Pizza Hut Scales Down To Boost Delivery

Monday, October 01, 2012

Pizza Hut is ordering up smaller restaurants. As Anne Gasparro explains on Lunch Break, the iconic red-roofed chain says downsizing and remodeling will allow it to open more restaurants and turn a profit faster for franchisees. Pizza Hut began developing this new model, nicknamed "Delco Lite," about three years ago when it realized delivery - which is the way most Americans prefer to receive their pizza - wasn't representing as much of the business as it once did.

Delco Lite (company shorthand for Del-ivery and Carry Out) trades Pizza Hut's traditional red roofs and dining rooms for a more contemporary design that fits in to tighter places and focuses more on delivery and carry-out. Pizza Hut has opened more than 300, and is mostly building them, in favor of the larger, stand-alone ones. The small-format stores are still called Pizza Hut.

The new model is about half the size of Pizza Hut's traditional restaurants and costs about half as much for franchisees to build, opening up more potential sites in the U.S.

Pizza Hut, which is part of Yum Brands Inc., YUM -0.05% has 8,400 locations, most of which are the traditional, dine-in restaurants.

"A few years ago, I would have admitted that we were a mature business," said Pizza Hut U.S. Chief Executive Scott Bergren. But the new model opens up another 2,000 potential sites for Pizza Hut over the next five to 10 years, he said.

"Conventional wisdom was that as a mature chain, you could only grow through" sales at established locations, Mr. Bergren said. "But we came up with this new model that is half the size of our traditional restaurants, so we can go in to smaller towns that couldn't support a Pizza Hut in the past." Delco Lite also fits better in existing retail spaces, like in strip malls, that are vacant following the recession.

Before 2011, Pizza Hut hadn't added net new units in the U.S. in nearly a decade. The pizza had gotten too expensive, and the competition from frozen pies and other fast food more intense.

"In general, the pizza segment is really saturated. If you look at overall growth, it's pretty flat," said Wally Butkus, partner at Restaurant Research. "Another problem Pizza Hut has had over the past decade, or more, is that their restaurants are getting old; many of them were built in the '70s, and to remodel them would cost more than to relocate and open a Delco Lite." Pizza Hut's biggest rival, Domino's Pizza Inc. DPZ +0.13% faces a similar problem with its domestic growth, in that it has been stalled because its stores aren't profitable enough to entice franchisees to build more. Domino's debut of a new core pizza recipe and new menu items like parmesan bread bites have helped boost sales and franchisees' profit margins, but the stores aren't as profitable as Pizza Hut's, according to Mr. Butkus.

Domino's also is embarking on a remodeling program, though of much smaller scale than Pizza Hut's. Domino's is already known for its delivery and carry-out business, but it is upgrading with more visibility of the kitchen and cooking process, and more comfortable space for people to wait for their pizza.

The new Pizza Hut Delco Lites will look a lot more like the typical Domino's and Papa John's International Inc. PZZA -1.59% stores, Mr. Butkus said.

Pizza Hut says its new "asset lite" model generates one of the best returns on capital in Yum's entire operations - which include Taco Bell, KFC and significant international locations. That helps it to attract sophisticated franchisees, who can afford to expand. In the past three years, Pizza Hut has gone from a net attrition of 50 stores a year, to a net gain of 150 a year.

The largest Pizza Hut franchisee, NPC International, expects to develop 40 to 50 new Delco Lites this year. "We also remain very encouraged by the results of the 32 Delco Lites that we have opened over the last year," said Chief Executive Jim Schwartz on a recent conference call. NPC operates 1,213 Pizza Huts in 28 states.

Total costs for building a Delco Lite range from $295,000 to $422,000, compared with the upwards of $1 million for a traditional restaurant, Mr. Butkus said. Royalties and other fees are generally the same rate.

While Pizza Hut doesn't provide financing or lending to franchisees, it is offering incentives to qualified franchisees totaling $80,000 for every new store opened this year.

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