary of Taco Bell issued
$2.3 billion
in Securitization Notes, and YUM repaid
$300 million
in YUM Senior Unsecured Notes and repaid and terminated the Bridge Facility, which had
$600 million
of outstanding borrowings as of
December 26, 2015
. Details of the 2016 debt issuances and repayments are described below.
Details of our short-term borrowings and long-term debt as of
December 26, 2015
can be found within our 2015 Form 10-K.
Credit Facilities and Subsidiary Senior Unsecured Notes
On June 16, 2016, KFC Holding Co., Pizza Hut Holdings, LLC, a limited liability company, and Taco Bell of America, LLC, a limited liability company ("TBA"), each of which is a wholly-owned subsidiary of the Company, as co-borrowers (the "Borrowers"), entered into a credit agreement providing for senior secured credit facilities consisting of a
$500 million
Term Loan A facility (the “Term Loan A Facility"), a
$2.0 billion
Term Loan B facility (the “Term Loan B Facility”) and a
$1.0 billion
revolving facility (undrawn as of close) (the “Revolving Facility”), each of which may be increased subject to certain conditions. The Term Loan A Facility, the Term Loan B Facility, and the Revolving Facility are collectively referred to as the "Credit Agreement". As of September 3, 2016, there were no outstanding borrowings under the Revolving Facility.
The Term Loan A Facility is subject to
quarterly
amortization payments beginning one full fiscal quarter after the first anniversary of the closing date
, in an amount equal to
1.25%
of the initial principal amount of the facility, in each of the second and third years of the facility; in an amount equal to
1.875%
of the initial principal amount of the facility, in the fourth year of the facility; and in an amount equal to
3.75%
of the initial principal amount of the facility, in the fifth year of the facility, with the balance payable at maturity on the fifth anniversary of the closing date. The Term Loan B Facility is subject to
quarterly
amortization payments in an amount equal to
0.25%
of the initial principal amount of the facility, with the balance payable at maturity on the seventh anniversary of the closing date.
The interest rate for the Term Loan A Facility and for borrowings under the Revolving Facility ranges from
2.00%
to
2.50%
plus LIBOR or from
1.00%
to
1.50%
plus the Base Rate (as defined in the Credit Agreement), at the Borrowers’ election, based upon the total net leverage ratio of the Borrowers and the Specified Guarantors. The Specified Guarantors are the following subisidiaries of the Company: YUM Restaurant Services Group, LLC, Restaurant Concepts LLC and Taco Bell Corp. ("TBC") and their subsidiaries, excluding Taco Bell Funding LLC, its special purpose, wholly-owned subsidiaries (see below), and YUM China and related subsidiaries expected to be included in the spin-off. The interest rate for the Term Loan B Facility is either LIBOR plus
2.75%
or the Base Rate plus
1.75%
, at the Borrowers’ election. Interest on any outstanding borrowings under the Credit Agreement is payable at least
quarterly
. The Term Loan A Facility and the Revolving Facility mature in June 2021 and the Term Loan B Facility matures in June 2023.
The Credit Agreement is unconditionally guaranteed by the Company and certain of the Borrowers’ principal domestic subsidiaries and excludes Taco Bell Funding LLC and its special purpose, wholly-owned subsidiaries (see below). The Credit Agreement is also secured by first priority liens on substantially all assets of the Borrowers and each subsidiary guarantor, excluding the stock of certain subsidiaries and certain real property, and subject to other customary exceptions.
The Credit Agreement is subject to certain mandatory prepayments, including an amount equal to 50% of excess cash flow (as defined in the Credit Agreement) on an annual basis and the proceeds of certain asset sales, casualty events and issuances of indebtedness, subject to customary exceptions and reinvestment rights
.
The Credit Agreement includes two financial maintenance covenants which
require the Borrowers to maintain a total leverage ratio (defined as the ratio of Consolidated Total Debt to Consolidated EBITDA (as these terms are defined in the Credit Agreement)) of 5.0:1 or less
and a
fixed charge coverage ratio (defined as the ratio of EBITDA minus capital expenditures to fixed charges (inclusive of rental expense and scheduled amortization)) of at least 1.5:1
, each as of the last day of each fiscal quarter. The Credit Agreement includes other affirmative and negative covenants and events of default that are customary for facilities of this type. The Credit Agreement contains, among other things, limitations on certain additional indebtedness and liens, and certain other transactions specified in the agreement.
