Delicious Dividend Growth

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

Anytime I hear about a company raising its dividend, I immediately wonder if the company has a good history of dividend increases. YUM Brands (NYSE: YUM) recently increased its current payout by 18%, and I want to see if its dividend growth was speeding up or slowing down. But before doing that, we first need to figure out if YUM Brands is a good investment.

YUM Brands operates in a highly competitive restaurant industry. Though the company faces major competition with each of its three restaurant concepts, its two largest competitors are McDonald's (NYSE: MCD) and Starbucks (NASDAQ: SBUX). These two companies are the only ones that can match YUM in size and capabilities. What makes YUM different is the company's focus on growing its market share internationally in areas such as China and India. For example, the company grew revenue by 12% in the last quarter, and while EPS only increased 6.15%, cash flow increased by 25%.

Both McDonald's and Starbucks are expected to see decent earnings growth over the next few years. Analysts are calling for about 10% increase at McDonald's, and nearly 19% growth at Starbucks. YUM Brands is expected to see earnings growth of nearly 14% during the same timeframe.

The primary difference between Starbucks and its competitors is that Starbucks offers a much broader drink menu and focuses on the beverage market. With the recent introduction of its Verismo brewer, and its partnership with Green Mountain Coffee Roasters, the company is also focusing on the home beverage market as well. Meanwhile, where McDonald's really shines is the company's ability to consistently revamp its menu. They are also testing out international concepts like delivery, and McCafé-only locations that could be brought to the domestic market to enhance growth. 

YUM Brands has the advantage of operating essentially three large food chains, each of which appeals to different tastes. Through its Pizza Hut, Taco Bell, and KFC concepts, the company offers different food choices at reasonable prices. The company's diversity of selection is something that translates worldwide, which partially explains the success YUM Brands has seen overseas. Now that we know the company's position versus some of its competition, let's take a look at the sustainability of its existing dividend payment.

Over the last few years, YUM Brands has seen its free cash flow more than double from $607 million in 2009 to $1.23 billion in 2011. During the same timeframe, the company has increased its dividend expenditure by a total of almost 33%. This means that in 2009 the company paid out 59.64% of its free cash flow in dividends, and by 2011 the payout ratio was just 39.11%. This decrease in the company's payout ratio not only means the dividend is safe, but also is a good sign for future dividend growth.

To say that YUM Brands has shown impressive dividend growth would be an understatement, just take a look at the company's increases over the last five years.

During the last few years, it's not surprising that YUM Brands has been able to increase its dividend by such a large amount. The decrease in the company's free cash flow payout ratio explains why the dividend could be increased by at least 14% in the last three years. While past dividend growth has been impressive, what should investors expect in the future?

Analysts are expecting YUM Brands' earnings to grow about 13.7%. If the company meets this goal, it should be very good news for dividend investors. YUM Brands has shown that its cash flow rises at a faster rate than its earnings. If this trend continues, I would expect the company's free cash flow to grow at least 15% per year. Considering the current payout ratio is just 39%, investors should be comfortable expecting 15% to 18% dividend increases over the next several years. While a current yield of about 1.7% doesn't look that impressive, this dividend growth will change the yield over time.

It's not every day investors can find a large, well-established company growing earnings by over 13%, as well as increasing its dividend in the mid to high teens. That’s why investors looking for both growth and income should definitely add YUM Brands to their Watchlist today.


MHenage owns shares of McDonald's. The Motley Fool owns shares of McDonald's and Starbucks and has the following options: short JAN 2013 $47.00 puts on Starbucks. Motley Fool newsletter services recommend 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.If you have questions about this post or the Fool’s blog network, click here for information.

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