Yum China Holdings, Inc.

Thank you for standing by and welcome to the Yum! China first quarter 2023 earnings conference call. All participants are in a listen-only mode. There will be a presentation followed by a question and answer session. If you wish to ask a question, you will need to press the star key followed by the number one on your telephone keypad. I would now like to hand the conference over to Ms. Michelle Shen, IR Director. Please go ahead.

Thank you, Ashley. Hello, everyone. Thank you for joining YamChina's first quarter 2023 Earnings Conference Call. On today's call are our CEO, Ms. Zhou Yiwat, and our CFO, Mr. Andy Yung. Before we get started, I'd like to remind you that our earnings call and investor materials contain forward-looking statements which are subject to future events and uncertainties. Our actual results may differ materially from these forward-looking statements. All forward-looking statements should be considered in conjunction with the cautionary statement in our earnings release and the risk factors included in our findings with SEC. These calls also include certain non-GAAP financial measures. You should carefully consider the comparable GAAP measures. Reconciliation of non-GAAP and GAAP measures is included in our earnings release. You can find a webcast of these calls and a PowerPoint presentation on our IR website. Now I would like to turn the call over to Joey Wang, CEO of Young China. Joey?

Thank you, Michelle. Hello, everyone, and thank you for joining us today. We are pleased to have set new records for first quarter revenue and operating profits. It's a wonderful start to 2023. Like the Chinese saying, I want to thank all of our 400,000 plus employees Without their hard work and dedication, our performance would not be possible. System sales grew 17% year over year. Back in early January, we had low visibility into how conditions would unfold after the realization of strict COVID measures. Chinese New Year is a critical trading period for us. This year and earlier Chinese New Year was particularly challenging. due to a shorter ramp-up period. We planned for multiple scenarios incorporating regional differences and focused on driving sales based on the more optimistic scenarios. Therefore, we were able to effectively deploy resources as opportunities emerged. Operating profit more than doubled to $416 million. Our efforts in enhancing operational efficiency and rebasing our cost structure in the past few years contributed to strong profitability in the quarter. And our system sales growth compared to 2019 is plus 20% and operating profit also compared to 2019 is plus 37%. These results exemplify our ability to stay resilient in challenging times and seize opportunities when better times emerge. Our initiatives and investments, along with our resiliency, growth, moat, strategy, have made us more agile and responsive. During the quarter, we were encouraged by early signs of recovery. Notably, sign, takeaway, delivery, all grew year over year on the same store sales basis. Delivery, a part four, around 36% of sales, same as a year ago. Customers continue to love the convenience and delivery provided. Off-premise was over 60% of sales. ThinkSo sales grew year over year across different regions and trade zones. We benefit from increasing mobility and saw a 40% plus growth at transportation and tourist locations. single sales at these locations in the first quarter were still 20 to 30% below 2019 level. Weekend sales growth slightly outpaced with day sales. Apart from increased social gatherings, value programs since 2022 also contributed to growth. Let me share about how we grow sales. We focus on our core pillars, good food, at great value and good customer experience to capture demand. Good food at great value is our hallmark. We refreshed several signature products and achieved great results. After doing it for more than a decade, people come to expect our Chinese New Year bucket at KFC. To capture a home consumption around family reunion, we add the option to trade up for a juicy whole chicken, . We sold 11 million whole chickens in the first quarter, more than doubled year over year. We gave our classic beef wrap a localized spicy twist, . The innovation sparked social buzz, leading to a sellout in many markets in just six days. A Pizza Hut, The Supreme series is our most popular pizza lineup, accounting for nearly 30% of all the pizzas we sold in the first quarter. We introduced Wagyu Beef and Seafood Supreme in Chinese New Year by including premium ingredients like abalone, sea cucumber, and Wagyu beef. These pizzas became the perfect festive choice. We also created double durian supreme, for durian fence. Two types of durian, and were combined with grapefruit and pineapple to create an explosive tropical flavor. Durian lovers love it. We continue to make our good food available at great value. At KFC, Crazy Thursday and Sunday Buy More, Save More promotions, 疯狂星期四,还有 走乐疯狂拼, continue to drive sales momentum and excitement. This year, we offered these great values even during Chinese New Year. We also revamped our weekday value combos OK Sanjian top with more choices and lowered prices of select burger combos to just 19.9 RMB. These three item combos attract new customers and grow frequency. We also expand our popular buy one, get one free campaign Pizza Hut to include pizza and stick options. Customers can redeem the free item immediately or in the next visit within 30 days. The campaign significantly increased sales by encouraging repeat purchases during the promotion period. Now let's talk about operating efficiency. Late last year, a significant portion of our employees and riders were infected with COVID. At the peak, Over 4,000 of our stores were temporarily closed or offered only limited services. By early January, as people gradually recovered from COVID, we made every effort to keep our stores open and resume normal operations. We got ready for the Chinese New Year period. We planned for cruise and inventory based on the more optimistic scenarios We also account for regional differences and continuously fine-tune our plans based on regional learning. We further improved hiring an incentive program to manage staffing and minimize labor shortages. To enhance productivity, we expand our initiative to share store management teams across multiple stores. It also provides career development opportunities for our young talents. Now let me share with you about our digitization. We have built a powerful digital ecosystem that's instrumental to our innovations while also enhancing operational efficiency. We leverage AI to optimize demand forecasting, inventory management, crew scheduling and production. Smart order system, 订单智能交付, streamlined the food preparation for dining and off-premise orders. These capabilities are particularly important during the peak season like Chinese New Year. Also, migrating our key infrastructure to private EMC cloud enhanced the reliability of our operations. It's especially important when we face significant traffic spikes during campaigns like Crazy Thursday. Smart delivery. Zilin, Shanchuan continue to improve delivery coverage and flexibility. Last year, we upgraded the system to dynamically adjust delivery coverage for each store by day part. These capabilities, along with our dedicated delivery riders, allow us to capture more sales and fulfill orders, even during the Chinese New Year peak season. We continued to improve digital touchpoints for better engagement with members. Digital orders account for around 89% of sales in the first quarter. Our loyalty programs exceed 430 million members. Members steadily contribute to about 60% sales. We actively engage members and drive frequency with privileged subscription plans. K-Friends is an invitation-only program for top 1 million loyal customers. K-Friends receives exclusive coupons and perks and a royal crown on the call screen when ordering in-store. These help us gain valuable insights to improve service for our most loyal members and all customers. To sum up, we are extremely pleased to deliver strong first quarter performance. Multiple scenario planning, innovative products, and value campaigns along with our agile supply chain and digital capabilities enable us to capture market opportunities. As we progress through 2023, we plan to stay nimble to the evolving market conditions. Looking ahead, we will focus on building sales momentum, expanding our store network, and fortifying our competitive moat. With that, I will turn the call over to Andy. Andy?