We were in compliance with all debt covenants as of September 3, 2016
.
Additionally, on June 16, 2016, the Borrowers issued
$1.05 billion
aggregate principal amount of
5.00%
Senior Unsecured Notes due 2024 and
$1.05 billion
aggregate principal amount of
5.25%
Senior Unsecured Notes due 2026 (together, the “Subsidiary Senior Unsecured Notes”). Interest on each series of Subsidiary Senior Unsecured Notes is payable
semi-annually
in arrears on June 1 and December 1, beginning on December 1, 2016. The Subsidiary Senior Unsecured Notes are guaranteed on a senior unsecured basis by (i) the Company, (ii) the Specified Guarantors and (iii) by each of the Borrower's and the Specified Guarantors’ domestic subsidiaries that guarantees the Borrower's obligations under the Credit Agreement, except for any of the Company’s foreign subsidiaries. The indenture governing the Subsidiary Senior Unsecured Notes contains covenants and events of default that are customary for debt securities of this type.
We were in compliance with all debt covenants as of September 3, 2016.
During the year to date ended September 3, 2016, the Company incurred debt issuance costs of
$55 million
in connection with the issuance of the Credit Agreement and the Subsidiary Senior Unsecured Notes. The debt issuance costs are being amortized to Interest expense, net through the contractual maturity of the agreements utilizing the effective interest rate method. We classify these deferred costs on our Condensed Consolidated Balance Sheet as a reduction in the related debt when borrowings are outstanding or within Other assets if borrowings are not outstanding. As of September 3, 2016, the effective interest rates, including the amortization of debt issuance costs and the impact of the interest rate swaps on Term Loan B Facility (See Note 11), were
5.16%
,
5.39%
,
2.93%
, and
3.70%
for the Senior Unsecured Notes due 2024, the Senior Unsecured Notes due 2026, the Term Loan A Facility, and the Term Loan B Facility, respectively.
We used certain of the net proceeds from the issuances of the Subsidiary Senior Unsecured Notes and the Credit Agreement to repay all outstanding amounts on our existing senior unsecured revolving credit facility (the “Senior Unsecured Revolving Credit Facility”) in the quarter ended
September 3, 2016
. Concurrent with this repayment the Senior Unsecured Revolving Credit Facility was terminated. The remaining proceeds are being used by the Company to return capital to shareholders through share repurchases and for general corporate purposes.
Securitization Notes
On May 11, 2016 Taco Bell Funding, LLC (the “Issuer”), a newly formed, special purpose limited liability company and a direct, wholly-owned subsidiary of TBC completed a securitization transaction and issued
$800 million
of its Series 2016-1
3.832%
Fixed Rate Senior Secured Notes, Class A-2-I (the “Class A-2-I Notes”),
$500 million
of its Series 2016-1
4.377%
Fixed Rate Senior Secured Notes, Class A-2-II (the “Class A-2-II Notes”) and
$1.0 billion
of its Series 2016-1
4.970%
Fixed Rate Senior Secured Notes, Class A-2-III (the “Class A-2-III Notes” and, together with the Class A-2-I Notes and the Class A-2-II Notes, the “Class A-2 Notes”). In connection with the issuance of the Class A-2 Notes, the Issuer also entered into a revolving financing facility of Series 2016-1 Senior Notes, Class A-1 (the “Variable Funding Notes”), which allows for the borrowing of up to
$100 million
and the issuance of up to
$50 million
in letters of credit. The Class A-2 Notes and the Variable Funding Notes are referred to collectively as the “Securitization Notes”. The Class A-2 Notes were issued under a Base Indenture, dated as of May 11, 2016 (the “Base Indenture”), and the related Series 2016-1 Supplement thereto, dated as of May 11, 2016 (the “Series 2016-1 Supplement”). The Base Indenture and the Series 2016-1 Supplement (collectively, the “Indenture”) will allow the Issuer to issue additional series of notes.
