YUM Is Not Tasty With China Slowdown

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

I have been looking at YUM! Brands (NYSE: YUM) to wait for the right time to jump in. Oh, of course, there is no “right time” but more correctly I am waiting for enough pullback to initiate a position in this stock. Recently, YUM had just experienced a nearly 10% plunge within a day, the worst drop in the last 10 years, because of the business slowdown in China.  Is it the time for investors to jump in YUM? Or should they wait before pulling a trigger? 

This year can be considered a winning year for YUM, as the stock price outperformed its other peers in the quick service restaurants including McDonald’s Corporation (NYSE: MCD) and Chipotle Mexican Grill (NYSE: CMG).

<img src="/media/images/user_14219/screen-shot-2012-12-01-at-113839-am_1_large.png" />

Indeed, even after the significant daily plunge, YUM still delivers 14.7% return for its shareholders year-to-date, whereas the giant McDonald's and Chipotle experienced decreases, by nearly 12% and 22.8% respectively.

Among the three, YUM is the biggest player in China. It currently has more than 5,400 restaurants in China, out of a total 36,087 restaurants in more than 120 countries and regions. In 2011, its China division generated around $5.57 billion in revenue, accounting for more than 44% of its total revenue. The profit that the Chinese market brought in 2011 was $908 million, accounting for half of the total operating profit of YUM.

The China division has posted great same-store sales growth for several years. However, this time, YUM’s CEO David Novak commented that the same-store sales in China would contract around 4% in the fourth quarter. It was a quite depressing number compared to a same store growth of 21% last year. The reason for the gloomy fourth quarter was the slowdown in sales in China. For the full year, YUM would expect the full year same-store sales growth to be around 6% in China. The CEO was still quite bullish about China division’s performance in the next year:

“Next year will be another strong year for our China division, given this year's record development of at least 800 new units and significant innovation in the pipeline, underpinned by world class operations." 

In the past, the owner of KFC, Pizza Hut and Taco Bell has delivered a spectacular annualized growth of 8.7% in revenue and nearly 14% in free cash flow over the last 10 years. McDonald’s, even with a lower 10-year revenue growth of 8.3%, has a slightly higher free cash flow growth of 14.9% in the last 10 years. McDonald’s majority of the revenue was from European region in 2011, of $10.89 billion out of $27 billion in total revenue. McDonald’s China’s sales were included in the APMEA reporting region, which totaled $6 billion in 2011. Chipotle doesn’t exist in China yet, its main operation is in the US, Toronto and London. 

After the plunge, YUM is trading at $67.08 per share, with the total market capitalization of $30.31 billion. The total company’s worth is around a third of McDonald’s, with $87.04 per share and $87.39 billion in market capitalization currently. Chipotle, the smallest player, is trading at $263.78 per share, with the total market capitalization of $8.31 billion. Among the three, Chipotle looks priciest with nearly 14.7x EV/EBITDA, whereas McDonald’s is the cheapest, with only 10x EV/EBITDA. YUM stands in the middle of 12.58x EV/EBITDA.

Interestingly, in November this year, Bergren Scott, CEO of Pizza Hut and Chief Innovation Officer, have had its option exercise at $22.53 - $24.47 per share, and disposed it at $73.07 - $74 per share, with the total value of around $8.38 million. 

Foolish Bottom Line

The high concentration of YUM on China boosts the risk for its operating business. YUM’s investors have enjoyed riding on the Chinese growth consumer economy over the years, reflecting the continuous advance in its share price. I have been waiting for the pull back in YUM’s share price. However, the picture of YUM in the short term doesn’t look so pretty with the slowdown in the Chinese segment. I would rather wait for more pullback in the near future. 

hoangquocanh has no positions in the stocks mentioned above. The Motley Fool owns shares of Chipotle Mexican Grill and McDonald's. Motley Fool newsletter services recommend Chipotle Mexican Grill 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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