Despite Hailing From an “Unhealthy Industry”, These Three Giants are Playing Well

Abir is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Food is one of humanity's basic needs. The food industry contributed a lot by inventing more and more mouth-watering dishes to rejuvenate the taste buds of the people. But, these inventions have forgotten about human health. These mouth-watering dishes are good for one’s taste buds but not for one’s health. People are now very conscious about their health, and for this reason the industry has an unhealthy reputation.

This does not necessarily mean that unhealthy reputation will disappoint investors. If investors can find the right company, a fast food stock can be good for one’s portfolio. The U.S. fast food industry is valued in the billions of dollars, with annual sales grossing over $160 billion. There are about 300,000 fast food units in the United States alone. Major players are being encouraged by the industry’s super-normal growth, and they are on a mission to expand their reach across the globe.

Along with promising growth, the fast food industry faces challenges in the form of rising food costs, worldwide economic recessions, and changing perceptions about health. Market saturation in the U.S. is a relevant issue that forces companies to shift their focus to the other parts of the globe, such as Asia, South America, and the Middle East. Many companies in the fast food industry remain attractive, largely because of their high growth outlooks and large international expansion efforts despite of these issues. Let's take a look at three of the giants in the industry that are playing well.

Burger King Worldwide (NYSE: BKW)

Burger King is the second-largest hamburger chain in the world, with more than 12,000 locations worldwide, and serves an estimated 11 million customers daily in 83 countries. BKW is expanding in a variety of international markets, which includes a planned joint venture with South African gaming and leisure group Grand Parade Investments. Earlier this year, the company revealed plans to open 1,000 new restaurants in China over the next five to seven years. This will provide a big boost in growth, and will help to keep up with rivals McDonald’s, which currently has more than 1,400 restaurants in the country, and Yum! Brands, which opened 168 new restaurants in China in its first quarter; currently Burger King has only 63. During the past year, 80% of Burger King's new stores have been in Europe, the Middle East, and Africa.

As international growth efforts expand and BKW looks for more advantages domestically, the future is looking brighter for the company overall. After being taken private two years ago, and only returning to public trading in June, these results are much welcomed, and have come on the heels of major changes, including menu updates, such as adding wraps, smoothies, and other items that appeal to a wider demographic. Last quarter profits exceeded expectations and same-restaurant sales rose.

<img src="/media/images/user_13778/bkw_large.JPG" />

Graph from bk.com

McDonald's (NYSE: MCD)

Founded in 1940, McDonald's franchises and operates restaurants in the global restaurant industry. The company operates approximately 34,000 restaurants in 120 countries around the world. Recently, most of the company's growth efforts has been concentrated abroad, and international growth has been booming. The Oak Brook, Illinois based company highlights the power of a brand that customizes its offering to local tastes in individual countries. This is its key success for increasing income and sales in Europe, despite the Euro crisis and a troubled economy. 40% of total sales are from Europe.

MCD has a relatively small market in India, so the beef-centric fast-food chain plans to open vegetarian-only restaurants next year. This is a totally new strategy for the company, signaling a growing effort for expansion in India (where the majority of people don't eat beef). Moreover, McDonald's plans to invest $2.9 billion in capital expenditures in 2012, half of which will be used to open another 1,300 restaurants that will be concentrated in smaller and emerging markets.

Recently, McDonald’s faced a lot of turmoil, despite its strong business model and past success. Since January, MCD is down about 15%, with 8% of the loss coming since September. And just a few weeks ago, the company posted its first monthly sales decline in nine years. The reason behind its turmoil, including the sales decline, are its major competitors such as BKW and YUM!, as well as smaller and different competitors such as Wendy's and Domino's. MCD is losing customers to its competitors because they are changing menus, expanding rapidly, and marketing widely to a more diverse demographic. The company is also losing its valued investors, who are now preferring its competitors for better return.

<img src="/media/images/user_13778/mcd_large.JPG" />

Graph from Finviz.com

Yum! Brands (NYSE: YUM)

YUM! Brands, together with its subsidiaries, operates quick service restaurants in the United States and internationally. As of Oct. 9, 2012, the company operated 38,000 restaurants in 120 countries and territories under the KFC, Pizza Hut, and Taco Bell brands. The Louisville, Kentucky based company has a market cap of $33.22 billion, and is part of the services sector and leisure industry. YUM! is ranked 213 on the Fortune 500 List, with revenues of more than $12 billion in 2011.