The Securitization Notes were issued in a transaction pursuant to which certain of TBC’s domestic assets, consisting principally of franchise-related agreements, and domestic intellectual property, were contributed to the Issuer and the Issuer’s special purpose, wholly-owned subsidiaries (the “Guarantors”, and collectively with the Issuer, the "Securitization Entities") to secure the Securitization Notes. The Securitization Notes are secured by substantially all of these same assets, and include a lien on all existing and future U.S. Taco Bell franchise and license agreements and the royalties payable thereunder, existing and future U.S. Taco Bell intellectual property, certain transaction accounts and a pledge of the equity interests in asset-owning Securitization Entities. The remaining U.S. Taco Bell assets that were excluded from the transfers to the Securitization Entities continue to be held by TBA and TBC. The Securitization Notes are not guaranteed by the remaining U.S. Taco Bell assets, the Company, or any other subsidiary of the Company.
Payments of interest and principal on the Securitization Notes are made from the royalty fees paid pursuant to the franchise and license agreements with all U.S. Taco Bell restaurants, including both company and franchise operated restaurants. Interest on and principal payments of the Class A-2 Notes are due on a
quarterly
basis. In general,
no amortization of principal of the Class A-2 Notes is required prior to their anticipated repayment dates
unless
as of any quarterly measurement date the consolidated leverage ratio (the ratio of total debt to Net Cash Flow (as defined in the Indenture)) for the preceding four fiscal quarters of either the Company and its subsidiaries or the Issuer and its subsidiaries exceeds 5.0:1, in which case amortization payments of 1% per year of the outstanding principal as of the closing of the Securitization Notes is required
. The legal final maturity date of the Notes is in May 2046, but the anticipated repayment dates of the Class A-2-I Notes, the Class A-2-II Notes and the Class A-2-III Notes
will be
4
,
7
and
10
years, respectively (the “Anticipated Repayment Dates”) from the date of issuance. If the Issuer has not repaid or refinanced a series of Class A-2 Notes prior to its respective Anticipated Repayment Dates, rapid amortization of principal on all Securitization Notes will occur and additional interest will accrue on the Class A-2 Notes, as stated in the Indenture.
Interest on the Variable Funding Notes will be based on (i) the prime rate, (ii) the overnight federal funds rates, (iii) the London interbank offered rate (“LIBOR”) for U.S. Dollars or (iv) with respect to advances made by conduit investors, the weighted average cost of, or related to, the issuance of commercial paper allocated to fund or maintain such advances, plus any applicable margin, in each case as more fully set forth in the Variable Funding Note Purchase Agreement. It is anticipated that the principal of and interest on the Variable Funding Notes will be repaid in full on or prior to May 2021,
subject to two additional one-year extensions at the option of the Issuer and further extensions as agreed between the Issuer and the Administrative Agent.
Following the anticipated repayment date and any extensions thereof, additional interest will accrue on the Variable Funding Notes equal to 5.00% per year
. As of
September 3, 2016
,
$15 million
of letters of credit were outstanding against the Variable Funding Notes, which relate primarily to interest reserves required under the Indenture. The Variable Funding Notes were undrawn at
September 3, 2016
.
During the quarter ended June 11, 2016, the Company incurred debt issuance costs of
$31 million
in connection with the issuance of the Securitization Notes. The debt issuance costs are being amortized to Interest expense, net through the Anticipated Repayment Dates of the Securitization Notes utilizing the effective interest rate method. We classify these deferred costs on our Condensed Consolidated Balance Sheet as a reduction in the related debt when borrowings are outstanding or within Other assets if borrowings are not outstanding. As of
September 3, 2016
, the effective interest rates, including the amortization of debt issuance costs, were
4.18%
,
4.59%
, and
5.14%
for the Class A-2-I Notes, Class A-2-II Notes and Class A-2-III Notes, respectively.