Thank you, Joey, and hello, everyone. Let me now share with you our first quarter performance. First quarter sales rebounded significantly from the fourth quarter. We made tremendous efforts to drive sales since the reopening by offering innovative food and compelling value campaigns. Restaurant margins reached 20.3%, the highest since 2017, Our margin expansion was driven by sales leveraging, effort to rebase our cost structure in recent years, investment in improving operating efficiency, and temporary COVID-related relief from government and landlords. Let's go through the financials. Foreign exchange had a negative impact of approximately 8% in the quarter. First quarter total revenues were $2.9 billion, in reported currency, a 9% year-over-year increase. In constant currency, total revenue grew 18%. System sales increased 17% year-over-year in constant currency. The robust growth was fueled by same-store sales growth of 8%, the contribution from new units, and significantly fewer COVID-related temporary store closures. Both KFC and Pizza Hut achieved 17% system sales growth. By brand, KFC same-store sales grew 8% year-over-year. Same-store traffic grew 6%, and ticket average grew 2%. Pizza Hut, same-store sales grew 7% year-over-year. Same-store traffic grew 13%, and ticket average decreased 5%. These results were largely due to the successful promotional activities, which drove strong traffic and lower ticket average. Leisure margin was 20.3%, 650 basis points higher than the prior year. Sales leveraging contributed to approximately half of the margin expansion. Labor productivity gain and lower occupancy costs were other key factors. We also enjoyed $18 million benefit from additional VAT deduction as thanks to the government policy to help businesses dealing with the challenges posed by COVID-19. These are partially offset by cost inflation and increased promotion expense. Let me go through the key items. Cost of sales was 30.1%, 100 basis points lower than prior year. We kept commodity prices low through tremendous effort, locking in prices and innovating the manual. We also reduced wastage and benefited from higher VAT deductions. Gains were offset by increased promotional activity to drive traffic. Cost of labor was 24.6%, 160 basis tons lower than the prior year. Self-leveraging and better labor productivity more than offset headwinds from low single-digit wage inflation. We further improved labor productivity through store management team and crew sharing initiatives. Occupancy and others was 25.0%, 390 basis points lower than the prior year. This was mainly driven by sales leveraging, lower rental expense, as well as other cost-saving initiatives. Rental expense improved due to rapidly more favorable rental terms for new stores and store portfolio optimization. We also recorded $8 million in rental relief related to COVID surge last year. GMA expense increased 16% year-over-year in constant currency, mainly from performance-based bonus and merit increase, as well as additional travel expenses from the resumption of business activities. Offering profit was $416 million, increasing 118% in re-product currency. Our effective tax rate was 28.5%. We expect four-year effective tax rate to be around 30%. Net income was $289 million, increasing 189% year-over-year in re-product currency. Salute EPS was 68 cents, an increase of 196% year-over-year. In the first quarter, we generated $507 million in operating cash flow and $328 million in free cash flow. We returned $116 million to shareholders in cash dividends and share repurchases. At the end of the first quarter, we had around $3 billion in cash and short-term investment and another $1 billion in long-term deposit, which would benefit from better interest rates. We expanded our store network and remain committed to capturing future growth opportunities. In the first quarter, we opened 233 net new stores. In the first quarter, we faced an earlier Chinese New Year and labor shortage, as well as delays in contract signing and building permit pauses in the fourth quarter. However, we have a strong pipeline and are confident in reaching our goal of opening 1,100 to 1,300 net new stores this year. Our new stores continue to perform well. We've paid a period of two years at KFC and three years at Pizza Hut. We'll continue to focus on expanding our store network in a systematic and disciplined manner.