YUM! is unlike the other two companies that are discussed over here. BKW and MCD are expanding throughout the globe, but much of YUM!'s recent focus has been in China. In 2011, the company sold its Long John Silvers and A&W Restaurants to franchises, while in early 2012 it acquired Little Sheep, a restaurant chain in China with around 450 locations. YUM! has become the largest and fastest growing restaurant company in China by pursuing a broad-based development program supported by a sophisticated supply chain infrastructure. KFC's brand-building strategy has been successful due to a strong local management team, a highly-skilled workforce focused on providing outstanding customer service, plus innovative, localized menus offering value and variety to Chinese consumers.

As another sign of positive expectations, the company has spent $1.1 billion on share repurchases in the last few years, perhaps showing that the company believes its shares are undervalued. In addition to this, third-quarter profits soared, boosted by strong sales in China, which contributed more than half of YUM!'s revenue during the period. Also in its third-quarter earnings, YUM! announced an increase in same-store sales, along with the 18% increase in worldwide profit and increased margin. On top of this, in September, the company announced an 18% increase in its dividend, which marked the eighth year in a row with a double-digit percentage increase in the dividend.

<img src="/media/images/user_13778/yum_large.JPG" />

Graph from DividendMonk.com

Total Overview

<img src="/media/images/user_13778/total-overview_large.JPG" />

From the above table, it can be seen that BKW has the highest P/E of all the three companies, a good sign for value investors. Also, with little to no dividend, it trails MCD and YUM!. Another glance over these numbers may seem to show that BKW is overpriced, yet it is very possible that these high values simply show a premium that investors are willing to pay for future growth.

Despite the issues mentioned about MCD, the financial position of the company does not look quite so grim, but is far from perfect. The big thing that pops out right away is the large dividend MCD pays. For years MCD has been known as a great dividend stock, and it is currently paying a dividend of about 3.5%. Additionally, with a PE of around 15, it is not as expensive as BKW, but is still above its peers; pair this with its higher P/B and P/CF values. So, it can be easily argued that the company is overvalued. Similar to BKW, these high ratios can be partially justified because of the ongoing growth and future prospects, as people will be willing to pay more for this future growth. However, overall it appears that BKW may be better poised for future growth, especially given recent earnings and performance.

The financial position of YUM! states that the stock is being overvalued, and like the other two companies, YUM! seems be overvalued across the board; at this point it may be best to wait for a drop in price. However, on a lighter note, YUM! rewards its investors with a 1.7% dividend. Apart from the high values and ratios, the company appears to be the best in the bunch; however, these numbers are important to consider, and may likely cause people to skip out on a potential investment for the time being.

To end up with

All three companies have solid future growth prospects, with increased focus on emerging markets. As people continue to move toward a healthier lifestyle, fast food companies continue to face a variety of criticism, and have been forced to rethink their business models. Recently, each of these companies has begun offering healthier options. YUM!'s operating profits in China are growing at such a rate that they are doubling every 4-5 years. YUM! has ample opportunity to expand into India, Europe, and Africa. However, at current prices, YUM! may be overvalued. Despite the financial crisis, McDonald’s has managed its European operations well. McDonald’s is a solid company overall. The global slowdown is certainly making its effects known, but the fast-food giant has solid fundamentals and improving technicals. MCD is one of the most respected global brands, even despite its current problems.

With strong profits and healthy finances, Burger King seems to be finally turning the corner. The company’s international expansion efforts are not quite as robust as those of McDonald's and YUM!'s, but its domestic efforts may give it a boost at home. Overall, each of the three companies has pros and cons. MCD may be a good bargain moving forward, and with its worldwide brand recognition and presence, it is bound to be around well into the future. BKW seems to be the best option at the moment given current conditions, and YUM! is a strong company with good fundamentals and a great outlook, but at current levels it is the most overvalued of the three. I am pretty bullish that this trio will give mouth-watering dividends to their shareholders.


abirk has no positions in the stocks mentioned above. The Motley Fool owns shares of McDonald's. Motley Fool newsletter services recommend Burger King Worldwide and McDonald's. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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