The Securitization Notes are subject to a series of covenants and restrictions customary for transactions of this type, including (i) that the Issuer maintains specified reserve accounts to be available to make required interest payments in respect of the Securitization Notes, (ii) provisions relating to optional and mandatory prepayments and the related payment of specified amounts, including specified make-whole payments in the case of the Class A-2 Notes under certain circumstances, (iii) certain indemnification payments relating to taxes, enforcement costs and other customary items and (iv) covenants relating to recordkeeping, access to information and similar matters. The Securitization Notes are also subject to rapid amortization events provided for in the Indenture, including events tied to failure to maintain a stated
debt service coverage ratio (as defined in the Indenture) of at least 1.1:1
, gross domestic sales for branded restaurants being below certain levels on certain measurement dates, a manager termination event, an event of default and the failure to repay or refinance the Class A-2 Notes on the Anticipated Repayment Date (subject to limited cure rights).
The Securitization Notes are also subject to certain customary events of default, including events relating to non-payment of required interest or principal due on the Securitization Notes, failure to comply with covenants within certain time frames, certain bankruptcy events, breaches of specified representations and warranties, failure of security interests to be effective, certain judgments and failure of the Securitization Entities to maintain a stated debt service coverage ratio.
As of September 3, 2016, we were in compliance with all of our debt covenant requirements and were not subject to any rapid amortization events.
In accordance with the Indenture, certain cash accounts have been established with the Indenture trustee for the benefit of the note holders, and are restricted in their use. The Indenture requires a certain amount of securitization cash flow collections to be allocated on a weekly basis and maintained in a cash reserve account. As of
September 3, 2016
the Company had restricted cash of
$52 million
primarily related to required interest reserves. Such restricted cash is included in Prepaid expenses and other current assets on the Condensed Consolidated Balance Sheet as of
September 3, 2016
. Changes in restricted cash have been presented as a component of cash flows from operating activities in the Condensed Consolidated Statement of Cash Flows since the cash is restricted to the payment of interest. Once the required obligations are satisfied, there are no further restrictions, including payment of dividends, on the cash flows of the Securitization Entities.
Additional cash reserves are required if any of the rapid amortization events occur, as noted above, or in the event that as of any quarterly measurement date the Securitization Entities fail to maintain a
debt service coverage ratio (or the ratio of Net Cash Flow to all debt service payments for the preceding four fiscal quarters) of at least 1.75:1
. The amount of weekly cash flow that exceeds the required weekly allocations is generally remitted to the Company.
During the quarter ended September 3, 2016, the Securitization Entities maintained a debt service coverage ratio significantly in excess of the 1.75:1 requirement
.
We used certain of the proceeds from the issuance of the Class A-2 Notes to repay
$2.0 billion
borrowed under the Company’s December 8, 2015 Bridge Facility, as amended, at which time the Bridge Facility was terminated. The remaining proceeds were used for costs associated with the securitization transaction, to return capital to shareholders through share repurchases and for general corporate purposes.
Note 11 - Derivative Instruments
We use derivative instruments to manage certain of our market risks related to fluctuations in interest rates and foreign currency exchange rates.
Interest Rate Swaps
We enter into interest rate swaps with the objective of reducing our exposure to interest rate risk for a portion of our variable-rate debt interest payments. During the quarter ended September 3, 2016, we agreed with multiple counterparties to swap the variable LIBOR-based component of the interest payments related to
$1.55 billion
of our
$2.0 billion
Term Loan B Facility, resulting in a fixed rate of
3.92%
on the swapped portion of the Term Loan B Facility. These interest rate swaps will expire in July 2021 and are designated cash flow hedges as the changes in the future cash flows of the swaps are expected to offset changes in interest payments on the related variable-rate debt. There were no other interest rate swaps outstanding as of September 3, 2016.
The effective portion of gains or losses on the interest rate swaps is reported as a component of Accumulated OCI ("AOCI") and reclassified into Interest expense, net in our Condensed Consolidated Statement of Income in the same period or periods during which the related hedged interest payments affect earnings. Gains or losses on the swaps representing hedge ineffectiveness are recognized in current earnings. As of September 3, 2016, the swaps were highly effective cash flow hedges and no ineffectiveness has been recorded.
Foreign Currency Contracts
We enter into foreign currency forward and swap contracts with the objective of reducing our exposure to earnings volatility arising from foreign currency fluctuations associated with certain foreign currency denominated intercompany receivables and payables. The notional amount, maturity date, and currency of these contracts match those of the underlying intercompany receivables or payables. Our foreign currency contracts are designated cash flow hedges as the future cash flows of the contracts are expected to offset changes in intercompany receivables and payables due to foreign currency exchange rate fluctuations.