Let's turn to our outlook.

We're encouraged by first quarter performance. Sales during the Chinese New Year trading period were buoyed by pent-up demand to travel. But same-store sales post-Chinese New Year have remained at team's level below 2019. Now, we are still in the early stages of the recovery. The pace and the trajectory of the recovery are likely to be gradual and uncertain. Overall, global macroeconomic conditions remain challenging, and the pandemic is still lingering. So the top priority for us this year is still driving sales. Consumers are value conscious, so our investment in promotions to attract more traffic and sales are crucial. In the coming quarters, We expect gradual inflationary pressure, and we anticipate the benefits from additional VAT deductions and rental leave to face-off. We have demonstrated our ability to capture opportunities in good times and manage the downsides in bad times. We will continue to utilize extensive scenario planning, flexible cost structures, and operational activities to navigate uncertain environments. We remain committed to seeking long-term growth opportunities in China, investing in strengthening our strategic mode and creating value for our shareholders. With that, I will pass you back to Michelle. Michelle.

Thanks, Andy. Before starting the Q&A, we'd like to share a heads up that we have scheduled our 2023 Investor Day from September 14th to 15th. The event will take place in Xi'an, China, and it will also be webcast for those who can join us in person. We will provide more details soon. Now we will open the call for questions. In order to give more people the chance to ask questions, please limit your questions to one at a time. Ashley, please start the Q&A.

Thank you. If you wish to ask a question, please press star one on your telephone and wait for your name to be announced. If you wish to cancel your request, please press star two. If you're on a speakerphone, please pick up the handset to ask your question. Your first question comes from Michelle Ching with Goldman Sachs. Please go ahead.

Hi, Joey, Andy. Congrats for the very strong results. My question is about the value content you mentioned on the call just now. So since we have been going through this reopening volatility for the past few months, and given we see the trend is still quite challenging, so can you share with us what is your thinking about the consumer's spending power and strategies on the product mix? And related to this question, it's about the food cost. So we see a pretty decent improvement on the food paper cost savings. But if we look into KFC versus Pizza Hut, it looks like KFC benefited quite a lot on this food cost savings, while Pizza Hut didn't see that much benefit. So can you also share with us how this value campaign and the product mix adjustment impacted two brands' food costs? Thank you very much.

