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Here's Why Investors May Find Yum China (YUMC) Appetizing Now

Zacks Equity Research

Yum China Holdings, Inc. YUMC has been leveraging the power of its two most important brands — KFC and Pizza Hut — to drive long-term growth. KFC, which currently operates in more than 5,400 units in China, witnesses considerable average check growth due to its affordability. Meanwhile, Pizza Hut, which operates in excess of 2,100 units, is keeping pace with the rising consumer demand for casual dining and delivery services.

Yum China is also focused on menu innovation, digital enhancement and continual unit expansion. With a decent share price appreciation and a Zacks Rank #1 (Strong Buy), the company currently is a lucrative choice.

Shares of Yum China have gained 37.8% so far this year, outperforming the industry’s rally of 22.6%. Further, the company delivered positive earnings surprise in each of the trailing four quarters, the average beat being 26.9%.

 

Factors Driving Top Line

Yum China continues to innovate across menu offerings to encourage top-line growth. KFC’s extraordinary performance can be attributed to greater sales of menu offerings like crayfish burger, stuffed chicken wing and spicy chicken burger. Yum China is also serving coffee across restaurants and expanding the dessert category. In 2018, the company recorded double-digit growth, and sold over 90 million cups of coffee and became one of the largest coffee retailers in China. Its coffee sales exceeded CNY1 billion by the end of 2018.

The company holds a leadership position in the China restaurant space when it comes to delivery, mobile order and pay, and loyalty membership. It is increasingly shifting toward digital and content marketing to expand customer base. It has adopted a high-grade delivery strategy that covers collaborating with aggregators to source traffic and fulfills orders by KFC riders. This is expected to help the company simultaneously drive volume and leverage the extensive network to control quality.

In the first quarter of 2019, delivery represented 19% of sales, up 3% year over year. Delivery services were expanded to 1,160 cities, up from 972 cities in the prior-year period. Digital payments accounted for 87% of sales in the quarter under review, an increase of 13 percentage points year over year.

Driven by these initiatives, we expect Yum China’s top line to grow in 2019. Consequently, the Zacks Consensus Estimate for revenues in 2019 is pegged at $8.9 billion, suggesting growth of 6% from 2018.

Continual Unit Expansion: A Key Catalyst

Yum China is focused on persistent unit growth of restaurants to drive incremental sales. In 2018, it opened 819 restaurants and re-modeled 931 stores. This exceeds the company’s prior target of opening 600-650 stores in 2018. In the first quarter, Yum China opened 237 restaurants and remodeled 96 restaurants. Over 80% of Yum China's current portfolio has been remodeled or built over the past five years. For 2019, the company expects to continue driving unit growth. It roughly possesses five restaurants per one million people in China, which is expected to improve to 15 stores per million.

Moreover, there is ample potential to grow the restaurant base to triple its current size, given continued growth of the middle-class discretionary spending.

Earnings and Returns Look Promising

Arguably, earnings growth is of utmost importance for determining a stock’s potential as surging profit levels often indicate solid prospects (and stock price gains). The Zacks Consensus Estimate for the company’s earnings in 2019 is pegged at $1.67, indicating an improvement of 9.2% from the past year.

Further, Yum China’s Return on Equity (ROE) for the trailing 12 months is 20.4%, higher than the industry’s 6.1%. This suggests that the company reinvests more efficiently than peers.

Other Stocks to Consider

Some other top-ranked restaurant stocks are Chipotle CMG, Brinker EAT and Dunkin’ Brands DNKN. While Chipotle sports a Zacks Rank #1, Brinker and Dunkin’ Brands carry a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

Earnings for Chipotle, Brinker and Dunkin’ Brands in 2019 are projected to grow 43.6%, 12.3% and 3.5% respectively.

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