The effective portion of gains or losses on the foreign currency contracts is reported as a component of AOCI. Amounts are reclassified from AOCI each quarter to offset foreign currency transaction gains or losses recorded within Other (income) expense when the related intercompany receivables and payables affect earnings due to their functional currency remeasurements. Gains or losses on the foreign currency contracts representing hedge ineffectiveness are recognized in current earnings. As of September 3, 2016, all foreign currency contracts were highly effective cash flow hedges and no ineffectiveness has been recorded.
As of September 3, 2016, and September 5, 2015, foreign currency forward and swap contracts outstanding had total notional amounts of
$470 million
, and have durations expiring starting in November 2016 and ending in June 2020.
As of September 3, 2016, the estimated net loss included in AOCI related to our cash flow hedges that will be reclassified into earnings in the next 12 months is
$5 million
.
As a result of the use of derivative instruments, the Company is exposed to risk that the counterparties will fail to meet their contractual obligations. To mitigate the counterparty credit risk, we only enter into contracts with carefully selected major financial institutions based upon their credit ratings and other factors, and continually assess the creditworthiness of counterparties. At September 3, 2016, all of the counterparties to our interest rate swaps and foreign currency contracts had investment grade ratings according to the three major ratings agencies. To date, all counterparties have performed in accordance with their contractual obligations.
Gains and losses on derivative instruments designated as cash flow hedges recognized in OCI and reclassifications from AOCI into Net Income:
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Quarter ended
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Year to date
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Gains/(Losses) Recognized in OCI
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(Gains)/Losses Reclassified from AOCI into Net Income
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Gains/(Losses) Recognized in OCI
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(Gains)/Losses Reclassified from AOCI into Net Income
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2016
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2015
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2016
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2015
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2016
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2015
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2016
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2015
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|
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|
|
|
|
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|
|
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|
|
|
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|
Interest rate swaps
|
$
|
(4
|
)
|
|
$
|
—
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|
|
$
|
1
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|
|
$
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—
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|
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$
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(4
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)
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$
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—
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$
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1
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|
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$
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—
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|
|
|
|
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|
|
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|
|
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Foreign currency contracts
|
15
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|
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8
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|
|
(13
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)
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(10
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)
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(16
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)
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20
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20
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(22
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)
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Income tax benefit/(expense)
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—
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—
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1
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|
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—
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|
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—
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|
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(4
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)
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1
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4
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|
See Note 12 for the fair value of our derivative assets and liabilities.
Note 12 - Fair Value Disclosures
As of September 3, 2016, the carrying values of cash and cash equivalents, short-term investments, accounts receivable and accounts payable approximated their fair values because of the short-term nature of these instruments. The fair values of notes receivable net of allowances and lease guarantees less subsequent amortization approximates their carrying values. We estimated the fair value of the YUM and Subsidiary Senior Unsecured Notes, Term Loan A Facility, and Term Loan B Facility using market quotes and calculations based on market rates. We estimated the fair value of the Class A-2 Notes by obtaining broker quotes from two separate brokerage firms that are knowledgeable about the Company’s Class A-2 Notes and, at times, trade these notes. The markets in which the Class A-2 Notes trade are not considered active markets. The fair value of the Company’s foreign currency contracts and interest rate swaps were determined based on the present value of expected future cash flows considering the risks involved, including nonperformance risk, and using discount rates appropriate for the duration based upon observable inputs. The other investments include investments in mutual funds, which are used to offset fluctuations in deferred compensation liabilities that employees have chosen to invest in phantom shares of a Stock Index Fund or Bond Index Fund. The fair value of the other investments (Level 1) was determined based on the closing market prices of the respective mutual funds as of September 3, 2016, and December 26, 2015. The YUM and Subsidiary Senior Unsecured Notes were estimated to have a combined fair value of
$4.5 billion
(Level 2), compared to their combined carrying value of
$4.3 billion
as of September 3, 2016. The fair values of the Company’s Term Loan A Facility and Term Loan B Facility approximated their respective carrying values of
$0.5 billion
(Level 2) and
$2.0 billion
(Level 2) as of September 3, 2016. As of September 3, 2016 the Company’s Class A-2 Notes were estimated to have a collective fair value of
$2.4 billion
(Level 2), compared to a collective carrying value of
$2.3 billion
.