Thank you. Thank you, Michelle. Let me comment on the value campaigns, and then Andy can follow up with the cost comment. There are economic challenges right now, and therefore, consumers are quite value cautious. The key question here is, what are our strategies? There are three prongs. three pillars of our strategy. One is menu. We really focus on good food, good tasting and innovative food on top of value campaign because the pure value campaign is not enough. The value campaign must come with good food in order to get the benefit. So you will see, you know, the new Wu Fan but Mao Xie Wan and that is right after Chinese New Year value campaign product. And that was doing very well. And then the good value, of course, is important. So you can see we have KFC, we have the crazy Thursday, and we add weekday value combos right now. And then on top of that, we introduce the solar funding, the Sunday, value campaigns in the middle of last year. And all of these work quite well. So we'll continue to work on that because let's not forget that Fung Kwan Sing Chi Su Crazy Thursday has been working since 2018. So it takes many years hard work to build that as a platform. And then with Pizza Hut, we have this Green Wednesday which has been working quite well. On top of good food, good value, we have good funds. We even right now delight customers with some fun toys or even a trip to Maldives, etc. So that's the first pillar of the strategy. Second is pricing. When we raise price, we always do it very, very carefully and prudently. And we also carefully design trade-off options to protect the ticket average and margin. So while we are going heavy with the value campaign, you can see management team has been able to protect the margin for the shareholder. And on top of that, we introduce good selection for each price range, including entry price point product, and let the customer choose. The third pillar of the strategy is to keep the cost competitive in inflationary environments. Our supply chain has been doing amazing work to secure supply and product innovation at scale. So while these value campaigns seem amazing marketing campaigns, well, they are amazing, but these are not possible without the very strong supply chain behind that. And then we also drive operational efficiency, including staff sharing, lowering the food waste and then also save a lot of money from rent. In order to pass these savings back to the customer, Portia and I pass to Andy for comments related to cost.

Yes, so I think when you look at Pizza Hut, we're very encouraged and very happy with the results. If you look at the same stock growth for Pizza Hut, we saw you know, same stock growth. And then if you look at overall system growth, you know, and it grew 70%. PZ also have seen, you know, acceleration in store opening. At the same time, you know, we also see very strong margin expansions. We saw almost 350 basis on restaurant margin expansion. And if you look at the operating profit itself, it's almost double, 85% increase on a yearly basis, which is slightly less than KFC, which is 90%, but still very, very respectable. And I think when we look at the cost structure on line item basis, obviously the two businesses are slightly different in the way they operate and also the material that they use. So when you look at the food cost, KFC obviously have more imported components, beef, cheese, dairy products, et cetera. Also, you know, for the two brands, they also have different, you know, sort of like pace of promotional activities. And if you look at Pizza Hut, you know, you have very strong value campaign, and it drove very strong store traffic growth. And so I think, you know, the strategy, although slightly different for the two brands, are working quite well both at Pizza Hut and KFC.

Thanks.

Thank you. Your next question comes from Lillian Lu with Morgan Stanley. Please go ahead.

Thank you. Congratulations again, Joey and Andy, for the strong results. My question is actually on the cost side, because I think Joey and Andy did mention that there are some benefits from a cost rebate in the first quarter, significant margin improvement, aside from the sales leveraging. And especially, I think, if we look into the details, there has been significant savings on the depreciation and amortization compared to last year. So my understanding, going forward, what's the margin outlook on the year-to-year basis? Can we expect a similar pattern of cut savings from our patients, put aside the facing out and of relief, and also with their guidance on the depreciation cost for the full year, given the significant decrease in the first quarter. Thank you.

It seems like another question for me, so I will take this question. So in terms of margins, I think when we look at first quarter margin improvement, we're very encouraged, obviously, As we have expected, with increasing sales, we're going to see sales leveraging, so approximately almost half the improvement coming from the sales leveraging. Now, in terms of the overall cost structure, we can see that labor productivity, some of the effort that we put into basing our cost structure there, you know, benefiting, you know, the COL as well. So you can see that, you know, they're, you know, they're optimizing, you know, labor scheduling and labor mix. And then we also have their initiative, as we mentioned on the prepared remarks, restaurant management team and crew sharing initiative. And then on the opportunity side, I think, you know, you also see that benefit from less wastage because we have better sales forecast and real-time inventory So that's the benefit of investing in technology, in digitalization. We also have installed some smart utility devices in the restaurant, so we also see better utility usage. In terms of, like you mentioned, in terms of our O&O expenses and depreciations, I think one is that the rental expense, as I mentioned before, we have relatively more favorable rental terms for our new store. And also, we have a store portfolio optimization that should also help us in terms of our depreciation. And then if you look at our overall investment for newer store, we also have bring up some investment. And that will also benefit in the long term our depreciating expense as well. In the first quarter, we also benefited from some temporary relief, as you mentioned, $8 million from rent relief that we made from last year's COVID surge, and then also about $18 million from additional VAT deduction, which is a government policy that helped businesses deal with COVID challenges. And we'll see how long that policy would continue. In terms of outlook, I think one thing that I want to emphasize on is that As I mentioned, sales is a very important factor in determining our overall margins. And so, you know, with sales increasing year-over-year, we should see sales leveraging. However, I want to point out that, you know, we do have seasonality with our sales. Same quarter, January, is a full quarter for sales, and therefore, you know, margins. The other one is that, you know, When we look at the pace of recovery, I think post, as I mentioned, post-CMI, we see a more gradual pace of recovery. And still, if you look at the cost of goods sold, we'll have a rapidly stable cost of sales with the commodity prices. But we're already seeing from the spot market that some of the inflationary pressures are building, although much more gradual compared to overseas. We're also likely to see wage inflation through the year. Normally, we see mid to high single digits. Currently, we're at low single digits. So I think we're going to trend back to normal as the recovery continues. So that's sort of like the way we look at it. For margin improvement, I think to a large degree, it's dictated by sales and averaging. I think the cost structure is cost rebasing. we continue to take hold. But, you know, some of our temporary leave will go away for the rest of the year.

