Looking at the Growth Prospects of This Quick Service Restaurant

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Yum! Brands (NYSE: YUM) released its results for the second quarter earlier this month and they were not overwhelming. The company witnessed a decline in revenue and also saw a fall in earnings. But, the good news was that the recovery of its business in China is progressing as expected and Yum! is targeting positive same-store sale growth in the region in the fourth quarter.

Earnings analysis

Yum! Brands, in its second quarter, reported a fall of 8.3% in its revenue, which was approximately $2.9 billion, and was below analysts’ estimates of $2.92 billion. Yum! Brands gets around 50% of its sales from China, which was still facing the residual effect of the poultry supply incident, and thereafter, was affected by Avian flu. Its operations in India and the U.S. advanced with increase in same-store sales of 1% and 2%, respectively. The company is expected to perform better in the coming quarters as it focuses on marketing and more product launches.

The earnings of the company fell 15% to $281 million from around $331 million last year. Its gross margin fell from 15.2% to 12.5% in China due to the effect of Avian flu. With EPS of $0.61, the decline was of around $0.08 per share from last year. According to analysts, the drop in profit for the month of June of around 10% was slower than the estimated 12%.

Business prospects

Even after the impact of Avian flu in China, same-store sales are gradually increasing with a drop in media coverage surrounding the incident. The company continues to deliver strong performance with its other brands like Pizza Hut, Taco Bell, and its U.S. restaurant casual dining business. The company is committed to long-term growth and is targeting around 700 new KFC units in China and 125 new Pizza Hut joints along with 80 new Taco Bell restaurants in the U.S. The expansion of its Indian business is in full swing with targeted 150 new units this year.

The company is taking up extensive advertisement featuring protein alternatives available at KFC stores like shrimp and mushroom rolls. The company is popularizing its new products like salads, flatbread sandwiches, and boneless chicken to attract younger and up market clientele. The company also expects solid growth from its business in Europe, which it believes has a lot of potential. The current economic situation in Europe is an issue at present, but Yum!'s restaurants in France have the highest average unit volumes in the world for the KFC franchise. But in the long run, Yum! is of the opinion that this business should get better as the economy picks up pace.

Yum! is also attracting customers in America from its competitors like McDonald’s (NYSE: MCD) and Burger King Worldwide (NYSE: BKW) stores.

Competition

However, its competitors like McDonald’s are in the battle by opening up restaurants in Vietnam and seeking to take advantage of the growing middle class there. McDonald’s plans to open 1,200 to 1,300 new branches, and it would be spending an enormous $3 billion on this exercise. From an investment point of view, McDonald's looks like a better buy as it is present in more than a hundred countries with close to 35,000 restaurants.

It is favorably valued when compared to Yum! as well with a P/E ratio of 18, which is easily cheaper than Yum!'s 23x. But, Yum! has greater growth potential due to its Chinese and European prospects and analysts expect earnings to grow 11% in the next five years. But, McDonald's is expected to grow at a slower rate with a growth rate of 8.45%.

At the same time, Burger King Worldwide continues to expand its franchisees and is focusing on its long-term strategic initiatives to drive growth. The company thinks that this business model will help it develop a strong brand image and save the energy spent in its day to day operations. The company is taking marketing initiatives to promote its menu nationally. It is taking up a re-imaging plan and focusing on a food-centric approach. This program is a sales growth driver and cost effective, and the company expects to earn a higher return on investment.

Conclusion

Even with such heavy competition, Yum! Brands is committed to its path of growth and is making substantial investments in its various strategies. Even after the setback in China and decline in its overall revenue, the company is still expanding the KFC, Pizza Hut, and Taco Bell branches across China, the U.S., and India. The company  considers 2014 to be its year of resurgence and is expected to perform well in the future with its affordable services and innovation and by upgrading its assets. Looking into the expansion plans of the company in the long-term, it is expected to perform well.

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Amal Singh has no position in any stocks mentioned. The Motley Fool recommends Burger King Worldwide and McDonald's. The Motley Fool owns shares of 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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