The following table presents fair values for those assets and liabilities (See Note 11 for discussion regarding derivative instruments) measured at fair value on a recurring basis and the level within the fair value hierarchy in which the measurements fall. No transfers among the levels within the fair value hierarchy occurred during the quarter and year to date ended September 3, 2016.
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Fair Value
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Level
|
|
9/3/2016
|
|
12/26/2015
|
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Condensed Consolidated Balance Sheet
|
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Interest Rate Swaps - Liability
|
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2
|
|
$
|
7
|
|
|
$
|
2
|
|
|
Accounts payable and other current liabilities
|
|
Interest Rate Swaps - Asset
|
|
2
|
|
3
|
|
|
—
|
|
|
Other assets
|
|
Foreign Currency Contracts - Asset
|
|
2
|
|
6
|
|
|
—
|
|
|
Prepaid expenses and other current assets
|
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Foreign Currency Contracts - Liability
|
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2
|
|
3
|
|
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—
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Other liabilities and deferred credits
|
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Foreign Currency Contracts - Asset
|
|
2
|
|
—
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19
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Other assets
|
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Other Investments
|
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1
|
|
23
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|
|
21
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Other assets
|
During the quarter and year to date ended September 3, 2016, we recorded restaurant-level impairment (Level 3) of
$4 million
and
$39 million
, respectively. During the quarter and year to date ended September 5, 2015, we recorded restaurant-level impairment (Level 3) of
$1 million
and
$19 million
, respectively. The remaining net book value of the assets measured at fair value as of September 3, 2016, subsequent to these impairments, was not significant.
Note 13 - Guarantees, Commitments and Contingencies
Lease Guarantees
As a result of having assigned our interest in obligations under real estate leases as a condition to the refranchising of certain Company restaurants and guaranteeing certain other leases, we are frequently contingently liable on lease agreements. These leases have varying terms, the latest of which expires in 2065. As of
September 3, 2016
the potential amount of undiscounted payments we could be required to make in the event of non-payment by the primary lessees was approximately
$525 million
. The present value of these potential payments discounted at our pre-tax cost of debt at
September 3, 2016
was approximately
$450 million
. Our franchisees are the primary lessees under the vast majority of these leases. We generally have cross-default provisions with these franchisees that would put them in default of their franchise agreements in the event of non-payment under the leases. We believe these cross-default provisions significantly reduce the risk that we will be required to make payments under these leases. Accordingly, the liability recorded for our probable exposure under such leases as of
September 3, 2016
was not material.
Other Franchise Guarantees
We have provided guarantees of
$15 million
on behalf of franchisees for several financing programs related to specific initiatives. The total loans outstanding under these financing programs were
$43 million
as of
September 3, 2016
.
Legal Proceedings
We are subject to various claims and contingencies related to lawsuits, real estate, environmental and other matters arising in the normal course of business. An accrual is recorded with respect to claims or contingencies for which a loss is determined to be probable and reasonably estimable.
The Company and Taco Bell were named as defendants in a number of putative class action suits filed in 2007, 2008, 2009 and 2010 alleging violations of California labor laws including unpaid overtime, failure to timely pay wages on termination, failure to pay accrued vacation wages, failure to pay minimum wage, denial of meal and rest breaks, improper wage statements, unpaid business expenses, wrongful termination, discrimination, conversion and unfair or unlawful business practices in violation of California Business & Professions Code §17200. Some plaintiffs also sought penalties for alleged violations of California’s Labor Code under California’s Private Attorneys General Act (“PAGA”) as well as statutory “waiting time” penalties and alleged violations of California’s Unfair Business Practices Act. Plaintiffs sought to represent a California state-wide class of hourly employees.