Thanks. Thank you, Lilian. I just want to add a few comments on the question. The current call space is certainly more resilient than three years ago. You know, last three years have been difficult, challenging, particularly 2022. Therefore, we really have been pushing a lot to rebate the course, and the result is showing right now. Let me give you some specific example. For the rent, it's better. It's actually the best rent in the last decade for two reasons. One is our store portfolio is better because we have been able to prune some low-performing stores while building new stores with much better rent structure. over 40% of our stores were built in the last three years. For depreciation, roughly, even for just 2022, our cap test for new store is down by 25% to 35% just for 2022. If we add up the improvement in the last three years, the improvement is more. Well, the WPSA, the sales per week is also coming down, however, the profit margin maintained or even improved. And the benefit of lower CAPES is not only benefiting depreciation. Think about the sell side, Lillian. It also benefits the new store opening. With the lower CAPES for new store, we are able to open stores in trade zones that we were not we were not able to open in the past. But lower cap tests allow us to have more flexibility to open stores and still maintain the profitability. And third one is the labor cost. I think this is an ongoing challenge. But as Andy mentioned, we have initiative working on crew sharing, starting with the delivery rider and now moving to store staff as well. And that is something that we'll continue to work on and it's still quite early in the process, but we'll continue with that. Thank you, Lillian.

Your next question comes from Lena Yan with HSBC. Please go ahead.

Hi, thanks for taking my question. So I want to compare the recovery pattern on same source out spaces, first quarter 2023 versus first quarter 2021. So as you mentioned in your presentation with offline traffic recovered, you still see positive growth in delivery. This was actually different from what happened in first quarter 2021. So my question is, Was this due to a structural shift in the spending pattern of consumers? Like die-in might never come like near to like 2019 level. Or it means with delivery still growing in the post-pandemic age, we actually have more room to grow our offline traffic and die-in service. Actually we have like bigger potential versus 2019 to grow our single store sales. So that's my question. Hope I explained it well. Thank you.

I'm just saying a question. Maybe Andy, you go ahead.

Yeah. So thanks, Angelia. So I think, you know, obviously the, you know, in 2021 and today is quite different, medical environment and also in terms of the overall COVID recovery. So, you know, different time, different place. I'm not quite sure it's comparable, you know, looking at 2023 versus 2021. What I can say is that, you know, if you look at delivery, delivery were, and all primers in general, have been growing before the pandemic and continue to grow throughout the pandemic. As we have mentioned in the last quarter, we do expect sign-in traffic to rebound indeed. But we also see that delivery remains very robust. I think we're looking at delivery sales overall. Last year, at the end of last year, because of the pandemic, it spiked to about 39% of all sales. Now it's roughly about 36% of our sales, I think. you know, within that, you know, 35% up and down, two couple minutes upon is within our expectation. Now, we also benefit, not just because the overall obvious consumer continued, you know, to get the favorite and the benefit from, you know, enjoying that benefit of off-premise dining, the convenience and whatnot. But also, you know, we also benefit from our strong network restructuring. You can think about that. We have mentioned, you know, over, you know, the past couple of years, we continue to build more densities within, you know, the city that we have already have installed. And, you know, and with, you know, install that format that are more catering to our delivery and take-away business. And so we are seeing some network effect there, right? So we're benefiting from that. And then also, you know, if you look at our delivery business model, is very unique in a way that we have dedicated Rider to deliver our food to consumers for the last mile. And that allows us to ensure good service quality, good food, timely manner, and then more importantly, when the labor shortage in Rider were particularly acute, like Chinese New Year or what we have in Christmas Day or Rainy Day or whatever, we do have, you know, ability to, you know, provide that delivery services when other perhaps, you know, may not. So overall, I know we also have continued to improve, you know, our trade zone. As we mentioned, we have investing technology to help us to more effectively manage our trade zone for delivery and also the efficiency, you know, in terms of our delivery services, both in terms of food production process queuing and also logistic size on the routing for our rider. So I think digital delivery will continue to be a very important drive for us going forward. Obviously, with the rebound in store traffic, we may see a percentage change and fluctuate, but I think in the long term, we're pretty confident in the off-premise planning.

