Yum Brands Inc. (YUM, Financial) is one of the best restaurant stocks in 2022, in my opinion. It's got everything from strong and growing brands to global appeal and now a lower share price thanks to an earnings miss and the broader stock market tumble. Here's why I think now could be the ideal time for those interested in Yum Brands to take a bite of this restaurant stock.
Economic advantages
In my opinion, the economic and strategic headwinds facing the restaurant industry will not substantially crumble Yum's market position. The mission, management and brands are among the best in the quick-service food industry.
As of this writing, the stock is down 6.3% over the past year, but the industry as a whole is on the downside and restaurant stocks are weak, so I don't think this reflects negatively on Yum in particular.
There are two main measurements for gauging restaurants’ performance. One is the National Restaurant Association's Performance Index. Values greater than 100 denote expansion in the industry and values less than 100 means the industry is contracting. After tumbling in 2020 and 2021, the index popped to 106 in mid-2021, but it has de-escalated over the past year; it now measures 102 with a strong downward trend.
The next main measurement for gauging the health of the restaurant industry is the Invesco Dynamic Leisure and Entertainment ETF (PEJ, Financial). It is not a match for a pure index, but it is close. As of June 17, the ETF has investments in consumer staples (11.4%), communication services (33.4%) and restaurants/entertainment (55.5%). Shares are down 29% over the past 12 months, from ~$50 in February to $36.45 as of this writing. The trend is negative.
I consider this environment a plus for the quick-service food industry in which Yum shines, since customers will be looking for cheaper dining out options rather than opting for more expensive restaurants like cafes and steakhouses.
Growth
Yum’s mission is to deliver popular food through quick service at affordable prices. Management gets an A+ for consistent profitability, providing good value and momentum as well, according to the GF Score:
The brands are among the most popular worldwide. It operates and franchises quick-service restaurants worldwide through the KFC Division, Taco Bell Division, Pizza Hut Division and The Habit Burger Grill Division.
As of the most recent year's end, the company has 26,934 KFC units, 18,381 Pizza Hut units, 7,791 Taco Bell units and 318 The Habit Burger Grill units, located in 157 countries. Yum closed or sold operations of about 1,000 KFCs and 50 Pizza Huts in Russia so far this year.
Yum closed fiscal year 2021 on a high note, opening 3,057 net new units from 4,180 gross new openings, setting record expansion. Same-store sales were up 5%. Fourth-quarter 2021 sales grew almost 9%, beating forecasts by $10 million. Annual sales were up 13%. In full fiscal 2021, digital sales topped $22 billion (+25% year-over-year). This leads me to believe Yum is attracting more young people, who are more likely than their elders to buy online.
The first quarter ended in May 2022 marked a misstep, though, and the market overreacted quite dramatically. The company missed estimates for the quarter and, coupled with the dive in the broader stock market, Yum shares crumbled. The non-GAAP earnings per share were $1.05 when analysts expected $1.07. Revenue in the first quarter rose 4% year-over-year despite the closing and sale of locations, but analysts had expected $40 million more.
Global sales grew 8%, led by KFC sales growth of 9%. Yum opened nearly 1,000 gross units in the first quarter. That resulted in 628 net new units.
Outlook
Restaurants face more struggles ahead, but I believe Yum will do better than most of them due to the combination of economic positioning and strong brands.
Yum gets a 9 out of 10 rating for profitability from GuruFocus but a weak 3 out of 10 for financial strength. The GF Value chart rates the stock as modestly undervalued.
Personally, I believe the stock would need to fall below $110 in order to be considered undervalued, and it's almost there as of this writing.
The operating and net margins remain strong. Return on assets is over 28%. Management forecasts growth in brand sales through master franchise agreements in new unit openings in India, Asia, the Middle East, Latin America and Brazil.
Risks
There is softness in the restaurant industry overall, which can't be ignored. Shares are striking lower in the leisure and entertainment sectors.
The quick-service food industry is a mixed bag of data right now. In-store traffic is down about 9% year-over-year, and net sales are down about 3%. The average paycheck is up to over 7%, which fails to keep up with inflation, and as long as this discrepency continues, we can likely expect restaurant spending to follow the trend. Dine-in restaurants are facing even more headwinds, though, which bodes well for Yum’s future growth, especially as the company invests more money into online sales.
There is some weakness in its financial strength as well. Its cash-debt ratio ranks is worse than 95% of peers. Yum Brands sports a -1.46 equity-to-asset ratio coupled with a -1.34 debt-to-equity ratio.
The forward dividend yield is 2%. Yum shows a Beta of 0.92, which is close to the market’s volatility. Overall, I believe there are enough positives to offset the risks.
Conclusion
Yum Brands is profitable and offers excellent value after the recent price decline, in my view. This seems reaffirmed by the fact that there is virtually no short interest pressuring the stock price to move down any farther. Clearly, there aren't many institutions betting against this company. Hedge funds increased their holdings in the stock over the last quarter.
The company has an impressive unit expansion program and online investments. The increase in online sales could mean that younger people are dining at Pizza Hut, Taco Bell and KFC.
Yum also acquired a food optimization tech company in 2021 to automate food preparations, deliveries and customer order tracking. The goal is to make messaging efficient, enhance its presence on social media apps and improve marketing outcomes in its e-commerce business.