These matters were consolidated, and the consolidated case is styled
In Re Taco Bell Wage and Hour Actions
. The
In Re Taco Bell Wage and Hour Actions
plaintiffs filed a consolidated complaint in June 2009, and in March 2010 the court approved the parties’ stipulation to dismiss the Company from the action, leaving Taco Bell as the sole defendant. Plaintiffs filed their motion for class certification on the vacation and final pay claims in December 2010, and on September 26, 2011 the court issued its order denying the certification of the vacation and final pay claims. Plaintiffs then sought to certify four separate meal and rest break classes. On January 2, 2013, the court rejected three of the proposed classes but granted certification with respect to the late meal break class. The parties thereafter agreed on a list of putative class members, and the class notice and opt out forms were mailed on January 21, 2014.
Per order of the court, plaintiffs filed a second amended complaint to clarify the class claims. Plaintiffs also filed a motion for partial summary judgment. Taco Bell filed motions to strike and to dismiss, as well as a motion to alter or amend the second amended complaint. On August 29, 2014, the court denied plaintiffs’ motion for partial summary judgment. On that same date, the court granted Taco Bell’s motion to dismiss all but one of the PAGA claims. On October 29, 2014, plaintiffs filed a motion to amend the operative complaint and a motion to amend the class certification order. On December 16, 2014, the court partially granted both motions, rejecting plaintiffs’ proposed on-duty meal period class but certifying a limited rest break class and certifying an underpaid meal premium class, and allowing the plaintiffs to amend the complaint to reflect those certifications. On December 30, 2014, plaintiffs filed the third amended complaint. On February 26, 2015, the court denied a motion by Taco Bell to dismiss or strike the underpaid meal premium class.
Beginning on February 22, 2016, the late meal period class claim, the limited rest break class claim, the underpaid meal premium class claim, and the associated statutory “waiting time” penalty claim was tried to a jury. On March 9, 2016, the jury returned verdicts in favor of Taco Bell on the late meal period claim, the limited rest break claim, and the statutory “waiting time” penalty claim. The jury found for the plaintiffs on the underpaid meal premium class claim, awarding approximately
$0.5 million
. A bench trial was subsequently conducted with respect to the PAGA claims and plaintiffs’ Business & Professions Code §17200 claim. On April 8, 2016, the court returned a verdict in favor of Taco Bell on the PAGA claims and the §17200 claim. In a separate ruling issued the same day, the court also ruled that plaintiffs were entitled to prejudgment interest on the underpaid meal premium
class claim, awarding approximately
$0.3 million
. Taco Bell denies liability as to the underpaid meal premium class claim and filed a post-trial motion to overturn the verdict. Plaintiffs’ also filed various post-trial motions. On July 15, 2016, the court denied Taco Bell’s motion to overturn the verdict. The court denied Plaintiffs’ motions: (1) for a new trial, (2) for judgment as a matter of law to overturn the verdicts in favor of Taco Bell, (3) challenging the jury instructions and special verdict forms, and (4) to overturn the court’s rejection of the §17200 claims for meal and rest break violations. The court also denied Plaintiffs’ motions for additional costs and for enhanced awards to two of the named Plaintiffs. The court granted Plaintiffs’ motion for judgment on the §17200 claim regarding the underpaid meal premium claim, but rejected awarding any additional damages, finding that the jury verdict sufficiently compensated the class. The court granted Plaintiffs’ motion for attorneys’ fees, but awarded only approximately
$1.1 million
of the
$7.3 million
requested. The court also granted Plaintiffs’ bill of costs, but only awarded approximately
$93,000
of Plaintiffs’
$166,000
. Thereafter, both Plaintiffs and Taco Bell timely filed notices of appeal and the matter is now before the Ninth Circuit. We have provided for a reasonable estimate of the possible loss relating to this lawsuit. However, in view of the inherent uncertainties of litigation, there can be no assurance that this lawsuit will not result in losses in excess of those currently provided for in our Condensed Consolidated Financial Statements.
We are engaged in various other legal proceedings and have certain unresolved claims pending, the ultimate liability for which, if any, cannot be determined at this time. However, based upon consultation with legal counsel, we are of the opinion that such proceedings and claims are not expected to have a material adverse effect, individually or in the aggregate, on our Condensed Consolidated Financial Statements.