We have engaged with the company’s management team and explored their plans to reduce greenhouse gases (GHG), water usage, and electricity usage within Yum China’s operations. Over the last three years, overall Scope 2 GHG emissions have been reduced by 15%, hitting the company’s 2025 GHG target five years early. This was done through various initiatives such as reducing plastic packaging, removing plastic straws, and moving to wooden cutlery versus plastic. The company has saved over 8,000 tonnes of paper and 1,200 tonnes of plastic annually over the last three years. Any plastic packaging that is used is 100% recyclable.

Yum China is also targeting reduction in water usage per restaurant and has seen 20% reductions over the last three years through initiatives such as new dishwashers that save 0.9 tonnes of water per day and using thawing cabinets that use air versus water.

The company has also reduced the average electricity consumption per restaurant by 15% with more energy-efficient equipment and lighting as well as intelligent stores that are using artificial intelligence to automatically switch off equipment and lighting. Within the supply chain, smarter route planning and more new energy vehicles will also help to reduce emissions and make the operations more sustainable.

One strength of Yum China has been its operating efficiency and ability to manage costs. Through the reduction of water usage, electricity usage, and GHG, Yum China is also able to save money and drive greater operating efficiency.

Finally, the company has set out an ambitious target to have zero value chain GHG emissions by 2050. The company has regular sustainability committee meetings to find new ways to reduce its environmental footprint. Yum China’s reduction in its environmental impact can result in substantial cost savings and help it to continue to deliver value to consumers.

For a long time, AST companies looked to be fantastic investments generating strong cash flows, high returns on capital, and a long runway for growth. However, upon closer examination and viewed through our ESG framework, we could not get comfortable with the social impact that these businesses had on Chinese society.

AST companies further fed the hyper-competitive environment in China and resulted in multiple negative social externalities. Parents felt squeezed from the increasing cost burden of their children’s education, students felt extreme time and psychological pressures, the government saw an exodus of high-quality teachers from the public school system to these private institutions, and teachers would see exhausted students fall asleep in class. To us, it seemed clear that the only beneficiaries of these businesses were the investors. The negative social impact of AST was probably best encapsulated by a predatory advertisement we saw on Chinese social media that translated to: “if we don’t train your kids, we will train your kids’ competitors.”

Eventually we saw new government regulation banning for-profit afterschool tutoring, which effectively erased these businesses from existence at substantial permanent loss of capital for investors. Our focus on the social risks within our potential investments allowed us to completely avoid investing in the sector. A key takeaway from this experience is that businesses should add value to all stakeholders over the long term and profitability should not come at the expense of one or more groups of stakeholders.

More recently, the company navigated through COVID-19 and inflationary pressures in 2020 to 2021, increased operational efficiency, and created and scaled new digital channels and a loyalty program with millions of users.

In July 2021, Burger King Brasil announced the acquisition of the Domino’s Pizza master franchisee in Brazil. Management planned to pay for the acquisition by issuing shares, assuming it was first approved by shareholders. After studying the target and the deal terms, we engaged with the CEO and CFO on multiple occasions and explained why we planned to vote against the deal. Our main concerns were (1) the disparity of the valuation implicit in Burger King Brasil’s shares versus the valuation they were paying for Domino’s, (2) the large dilution via share issuance at a time when we thought our stock price was severely undervalued, and (3) the deal would distract senior management from their main priorities, which we felt were increasing sales per store and improving delivery economics.

Thankfully, management decided to cancel the proposed deal even before publishing the shareholder meeting documents. This experience also brought us closer to management and we remain confident on management’s ability to create value over the long term.