Thanks. Joey, do you have anything to add? That's it.

Thank you, Andy.

Thank you. Your next question comes from Shen Liu with Bank of America. Please go ahead.

Hi, Joey and Andy. Congratulations again on the solid results. So my question is also related to same-store sales growth as I like to get more detailed color on the Q1 same-store sales. So first of all, our result announcement mentioned that of CMY, our same-store sales actually was below the 2019 level by 10th level. So it seems that there could be some sequential weakness. But on the other hand, is it fair to say that on the year-on-year basis, or if we compare it with 2022 level, actually in March we are seeing even better year-on-year same-stage growth as the Shanghai lockdown actually started from the middle of March in Pudong. And secondly, by city tier and regions, which parts have actually registered even better growth? Are we seeing better growth in Tier 1, Tier 2 cities or lower tier cities? Or in which regions, such as in eastern China or southern China, which part of the regions actually have seen even better growth? And also lastly, when it comes to dining, which was also the focus of the previous question by Lena, apart from the fact that we mentioned that our stores in transportation hubs and tourist locations still saw 20% to 30% same-store sales decline versus 2019, are there any other drags that we have observed in terms of the same-store sales? at the dining level? Is it because of too many new stores in our mature markets, which may cause cannibalization? Or are there any other drugs? And how are we going to do to address these issues so that we can see further improvement of the dining traffic? Thank you.

Thank you, Lawton. I'm going to address on the things ourselves, but let me also emphasize For our first quarter number, it's also equally to look at the system sales compared to 2019. Because there's a gap of things ourselves versus 2019. But the system sales growth, as I mentioned from my opening remark, is plus 20% versus 2019. And the OP is plus 37% versus 2019. We like to focus on single sales, but it's equally important to note the impact of better store portfolio and also the new store open in the last three years. I'm going to go through a bit more color of the single sales breakdown and then come back to the dining comment. We see strong rebound from quarter four 2022, and we grow year over year. First two months in Q1, we benefit from the pent-up demand for Chinese New Year's travel. But more than that, we have multiple scenario planning. And we invest heavily in both ingredients and staffing. Therefore, I believe we have better than industry average results. After the Chinese New Year, the things themselves continue to grow year over year. But yes, it remains below 2019, but the good momentum continues into quarter two. So I think you can see from all the picture of May 1st holiday, the trading was vibrant. It's still low single digit below 2019, but it's catching up quite nicely. The encouraging sign is that the sales growth year-on-year is led by transaction growth in both KFC and Pizza Hut. And you know in our business, this is absolutely important. As I mentioned already, system sales improved significantly with much larger store network. But also, despite the same-store sales gap, the older stores are much healthier because we have been pruning store portfolio. And the new stores are more resilient because by redesigning the store network, as Andy mentioned before, and adjusting the store format to capture off-premise demand with more convenience, less investment, flexible cost structure. So NetNet, you know, it's more resilient, the store portfolio. So let's move on to the more specific, by brand, by region, by city tier, et cetera. So by brand, KFC and Pizza Hut single cells is similar, but versus 2019 is interesting. The Pizza Hut single cells versus 2019 is slightly higher than KFC. Pizza Hut is minus 4 versus 2019 and KFC is minus 8. It's partly because KFC has a higher ratio of stores in transportation and tourist locations, but also it shows that Pizza Hut has good improvement since its revitalization program. KFC system sales grow higher than Pizza Hut because we open more new stores for KFC in the past few years. Therefore, it's plus 19% for KFC. By region, year over year, all markets grew for quarter one, except Beijing. Because remember, last year we had Winter Olympics. But by March, subsequently, the number improved and turned positive. Versus 2019, KFC, Eastern China outperformed other regions. because of its very vibrant economy. Pizza Hut, northern China outperforms because it has less competition. Our business of pizza in northern China actually is quite strong. By city tier, year over year, lower tier cities perform well as people return home for Chinese New Year. Tier two cities also perform well because last year the control, the strict control on COVID impact the tourism and this year we are getting the benefit out of it because domestic tourism in cities like Changsha, Xi'an, Hangzhou helps a lot. Transportation helped. Year over year we see substantial improvement with increased mobility you know, the momentum obviously further improved during the May holidays. So I think, I hope that gives you some color of the different angle of the things themselves. In terms of dining, it improved. It continued to improve. Because, you know, we have increased mobility after the COVID policy change. And it's important to see whether dying, delivery, or takeaway, all the things themselves improve. It's not only just focused on one. And of course, it improved more for Pizza Hut than for KFC because we rely more on buying business for Pizza Hut. But I would like to ask you to look at the other side of our business, which is the resiliency. KFC, it took us a lot of hard work and determination to get the off-premise sales to as high as 60, 70%. And that means it's a very resilient business model. because even with dying, we are able to still do the business and bring in sales. With Pizza Hut, also improved a lot because the percentage of all-premise business for Pizza Hut back to 2019 was only 30%. That's between takeaway and delivery. By 2022, that ratio is 50%. But back to 2023, now the ratio is down to 46%. But it would be very good for Pizza Hut if we continue to improve the ratio of takeaway and delivery, because that improves the resiliency of the business. It's a good thing. So I hope that gives you some color of our thinking of the dying business versus the others. Is there any other threats? Well, there are always market uncertainty, particularly the medical environment. We can't forecast. We can't predict too well. But what I would like to remind our analysts is we have always had multiple scenario planning. And in the last three years, I hope we have also demonstrated our ability to deliver and to have the resilience in our business during bad times. And during the past quarter, we also have demonstrated our ability to seize opportunities during good times. Are too many new stores a threat? Not really, from our point of view. Therefore, we are still sticking to our new store opening guidance. because as Andy mentioned again and again, we have very disciplined and systematic way of opening new stores. And one thing I would also like to mention is and to emphasize is the agility and the flexibility of the new store portfolio is very important going forward because instead of investing too much money on big store, we investing in smaller, lower investment stores, but with shorter distance between the stores and to make it a more convenient network for the customer, but also a lower cost of delivery network for the operation because it's more efficient and it's lower cost to deliver our product to a customer when the store distance is shorter. and closer to the customer. Thank you, Lorton.

