These Fast-Food Companies Have Lots of Potential Overseas

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

Yum! Brands (NYSE: YUM) is the largest system of fast food restaurants in the world by number of locations, with over 39,000 stores either operated or franchised. Despite concerns about the company’s ability to grow in China, a big part of Yum’s growth strategy, shares are still hovering around their 52-week (and all-time) highs. Is this company headed for a pullback, or is all of the negative China news already priced in?

About Yum! Brands                      

Yum Brands operates restaurants in more than 125 countries under the KFC, Pizza Hut, and Taco Bell brand names. Of the company’s $13.6 billion in sales last year, only about $3.4 billion came from the U.S. The rest came from China, which contributed $6.9 billion in sales, and other international markets, which accounted for the other $3.3 billion.

Growth plans and expectations

Yum considers its U.S. business to be fairly mature, and plans to grow domestic sales by approximately 5% annually, primarily through same-store sales increases and new, differentiated product offerings. The company views its primary driver of future growth to be its international business, especially in China. The company has expressed its intentions to grow its number of stores in China at double-digit rates, as well as to increase same-store sales by around 5% per year.

Yum currently has about 5,500 restaurants in China, most of which are KFC’s. However, slower-than-expected growth in China has produced disappointing results. The company’s Chinese sales dropped 19% year-over-year in May, due to a bad combination of slowing economic growth and a recent bird flu scare in China. Despite these disappointing results, the company says it is moving forward with its expansion plans in China, which currently call for about 700 new stores this year.

The numbers

Yum is projected to earn $3.06 per share this year, meaning that shares currently trade for a relatively high 23.4 times current fiscal year earnings. Analysts generally believe that the negativity in China is temporary, and that the rise of the Chinese middle class and the sheer number of people in the country create an excellent opportunity for long-term growth. As a result, the consensus calls for earnings to grow to $3.75 and $4.35 in 2014 and 2015, respectively. 

McDonald’s: Similar but different

McDonald’s (NYSE: MCD) is the largest fast food company in the world by revenues, which are about twice as much as Yum’s although McDonalds operates about 4,500 less restaurants. McDonald’s also has less dependence on China (only about 3% of their operating income), which should make for less volatility over the next couple of years and also means that McDonald’s has more room to grow in the Chinese market. 

McDonald’s trades at a much more attractive 17.4 times this year’s earnings, with only slightly lower growth projections going forward. The company is projected to grow their earnings at 9.5% next year and 9.9% the following year, which makes the valuation look quite reasonable. Additionally, McDonald’s is a much better income stock, with a 3.11% dividend yield as opposed to 1.82% from Yum.

Starbucks: A different kind of “fast food”

Another way to go would be with a company like Starbucks (NASDAQ: SBUX), the world’s leading coffee retailer, which operates about 18,000 stores all over the world. In addition to same store sales growth of around 6% annually, Starbucks is expecting wider operating margins over the next few years due to the combination of lower coffee prices and recent cost-cutting measures by the company.

As a result, although Starbucks is the most “expensive” of these three companies in terms of its valuation at over 30 times earnings, it is also projected to grow those earnings more rapidly than the others. Starbucks is projected to earn $2.18 per share this year, growing to $2.62 and $3.20 in 2014 and 2015, respectively, for annual growth of 20.2% and 22.1%. Additionally, Starbucks is a cash-rich company with about $1.5 billion more cash on its balance sheet than debt, which is a claim that neither of the other two companies can make.

Conclusions

The quick-service food industry is just beginning to fully realize its potential, particularly in international markets. These three companies have very different levels of stability and risk, with Yum possibly being the best combination of both. When the company issues its next quarterly report on July 10, pay particular attention to both the sales numbers in China and their effect (if any) on the company’s ambitious growth plans.

Profiting from our increasingly global economy can be as easy as investing in your own backyard. The Motley Fool's free report "3 American Companies Set to Dominate the World" shows you how. Click here to get your free copy before it’s gone.


Matthew Frankel has no position in any stocks mentioned. The Motley Fool recommends McDonald's and Starbucks. The Motley Fool owns shares of McDonald's and Starbucks. 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!

blog comments powered by Disqus

Compare Brokers

Fool Disclosure