Company Reports

Wide-moat Yum China delivered a mix bag of results for the first quarter, with revenue falling behind our estimate but net profit in line. Management indicates continued pressures on average ticket sizes in the near term, reflecting consumer downtrading and rising competition. Despite the near-term challenges confronting Yum China, especially those related to macroeconomic weakness, our confidence in the company's double-digit revenue growth and margin expansion outlook over the medium term remains unchanged. We cut our earnings estimates for 2024-26 by an average of 8% to reflect the lower ticket averages and reduce our fair value estimate to $76 per share from $80. But with Yum China shares still trading at a significant discount to our revised fair value, we continue to view its shares as undervalued.

The covid-19 pandemic provided Yum China the opportunity to accelerate store openings at more favorable lease terms. The company added more than 3,700 locations from 2020 to 2022, equivalent to a 36% increase from 2019. Now that China’s zero-covid-19 policy is in the rearview mirror, we expect these new restaurants to not only deliver significant incremental revenue but also be accretive to the overall margins. Over the next several years, we expect Yum China to speed up new unit openings. We share management's view that there remain plenty of expansion opportunities in lower-tier cities—evidenced by nearly 1,200 Chinese cities still with no KFC presence.

The covid-19 pandemic provided Yum China the opportunity to accelerate store openings at more favorable lease terms. The company added more than 3,700 locations from 2020 to 2022, equivalent to a 36% increase from 2019. Now that China’s zero-covid-19 policy is in the rearview mirror, we expect these new restaurants to not only deliver significant incremental revenue but also be accretive to the overall margins. Over the next several years, we expect Yum China to speed up new unit openings. We share management's view that there remain plenty of expansion opportunities in lower-tier cities—evidenced by nearly 1,200 Chinese cities still with no KFC presence.

The covid-19 pandemic provided Yum China the opportunity to accelerate store openings at more favorable lease terms. The company added more than 3,700 locations from 2020 to 2022, equivalent to a 36% increase from 2019. Now that China’s zero-covid-19 policy is in the rearview mirror, we expect these new restaurants to not only deliver significant incremental revenue but also be accretive to the overall margins. Over the next several years, we expect Yum China to speed up new unit openings. We share management's view that there remain plenty of expansion opportunities in lower-tier cities—evidenced by nearly 1,200 Chinese cities still with no KFC presence.

We fine-tune our forecasts for wide-moat Yum China but maintain our fair value estimate of $80 per share. The first quarter of 2024 posed challenges for restaurant operators, primarily due to the high base effect associated with initial covid-19 reopening. Moving into the second quarter, we have seen demand growth normalizing, alleviating the impact of the previous high base effect and allowing for a clearer assessment of same-store sales growth. While we remain cognizant of potential macroeconomic uncertainty, our base-case scenario anticipates a slightly more favorable operating environment for restaurants in 2024, compared with the latter part of 2023. Yum China remains our top pick in the Chinese restaurant space. We believe the market is overlooking Yum China's opportunities for market share and unit expansion in the highly fragmented restaurant market.

Wide-moat Yum China's fourth-quarter earnings were largely in line with our expectations but came in above the Refinitiv consensus estimate. Management’s 2024 outlook aligns with its three-year goals for 2024-26, yet we anticipate the company outperforming its own projections. Overall, we maintain our USD 80 fair value estimate and continue to view shares as undervalued. We believe the current market valuation overlooks two things: 1) Yum China's opportunities for restaurant expansion in China's growing fast-food industry; and 2) margin improvement that will be realized by operating leverage and ongoing digital investments.

Following the recent market correction, Chinese restaurant operators are trading at attractive valuations and offer prime buying opportunities for long-term investors. Apart from Haidilao, our coverage—Yum China, Jiumaojiu, and Xiabuxiabu—now sits comfortably in five-star territory. Wide-moat Yum China is our top pick in the sector, which is trading at a considerable 50% discount to our $80 fair value estimate.

While third-quarter earnings were below our and Refinitiv's consensus estimates, we maintain our long-term view on wide-moat Yum China. We reduce our fair value estimate by 4% to $80 (HKD 626) to reflect higher labor expenses in the near term, but still expect Yum China to offset cost inflation and expand margins over the long run. Our fair value estimate implies a 2024 price/earnings multiple of 30 times. We continue to view Yum China's shares as undervalued and believe the market is overlooking: 1) Yum China's restaurant expansion opportunities in China's growing fast-food industry; and 2) more operating leverage once same-store sales return to 2019 levels.

The COVID-19 pandemic provided Yum China the opportunity to accelerate store openings at more favorable lease terms. The company added more than 3,700 locations from 2020 to 2022, equivalent to a 36% increase from 2019. Now that China’s zero-COVID-19 policy is in the rearview mirror, we expect these new restaurants to not only deliver significant incremental revenue but also be accretive to the overall margins. Over the next several years, we expect Yum China to speed up new unit openings. We share management's view that there remain plenty of expansion opportunities in lower-tier cities—evidenced by nearly 1,200 Chinese cities still with no KFC presence.

The COVID-19 pandemic provided Yum China the opportunity to accelerate store openings at more favorable lease terms. The company added more than 3,700 locations from 2020 to 2022, equivalent to a 36% increase from 2019. Now that China’s zero-COVID-19 policy is in the rearview mirror, we expect these new restaurants to not only deliver significant incremental revenue but also be accretive to the overall margins. Over the next several years, we expect Yum China to speed up new unit openings. We share management's view that there remain plenty of expansion opportunities in lower-tier cities—evidenced by nearly 1,200 Chinese cities still with no KFC presence.