Joey, I just want to add a couple, two quick points there. One is that, you know, when we look at, when we mentioned, you know, like we see low team level compared to 2019 post-CNY. But, you know, like if you look at CNY, we're also at the team level below 2019. And I think the main thing is that what we're trying to say is that we saw a very sharp recovery, you know, after the reopening and during the Chinese New Year period. Then we see more gradual, you know, so like recovery. It's not to say like a recovery stall. The other one is that what I will mention is, you know, an SSG comparison. So our SSG calculations exclude the temporary stall closure. And so, you know, but, you know, our system cells, you know, include, you know, same-cell cells growth, you know, temporary stall closure. and also net new stock growth. So when analysts and investors compare the SSG number, they need to factor in the impact of temporary stock closure. For example, this quarter we have about 8% SSG. There's a few point impact from temporary stock closure. So you add that back there, then you would see a probably double-digit SSG improvement. And so I just wanted to make sure that people don't forget there's a slightly different way of calculating SSG between us and some other peers. And so if you look at the overall industry growth, we're probably going faster than the overall China signing industry. Thanks.

Your next question comes from Anne Ling with Jefferies. Please go ahead.

Thank you. Thank you, management team. Excellent results. But I also have some question on the cost side. Regarding the VAT benefit, Maybe, like, you know, would you elaborate a little bit more the nature of this VAT benefit, which contributes $18 million for this quarter? And, like, you know, what is the nature, like, you know, and, like, you know, will the next few quarters, will we be seeing something similar? You know, what is it based on, based on cost of goods or particular, like, you know, commodity or packaging product? So, we would like to know a little bit more about that part. And also, going back to the same sales house number, So, if we are talking about, like, you know, same-cell cells, or sorry, is it fair to say that, you know, same-cell cells growth recovery might actually take a bit longer to recover back to year 2019, given the fact that especially in tier 1 cities, you are increasing your store growth. density. So meaning that we should be looking at your new store growth rather than fixate on the same store sales number. Yeah, so this is my second question. And my third one is, like, you know, I'm still a little bit confused. Like, you know, you just mentioned about the CapEx decline was about, on the per store basis, about 20%. But during this period, as Lina mentioned, you know, the depreciation expense actually down 41%. But of course, I do not know whether there's any difference, any mix in terms of the back end CapEx versus the storefront CapEx. So maybe you can help us understand a little bit more of this excellent cost savings on your side.

Hi.

I'll make a quick comment on the CapEx, Andy, and then you can come here. And the CapEx, The cap test for new stores is down 20%, but we also save a lot of money from pruning the original store portfolio. And that's very important. So both the old store and new store help. OK. Andy, back to you.

