Is Now The Time To Buy Yum Brands?

By Jonathan Berr | October 11, 2013 AAA

Yum Brands’ (NYSE:YUM) efforts to turnaround its beleaguered China division, which has been hurt by concerns about the safety of its food and growing competition from local rivals, are continuing to move slower than the company and Wall Street would like.

The poor performance in China, where Yum has more than 6,000 stores, mostly KFC chicken restaurants, pushed down net income of the Louisville-based chain by 68% in the most recent quarter to $152 million, or 33 cents a share, from $471 million, or $1 per share, a year earlier. Excluding one-time items, profit was 85 cents, lagging the 92-cent average estimate of analysts compiled by Bloomberg. Revenue fell 4% to $3.47 billion.

Yum spokesman Jonathan Blum told Bloomberg that while Chinese consumers’ trust in the company while rebounding “it’s not exactly back to where it was.”

Considering that China same-store sales, a key metric of retail performance of stores opened at least a year, fell 11% in the quarter, Blum may have understated the problem, particularly since local chains appear to be gaining ground as well. Yum hasn’t thrown in the towel in China yet and opened 132 new locations in the third quarter. The company also expects its China operation to “bounce back” in 2014. Whether that forecast proves optimistic remains to be seen.

Emerging markets were a bright spot for Yum. Sales in Thailand, for instance, have gained 12% so far this year, while Russia saw a 49% gain. These markets, though, are dwarfed by the declines in bigger markets such as the U.S. where same-store sales were flat in the quarter. The strength in Taco Bell, which rose 2% wasn’t enough to overcome the 1% decline at Pizza Hut and the 4% drop-off at KFC. Increased promotional activities pushed own restaurant margins by 0.7 percentage point.

Yum’s problems in the U.S. aren’t unique. Rival McDonald’s (NYSE:MCD) has been struggling to attract both budget-conscious consumers who are attracted to its Dollar Menu and people with more cash to spend on premium priced products such as fancy coffee drinks. Other fast food chains including Burger King (NYSE:BKW) and Wendy’s are in a similar predicament.

Though CEO David Novak is asking investors to be patient, oftentimes those pleas don’t fly on Wall Street. Some may seek to break up Yum. This is an idea that is backed by Jim Cramer on CNBC and makes sense. The company’s international business is growing faster than its U.S. operation. It also has some precedent in the restaurant industry. Wendy’s (NYSE:WEN) unloaded its poorly performing Arby’s chain in 2011.

Taco Bell would attract interest from investors given the success it has achieved with Doritos Locos tacos. Taco Bell has sold more than 300 million of the menu item, making it one of the most successful new fast food product launches in a while. Some bloggers even noted that the taco has almost “single-handedly created 15,000 jobs.” Yum plans to add 2,000 new U.S. Taco Bells over the next 10 years.

Pizza Hut and KFC, though slower growers would attract interest from outside investors since they are among the most valuable brands in the world, according to Interbrand.

The Bottom Line

The uncertainty about Yum’s future makes this an ideal time to buy the stock. Shares of the restaurant company fell more than 6% Wednesday and have barely budged for the year. The stock trades at 17% discount to its average 52-week target of $77.86. Shares of Yum won’t stay this cheap for long.

Disclosure - At the time of writing, the author did not own shares of any company mentioned in this article. Follow him on Twitter@jdberr and at Berr’s World.

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