Yum China (YUMC) Banks on Expansion Efforts, Hurt by Cost Woes
Yum China Holdings, Inc. YUMC will likely benefit from unit expansion, strategic investments and menu innovations. Also, focus on digital initiatives bodes well. However, higher expenses and coronavirus-induced soft traffic are a headwind.
Let us discuss the factors highlighting why investors should retain the stock for the time being.
Catalysts
Yum China is focused on relentless unit growth of restaurants to drive incremental sales. During fourth-quarter 2021, Yum China opened 563 gross new restaurants owing to the development of the KFC and Pizza Hut brands. As of Dec 31, the company’s total restaurant count stood at 11,788, up 1,282 stores year over year. In 2022, Yum China expects to open 1,000-1,200 new stores.
More than 80% of the company's current portfolio has been remodeled or built in the past five years. On Mar 16, 2021, the company acquired a 5% equity interest in Fujian Sunner Development Co., Ltd. This strategic investment is intended to enhance the company’s supply chain security. The collaboration with Sunner will help the company’s product development and menu innovation. On Mar 26, 2021, Yum China announced the beginning of the construction of its Southwest supply chain support center in Chengdu. This center is part of Yum China’s intelligent supply chain initiative that integrates the Internet of Things technology, big data platforms and high-quality cold chain logistics facilities, supporting its rapid developments. In third-quarter 2021, the company initiated logistics center construction in Huai'an (Jiangsu Province). YUMC stated that it has several other sites in the pipeline. The company intends to open 45-50 logistics centers and consolidation centers over the next several years to support expansion and increase efficiency.
Another riveting growth potential of Yum China resides in its continual menu innovation to boost the top line. In fourth-quarter 2021, KFC reported solid sales concerning menu offerings such as Juicy Whole Chicken and Angus Beef Burger. Also, solid customer acceptance was witnessed in Chicken and Duck Sandwich, spicy Crayfish Wrap, Beef and lamb kebab (from Northwestern China) and cold noodles with sesame sauce (from Wuhan). During the quarter, the company partnered with Chinese brands Zhou Hei Ya from Hubei and Wen He You to design and innovate new menu items. Pizza Hut initiated the rollout of special winter-themed pizzas, featuring grilled cheese, tiger prawns and filet mignon. The company stated to witness higher average tickets backed by the flexibility of option offerings for pizza toppings.
Yum China’s constant focus on digital initiatives bodes well. In 2021, the company emphasized in-store digitalization using AI, automation and IoT. To this end, the company unveiled a new system in KFC that tracks real-time store-level inventory and evaluates the quality of food products based on color and shape. Also, the system dispatches coupons to digital ordering users to reduce food waste. With a focus on improving customer experience and operating efficiency, the company stated continued investments in this direction. The company set aside $1 billion in IT and digital-related investments over the next few years.
Concerns
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Shares of Yum China have declined 18.6% so far this year compared with the Industry’s 15.5% fall. The dismal performance was primarily caused by the coronavirus crisis. In the fourth quarter of 2021, the company’s operations were affected by the resurgence of Covid-19 cases. As multiple outbreaks persisted throughout the quarter, stringent public health measures (mass testing and regional lockdowns) were implemented to counter the same. Reduced traveling, fewer social activities and softened consumption demand dented the company’s foot traffic in the quarter.
Yum China is facing the structural high cost of labor and rentals. Apart from wage inflation, the company is bearing additional costs stemming from promotion, packaging upgrades, menu innovation and technological novelty. To curb labor costs, YUMC is focusing on delivery channels, which is expected to curb margins in the near term. Costs related to transactions and franchises are expected to increase in the future.
In fourth-quarter 2021, the cost of sales came in at 32.5%, up 150 basis points year over year. The upside was primarily driven by increased value promotions to drive customer traffic and upgraded packaging. The cost of labor came in at 27.9%, up 370 basis points year over year. Restaurant margin came in at 7.5%, down 760 basis points from the year-ago quarter’s levels. The downside was primarily caused by sales deleveraging, stepped-up promotions, cost inflation and high delivery costs associated with a rise in delivery volume.
Zacks Rank & Key Picks
Yum China currently carries a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
Some better-ranked stocks in the same space include BBQ Holdings, Inc. BBQ, Arcos Dorados Holdings Inc. ARCO and Dave & Buster's Entertainment, Inc. PLAY.
BBQ Holdings sports a Zacks Rank #1. BBQ Holdings has a long-term earnings growth of 14%. Shares of the company have gained 29.3% in the past year.
The Zacks Consensus Estimate for BBQ Holdings’ 2022 sales and earnings per share (EPS) suggests growth of 40.9% and 66.2%, respectively, from the year-ago period’s levels.
Arcos Dorados sports a Zacks Rank #1. Arcos Dorados has a long-term earnings growth of 31.3%. Shares of the company have risen 55.6% in the past year.
The Zacks Consensus Estimate for Arcos Dorados’ 2022 sales and EPS suggests growth of 10.3% and 62.5%, respectively, from the year-ago period’s levels.
Dave & Buster's sports a Zacks Rank #1. The company has a trailing four-quarter earnings surprise of 212%, on average. Shares of the company have declined 1.8% in the past year.
The Zacks Consensus Estimate for Dave & Buster's current year sales and EPS suggests growth of 24.4% and 49.3%, respectively, from the year-ago period’s levels.
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