Yum China Earnings: Management Maintains Guidance and Expects Promotional Headwinds

Wide-moat Yum China’s YUMC 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.

In the second quarter, revenue increased 25% year over year, or 32%, excluding foreign currency translation. Solid sales performance was mainly driven by same-store sales growth of 15%. The remaining incremental sales were contributed by new unit openings and the lapping of temporary closure in second-quarter 2022. Adjusted operating profit increased 215% year over year to $259. Adjusted operating margin reached 9.8%, versus 3.9% same period last year. Significant expansion in profitability was driven by sales leveraging, cost reduction initiatives, and various investments in improving operating efficiency.

Management maintained 2023 guidance—calling for a net opening of between 1,100 and 1,300 net new stores and a $700 million to $900 million capital expenditure budget. We expect Yum China to invest in technology and supply chain infrastructure, which should generate more cost savings as the firm further expands its restaurant brands across China.