Yum China's 2023 investor day offered upbeat medium-term financial targets and reinforced our wide moat rating and positive long-term thesis. We continue to view Yum China as the safest way to gain exposure to the growth of the Chinese middle class in the next decade, presenting a compelling combination of free cash growth and decent capital allocation. We keep our fair value estimate at USD 84 (HKD 659). The company’s shares remain undervalued, trading at a significant discount of 30% to our fair value estimate.

Wide-moat Yum China's second-quarter earnings were largely in line with our and Refinitiv's consensus expectations. Management remains upbeat on business performance going into the rest of this year as China's reopening boosts restaurant traffic. Overall, we maintain our $84 fair value estimate and view shares as undervalued. We believe Yum China's current share price overlooks two things: 1) the business' opportunities for unit expansion in China's growing fast-food industry—management is tracking more than 800 cities that still don't have a KFC; and 2) further margin expansion will be realized by operating leverage and ongoing digital and automation investments.

Wide-moat Yum China's first-quarter earnings were largely in line with our expectations, but they came significantly above Refinitiv consensus estimates. Management remains rightfully upbeat on the rest of this year as reopening boosts restaurant traffic. Overall, we maintain our USD 84 fair value estimate and continue to view shares as undervalued. We believe Yum’s current share price overlooks two things: 1) Yum China's opportunities for unit expansion in China's growing fast-food industry; and 2) further margin expansion that will be realized by operating leverage and ongoing digital investments.

The COVID-19 pandemic provided Yum China the opportunity to accelerate store openings at more favorable lease terms. The company added more than 3,700 locations from 2020 to 2022, equivalent to a 36% increase from 2019. Now that China’s zero-COVID-19 policy is in the rearview mirror, we expect these new restaurants to not only deliver significant incremental revenue but also be accretive to the overall margins. Over the next several years, we expect Yum China to speed up new unit openings. We share management's view that there remain plenty of expansion opportunities in lower-tier cities—evidenced by nearly 1,200 Chinese cities still with no KFC presence.

Wide-moat Yum China reported fourth-quarter 2022 earnings that were below the PitchBook consensus estimate, but the lackluster performance was caused by China's zero-COVID-19 policy, which is no longer in effect. With a quarter with unprecedented challenges now in the rear view mirror, sales in the Lunar New Year period recovered to mid-single-digit growth, compared with the same period last year. It is our firm opinion that this will be a strong recovery year, and we maintain our above-consensus growth and margin forecasts in 2023. Our fair value estimate for Yum China remains unchanged at USD 84 (HKD 659). We continue to view the shares as being undervalued and believe the market is overlooking two things: 1) Yum China's opportunities for unit expansion in in China's growing fast-food industry; and 2) margin expansion will be unlocked by digital investments and operating leverage.

We believe the latest regulatory announcement from the U.S. should help add investor confidence in Chinese ADRs. The Public Company Accounting Oversight Board in the U.S. said on Dec. 15 it had gained full access to inspect and investigate firms in China. Before this, investors feared the Holding Foreign Companies Accountable Act could force hundreds of Chinese companies listed on U.S. exchanges to delist starting as early as 2023. The news should support recent outperformance by Chinese equities following moves to relax coronavirus testing and quarantine policies in China. Although volatility may persist as COVID-19 cases increase in China, we think the combined news presents a floor in terms of risk premium to China equities. While Chinese stocks have rebounded off lows, wide- and narrow moat-rated ADRs such as NetEase, Alibaba, Yum China, and JD.com are still seeing attractive upsides to our fair value estimates.

Wide-moat Yum China's third-quarter 2022 results reinforce our view that the firm will come out of the coronavirus pandemic as a more resilient and profitable business. Sporadic lockdowns and uneven spending patterns over the past year pushed Yum China to accelerate cost cuts, resulting in a quarter of record-breaking profitability at KFC. While China's zero-tolerance policy remains the biggest near-term headwind to restaurants, the size of Yum China's off-premise business (over 60% of revenue) positions the firm to outperform its peers. We maintain our $84 (HKD 659) fair value estimate and view Yum China shares as heavily undervalued—trading at a 50% discount to our fair value estimate). Despite shares rallying by more than 10% during Hong Kong trading, we still think investors are underestimating the firm's long-term growth prospects and potential for further margin expansion.

We revise down our near-term forecasts for Yum China following tepid demand recovery in the third quarter. After adjusting our model, we lowered our Yum China fair value estimate to USD 84 (HKD 659) per share from USD 86 (HKD 670). Our top picks in the consumer discretionary space are Yum China and Shenzhou International. Share prices of both companies are under pressure due to worsening COVID-19 trends in China, but we are confident that this challenge is temporary. Despite short-term headwinds, both businesses still offer favorable long-term outlooks—Yum China is a primary beneficiary of China's demographic shifts, while Shenzhou is well-positioned to cash in on structural growth in global demand for sportswear.

The resurgence of COVID-19 cases has again put the Chinese restaurant sector under pressure. Several cities have returning to citywide quarantines, and travel volume during the early period of Chinese New Year is down 70%, placing pressure on the company’s near-term results. Nevertheless, we believe investors should find confidence in restaurants: possessing the scale to be more aggressive on pricing near-term; giving their customers greater access through robust digital ordering, delivery, and drive-thru capabilities; and who have healthy balance sheets when looking for restaurant industry opportunities.

The resurgence of COVID-19 cases has again put the Chinese restaurant sector under pressure. Several cities have returning to citywide quarantines, and travel volume during the early period of Chinese New Year is down 70%, placing pressure on the company’s near-term results. Nevertheless, we believe investors should find confidence in restaurants: possessing the scale to be more aggressive on pricing near-term; giving their customers greater access through robust digital ordering, delivery, and drive-thru capabilities; and who have healthy balance sheets when looking for restaurant industry opportunities.