By Wayne Ma in Beijing, Kane Wu in Hong Kong and Julie Jargon in Los Angeles
McDonald's Corp. was one of the first American brands to strike gold in China, becoming a symbol of the Asian giant's opening to the West. Now as competition grows in China, the restaurant chain is handing over the reins to a Chinese state-owned enterprise, in a deal that would value the business at up to $2.08 billion.
The Oak Brook, Ill., company said Monday it is selling an 80% stake in its China operations to a group that includes Citic Ltd., its investment-management arm Citic Capital Holdings and U.S. private-equity firm Carlyle Group LP. The Citic companies will own a combined 52% stake, while Carlyle will own 28%.
The agreement is for 20 years and is expected to close this summer. The sale price will be up to $1.66 billion for the majority stake, to be held by Citic and Carlyle, depending on a final valuation of the China assets.
The China business has become much more competitive and complex since McDonald's entered the country in the early 1990s, McDonald's Chief Executive Steve Easterbrook said in an interview. Chinese consumers have become more concerned about their health and more skeptical of fast food after a number of food-safety scares. A supplier to both McDonald's and competitorYum Brands Inc. in 2014 was accused of selling them expired chicken and beef.
And McDonald's and other Western brands have been slow to adapt menu offerings to local tastes at a time of increasing competition from Chinese rivals. Many people have turned to cheaper local restaurants like noodle joints as China's economy has slowed. McKinsey & Co. found in a recent survey of 10,000 Chinese consumers that 51% had eaten Western fast food in 2015, down from 67% in 2012.
Selling its China operations will free McDonald's from having to foot the bill for opening more stores in the world's second-biggest economy, Mr. Easterbrook said. Mr. Easterbrook previously said he wants to make China the burger giant's No. 2 market, up from third now behind the U.S. and Japan.
"It's going to be a commercially successful outcome for us," Mr. Easterbrook said. "We won't be putting capital into the market, but we will be part of the decision-making process."
The Golden Arches have struggled in recent years to lift sales in China, most recently because of consumer protests related to U.S. opposition to China's territorial claims in the South China Sea, Mr. Easterbrook told analysts on a recent earnings call.
McDonald's had more than 2,400 stores in mainland China and more than 240 in Hong Kong at the end of 2016. About a third of the stores in China are already franchised. All of the company's remaining stores would be franchised under the deal, with McDonald's retaining a 20% stake in them.
People familiar with the matter said McDonald's cut will be about 6% of sales, or double the 3% take that Louisville, Ky.-based Yum garners from its KFC and Pizza Hut brands in China. The royalty fees increase over time during the 20-year length of the agreement, the people said. A McDonald's spokeswoman declined to comment on those terms.
The parties were in deal talks for aboutseven months, and one recent issue that arose was how McDonald's would be able to collect its revenue in light of the Chinese government's moves to limit capital outflows, people familiar with the matter said. Capital outflows exceeding $5 million are now coming under government scrutiny.
Mr. Easterbrook acknowledged that, going forward, getting cash out of China will be a "top-quality problem" but declined to go into more detail. Previously, McDonald's reinvested most of its profit from China back into the country.
The deal comes as McDonald's, like other big restaurant chains, moves to a so-called asset-light structure -- essentially keeping the brands but selling off the stores. The model allows companies to collect a portion of sales without the costs and liabilities that come with large workforces and extensive real-estate holdings.
McDonald's has long-term plans to franchise 95% of its stores and is looking to do a similar sale in South Korea, Mr. Easterbrook said. He said McDonald's has no plans for a spin off in Russia, where it owns and operates about 600 stores.
Restaurant Brands International Inc. led the asset-light trend, with nearly all its Burger King restaurants owned by franchisees. The company in 2014 bought Canadian doughnut chain Tim Hortons, also a franchise model, partly for that reason. The company has expanded the Burger King brand globally and opened more Tim Hortons franchises in the U.S.
Yum Brands also moved recently to lighten up its assets, spinning off its more than 5,000 KFCs and about 2,000 Pizza Huts to form a new company, Yum China Holdings Inc. Although McDonald's is the world's largest fast-food company by revenue and the No. 1 brand in most major markets, Yum has more stores in China -- a situation Citic Capital chairman and chief executive Yicheng Zhang wants to change.
"That isn't McDonald's rightful place," Mr. Zhang said.
McDonald's said the new owners are committed to building 1,500 new restaurants in China and Hong Kong over the next five years. They plan to focus on China's so-called third and fourth-tier cities beyond metropolises such as Shanghai, Beijing and Shenzhen.
The sale puts McDonald's China business in the hands of a sprawling state-owned conglomerate that boasts a suite of financial services from banking to insurance, iron-ore mines in Australia, one of China's richest but most underachieving soccer clubs and the country's top offshore-oil helicopter-service operator. Citic Ltd. owns China's seventh-largest lender by assets, China Citic Bank, a leading investment bank Citic Securities Co., energy giant Citic Resources Holdings Ltd., and metals maker Citic Pacific Ltd.
The company doesn't have experience running fast-food chains, Mr. Zhang acknowledged, but he said its strengths in retail banking and its partnershipswith real-estate and Internet companies will bring valuable expertise to the operation. He added that the consortium would retain McDonald's current management team in China.
Morgan Stanley advised McDonald's on the sale. J.P. Morgan Chase & Co. advised the Citic-Carlyle consortium.
Write to Wayne Ma at email@example.com, Kane Wu at Kane.Wu@wsj.com and Julie Jargon at firstname.lastname@example.org
(END) Dow Jones Newswires
January 09, 2017 15:59 ET (20:59 GMT)
Copyright (c) 2017 Dow Jones & Company, Inc.