YUM! BRANDS INC. $28 (New York symbol YUM; Aggressive Growth Portfolio, Consumer sector; Shares outstanding: 459.9 million; Market cap: $12.9 billion; Price-to-sales ratio: 1.2; WSSF Rating: Above Average) is the world’s largest fast-food operator, with over 36,000 outlets in more than 110 countries. (McDonald’s Corp. has fewer restaurants than Yum, but higher annual sales.) Its major chains include KFC (fried chicken), Pizza Hut, Taco Bell (Mexican food), Long John Silver’s (seafood) and A&W (root beer and hamburgers). Yum continues to aggressively expand in China, particularly its KFC fried-chicken restaurants. Yum’s China division, which includes Taiwan and Thailand, accounts for 30% of its sales and earnings. Yum’s U.S. operations provide 45% of its sales and 40% of its profit. Its international division (excluding China) supplies 25% of its revenue, and 30% of earnings. Thanks mainly to strong growth at the China division, Yum’s revenue rose 25.2%, from $9 billion in 2004 to $11.3 billion in 2008. Earnings rose 30.2%, from $721 million in 2004 to $939 million in 2008. Yum has bought back over $5.6 billion worth of its shares since 2004. As a result, per-share earnings rose 61.9%, from $1.18 in 2004 to $1.91 in 2008. Cash flow per share rose 61.4%, from $2.02 in 2004 to $3.26 in 2008. The slowdown in the Chinese economy could hurt Yum’s 2009 earnings. But the popularity of Yum’s brands gives it a competitive advantage over competitors like McDonlad’s. Falling food and fuel costs should also help Yum meet its goal of increasing its Chinese division’s profits by 20% this year. Yum is looking at other ways to spur its growth over the long-term in China. For example, it plans to use the KFC model to launch a new chain of restaurants that will serve traditional Chinese food. Called “East Dawning,” these restaurants will look like Chinese homes instead of fast-food style cafeterias. As well, Yum has agreed to pay $63 million for 20% of Little Sheep Group Ltd., which owns 375 “Hot Pot” restaurants, mainly in China. Hot Pot restaurants have special cooking pots at the centre of each dining table.
Yum looks beyond China for growth
The company is also aggressively expanding in other countries, particularly France, India and Russia. Through new restaurants, Yum feels it can increase profits at its international division by 10% this year. In addition, Yum aims to take Taco Bell beyond its traditional North American markets. It recently opened an outlet in Dubai, and plans to expand to India and Spain later this year. It’s unclear if consumers in these countries will be interested in Mexican food, but Taco Bell’s dishes generally cost less than fast food from McDonald’s and other competitors. Yum will also adjust Taco Bell’s menu to reflect these countries’ local tastes. Weaker results at Yum’s U.S. operations in the past few years have offset the strong overseas gains. The company plans to introduce new products in a bid to increase the U.S. division’s 2009 profits by 5%. For example, Yum has added more pasta dishes to Pizza Hut’s menu. This should help the chain compete with restaurants that serve a wider variety of foods. As well, to take advantage of rising interest in healthier foods, Yum plans to use fresh, organic ingredients at Pizza Hut.
Re-franchising plan frees up cash
Yum plans to increase the profitability of its U.S. division by selling more of its company-owned outlets to franchisees. Yum currently owns 19% of its U.S. outlets, and aims to reduce this to 10%. This would generate over $1 billion. Yum plans to hang on to restaurants in key markets. As well, Yum continues to benefit by bundling two or more of its fast-food outlets into a single location. These “multibrand” outlets generally generate higher sales per square foot than single-brand outlets, since they provide customers with more food choices. They also give Yum a less-expensive way to promote new brands. For example, the company often combines its smaller “WingStreet” outlets, which sell flavoured chicken wings, with Pizza Hut. Yum’s strong balance sheet and cash flow (over $1.4 billion in 2008) will continue to let it keep investing in new growth projects. Its $3.6-billion long-term debt is just 28% of its market cap. The company also has $1 billion in untapped credit lines, and holds cash of $216 million, or $0.47 a share.
Strong dollar a drag on 2009 earnings
The company’s growing international operations increase its vulnerability to foreign exchange rates. That’s because the high U.S. dollar hurts the contribution of Yum’s non-U.S. businesses. Still, Yum’s 2009 earnings should improve by 9%, to $2.08 a share from $1.91 in 2008, and the stock trades at just 13.5 times that estimate. The company has increased its dividend each year since it started paying them in 2004. The current annual rate of $0.76 yields 2.7%. Yum Brands is a buy.
