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Yum Brands Poised for Cash Flow Growth

We still view Yum as a core holding offering a balance between global growth and capital allocation.

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Yum Brands Inc
(YUM)

We see two levers in particular. First, Yum's franchisees rank among the strongest in the quick-service restaurant space with cash-on-cash returns in the mid-20s. Given that its franchisees tend to have larger balance sheets versus peers--its 2,000 global franchisees average almost 25 locations--Yum should maintain 1,500-plus net new units the next five years at a fraction of capital expense historically required (annual run rate of $100 million versus an average of $400 million for 2015-17). Second, Yum is ahead of most operators regarding consumer technology adoption, which should be key to unlocking transaction growth. The Taco Bell/KFC partnership with GrubHub delivery is the obvious example (especially with transactions structured so that franchisees aren't responsible for commissions), but we expect systemwide online/mobile ordering leadership to be augmented by the acquisition of QuikOrder, which processed half of Pizza Hut's sales in 2018.

There is no change to our $90 fair value estimate, and we remain comfortable with our five-year targets, including average annual system sales growth of 6%-7% (including system comps of 3%) and core operating margin growth in the high single digits, which implies approaching EPS of $5.75 by 2022. While it strikes us as fairly valued, we still view Yum as a core holding offering a balance between global growth and capital allocation; its 2017-19 cash return goal of $6.5 billion-$7.0 billion remains on track, with several upside opportunities.

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About the Author

RJ Hottovy

Sector Strategist
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R.J. Hottovy, CFA, is a consumer strategist for Morningstar Research Services LLC, a wholly owned subsidiary of Morningstar, Inc. He is responsible for consumer discretionary and staples research. He has covered the consumer sector as an analyst and director of global consumer equity research for Morningstar since joining the company in 2008, and specializes in a broad range of consumer categories including restaurants, footwear and apparel retailers, consumer electronics retailers, fitness clubs, home improvement and furnishing retailers, and consumer product manufacturers.

Before joining Morningstar, Hottovy was a director and senior stock analyst for Next Generation Equity and an analyst for William Blair & Co., specializing in a wide range of retail and consumer product companies. He also spent two years at Deutsche Bank, covering waste management, water utilities, and equipment rental stocks.

Hottovy holds a bachelor’s degree in finance and a second degree in computer applications from the University of Notre Dame, where he graduated magna cum laude. He also holds the Chartered Financial Analyst® designation and is a member of the CFA Institute and the CFA Society of Chicago.

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