A food safety scare that began less than two weeks ago with a TV report of unsanitary conditions at a Shanghai poultry processing plant has snowballed into a headline-grabbing multinational incident. Now, both McDonald's and Yum Brands are reporting significant losses as food safety concerns have led many Chinese consumers to boycott the U.S.-owned restaurants. Both fast food chains, as well as Burger King, have dumped OSI Brands subsidiary Shanghai Husi Food Co. as a supplier and have scrambled to find new poultry and meat suppliers.

Today, ChinaDaily.com reported that Yum Brands Inc. "is offering rewards to Chinese whistleblowers who reveal food safety risks and help strengthen monitoring measures with suppliers." The article added: "Yum apologized in a public letter on Friday to Chinese consumers for concerns caused at its KFC and Pizza Hut restaurants following the improper handling of meat at its supplier Shanghai Husi Food Co. Ltd." Yum Brands has not only terminated its relationship with OSI Brands, but also announced that from now on its Chinese managers will require suppliers to set up monitors in production and manufacturing and its quality management staff will review suppliers regularly.

An article published yesterday by Reuters noted that analysts at brokerage RBC said Yum's China sales could be hurt 10-15% for 6-8 weeks, adding:

UBS analysts said the initial consumer response was worse than feared, and the company should reinstate reporting monthly figures to reduce uncertainty. Officials from McDonald's in China and Hong Kong have not responded to requests for information on the impact on sales from the scandal, but McDonald's Holdings Co (Japan) Ltd on Tuesday scrapped its full-year earnings guidance after the China scare forced it to switch to alternative chicken supplies.

A McDonald's Japan executive said sales had dropped 15-20% on a daily basis due to the scare. Both McDonald's and Yum are looking to China — where consumers see foreign brands as offering better food quality — for long-term growth given the size of its population, growing middle class and rapid economic growth. "Both of these stocks are banking heavily on China for their future growth," said Richard Brubaker, an adjunct professor at the China Europe International Business School and founder of the Collective Responsibility consultancy.

"For Yum, this is a problem because it has a history of problems in China. For McDonald's, it's the sheer size of the problem and the inability to get product."

Yum, which has nearly 6,400 restaurants in China, had just begun to see its restaurant sales there recovering from a slide last year due to an avian food outbreak and a previous food safety scare. Yum has cut its global ties with OSI Group LLC, the U.S. parent of Shanghai Husi Food. Yum said OSI was not a major supplier and the move had "minimal disruption" to the availability of menu offerings in China. McDonald's, which has more than 2,000 restaurants in China, has had a long relationship with OSI and was more dependent on the supplier than Yum. Many McDonald's China outlets have been hit by meat shortages since the company ended its relationship with OSI there.

Around two-thirds of the more than five dozen consumers Reuters reporters spoke to in Shanghai, Beijing and Hong Kong on Thursday said they would scale back their visits to McDonald's, at least for now. "For people like us, McDonald's and KFC are places to meet friends," said Yao Nanfang, a 16-year-old student in a shopping mall in central Shanghai. "We'll still go to McDonald's, but we'll order fewer meat products."

Diners in Hong Kong also said they were likely to eat less frequently at McDonald's, but noted that the chain's low prices made it hard to give up. "I come to McDonald's less often now, but I won't completely stop coming because it's so much cheaper than other restaurants," said Nan Tang, who says he eats at McDonald's twice a week. In Hong Kong, McDonald's has ended a promotion of its chicken McSpicy burger and shifted a membership program away from offering discounts on McNuggets, which it is not currently selling.

Following the TV report that alleged workers at Shanghai Husi Food used expired meat and doctored food production dates, regulators closed the plant on July 20. Police have detained five people including Shanghai Husi's head and quality manager.

For additional information, see our previous reports:

Yum Brands, McDonald's Drop Supplier after Food Safety Scare in China

China's Food Safety Scare Persists, Pulls in Starbucks and Burger King