Yum! Brands (NYSE:YUM), owner of the KFC, Taco Bell and Pizza Hut dining concepts, reported second-quarter earnings on Wednesday above analyst projections. However, the company's forward guidance was less appetizing, as U.S. trends remained challenging and rapid growth in China is slowing. At a current forward P/E multiple of over 14, investors may want to carefully digest the quarterly results before sitting down to dine on the shares.
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Total company sales (company-owned store sales and franchise revenue) fell 7% to $2.5 billion as strong 13% reported growth in the China division proved insufficient to offset a 22% decline at the international division and 13% drop at the U.S. operations. The China division groups results from mainland China, Thailand and KFC Taiwan, with the international division accounting for the rest of non-U.S. sales. Yum also has a mix of company-owned and franchised restaurants throughout its international network of stores. As such, it also reports total system growth for all stores, and experienced 8% top line growth in China and a 12% decline at international, which was adversely affected by a strong U.S. dollar. Excluding currency fluctuations, international grew 6% for the quarter.
The U.S. division struggled for another quarter, with total same-store sales falling 1% as positive KFC and Taco Bell comps were more than offset by a 8% comparable decline at the Pizza Hut franchises. Yum is addressing its own top-line struggles by selling company-owned locations to franchisees (it sold 79 stores during the quarter and has full-year plans to sell 500 locations), but clearly has work to do in enhancing menu selections and finding other ways to bring a higher volume of customers through the doors.
Yum kept a tight lid on costs, with total quarterly expenses falling 11%. Lower commodity costs helped lower food and paper expenses 9%, as total restaurant expenses also fell 9% thanks to a double-digit decline in payroll and other employee benefit costs. A one-time gain stemming from the acquisition "of additional ownership in the operating entity that owns the KFC business in Shanghai" helped push reported diluted earnings up 40% per diluted share. Excluding this gain, earnings improved a more modest 10% to 50 cents per share.
Management is currently calling for 10% earnings growth for the full year, which it feels is quite respectable given that global economic growth trends are currently challenging. China has been the primary growth driver for Yum and is still witnessing strong sales and operating improvements, but trends are not as robust as they once were. This isn't overly surprising, especially considering that archrival McDonald's (NYSE:MCD) cut prices around 40% at its Chinese locations back in February. Clearly, Yum is also seeing similar struggles as its meals are still considered a luxury for many individuals in China and other overseas locations.
U.S. challenges also continue to hamper Yum and accounted for 43% of total quarterly sales. The U.S. fast food market is even more competitive, with rivals such as Wendy's/Arby's (NYSE:WEN), Burger King (NYSE:BKC) and Chipotle (NYSE:CMG) all competing for a share of the embattled consumer's pocketbook. Chipotle and McDonald's have managed to keep comps in positive territory, but Yum! and other rivals are seeing tougher trends and having to focus on low-price menu offerings to drive store traffic. Couple this with the lower visibility in China, which Yum is relying too heavily on for growth, and it may be best for investors to keep the stock out of their diet for the time being. (For more, read Sinking Your Teeth Into Restaurant Stocks.)
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