OK. So let me try to address the VAT deductions question. If you look at the Chinese government policy, the ratey deductions policy came out in 2019, and it cover some of the accelerated deductions for ratey inputs. However, because of the COVID-19, the policy has continued to be extended over the past couple years, and now the policy has continued to be extended this year, and depending on various situations in how the business operates it may be benefit they may be able to benefit you know from their additional VAT deductions and so this policy you know currently as it stand right now it's extended you know to the same half of the whole year but you know the level of benefit that we may be able to join may face out you know you have to do with how the input cost and output VAT value. So it's a little bit complicated to talk about it on the conference call, but you can study the VAT policy from the Chinese government website. The other one about the depreciation and amortization cost difference, I think The one thing that we want to emphasize is that there's two components to that. One is depreciation. The other one is amortization. The big job there is coming from amortization, as we have mentioned in the past years, that when we acquired the controlling stake in Hongzhou, we also acquired a franchise right. and each quarter is roughly about $15 million of sales. And so that's one of the big factors there. And that basically expired at the end of last year. So that's why we see that certainly improve depreciation and monetization. In terms of SSG recovery, I think, you know, it's, it's, it's, we only in the first quarter of recovery. So based on, you know, what our country experience, overall recovery to the pandemic level, we like to take time, and it's likely going to be uneven. And certainly, you know, as we mentioned, the pace and the trajectory of that would be gradual and uncertain. And so, so if you look at the Like, you know, I think it would be hard-pressed to see the industry itself and also, you know, a new large restaurant chain will rebound immediately to, you know, the pre-pandemic level in the first quarter after reopening. But we're confident, you know, as we have demonstrated in the first quarter, we're able to capture the opportunities when it presents itself. And Chinese New Year, you know, I think despite a lot of uncertainty at that time because our, you know, our planning you know planning our team's you know Julie's and opportunities and our digital investment infrastructure we're able to capture those opportunities as we have you know back then in 2021 when there's a market now obviously we cannot predict well as Joey mentioned you know what uncertainty in the market but we also confident that you know given our cost structure we basing more flexible and we saw in business model we can also deal with any potential downside during this recovery. But again, the recovery we should expect to fully recover to pre-credit level will take some time and will be some up and down, but I think we're confident that either way we can deal with it. Thanks, Anne.

Your next question comes from Christine Ping with UBS. Please go ahead.

Thank you, management, for taking my questions. I think most of the questions I have have already been addressed by Joey and Andy. But if I can just ask a follow-up question on the depreciation side. I think many analysts have already asked this question, but I just want to understand a bit more why there is such a big drop in terms of depreciation expenses. If you calculate, on a year-on-year basis, it dropped by around $50 million. U.S. dollar. Andy mentioned there was a $50 million impact from the Hangzhou franchise rights. So other than that, are there any factors that investors should be aware of? Should we consider this about $110 million U.S. dollar depreciation expenses as recurring while we calculate the full year depreciation expenses for the full year? Thank you.

Christine, yes, let me address that. I quote myself, we require franchise rights. It's actually $25 million per quarter, as we mentioned before, and the portfolio is almost $100 million. So the other one is, obviously, we've got to remember our access in China is based in China. And then so, you know, so you will be impacted like the value and the depreciation amount will be impacted by currency exchange. You know, in the quarter, you know, R&D depreciate against the U.S. dollar by almost 8%. And so that would have an impact on branches and also the depreciation because of currency translation as well. And then finally, as we mentioned before, you know, we have also done some, you know, optimizations, you know, during, you know, the pandemic. You know, we saw when we decided how our network, and obviously we closed down some of the more challenging stuff. And so that also has an impact on the depreciation and amortization as well. So all in all, so you can think about this, why $25 million from, you know, us to us, And then you have also almost like, you know, $15 million from, you know, fund exchange. And then, you know, the optimizations in, you know, our overall stock portfolio. And so all this impacts some $40 million reductions in depreciation amortization. We will have more details, obviously, in our 10-Q statement. So if you guys, you know, are interested in more, that's sort of the three key factors that will drive in depreciation amortization costs. I just want to remind analysts and investors that don't forget the impact of foreign exchange. Foreign exchange have been pretty volatile over the past year. And as I mentioned, foreign exchange have a negative impact of 8% because of their depreciation. So that's going to have an impact on P&L and also on the partnership.

Thanks.

Thank you. That is all the time we have for questions today. I'll now hand back to Ms. Michelle Shin for closing remarks.

Thank you for joining the call today. If you have further questions, please reach out through the contact information in our earnings release and on our website. Thank you.

That does conclude our conference for today. Thank you for participating. You may now disconnect.