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YUM! Brands Stock Up 21% in a Year: More Room to Run?

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Refranchising activities, digitalization, sales building initiatives bode well for YUM! Brands, Inc. (YUM - Free Report) . This is quite evident from the company’s performance in a year’s time. The stock has gained 20.9%, outperforming the industry’s 8.6% growth. However, high costs of restaurant operations and dented sales remain near-term concerns for the company. Let’s delve deeper.

Hidden Catalysts

Yum! Brands has a three-year strategic transformation plan to drive growth at KFC, Pizza Hut and Taco Bell brands. Notably, the company’s transformation and growth strategy involves laying greater focus on the development of its three iconic global brands, increasing its franchise ownership and creating a leaner, more efficient cost structure. It is also focusing on restaurant development to drive continued growth. The first quarter of 2018 marked Yum Brands’ completion of the second year of its transformation journey.

By relying extensively on the four key catalysts — distinctive, relevant and easy brands; unmatched franchise operating capability; bold restaurant developments; and unrivaled culture and talent — the company remains on track to achieve its target.

Further, the digital wave has hit the U.S. fast casual restaurant sector. More and more restaurants are deploying technology to enhance guest experience. Yum! Brands is also not far behind in the race as the company is continuing its transformation process toward a single point-of-sale system in the United States.

Yum! Brands adopted a de-risking strategy by reducing its ownership of restaurants through refranchising, which is commendable. In fact, the China division’s spin-off has largely made Yum! Brands a more asset-light company. In second-quarter 2018, the company had franchise ownership of 97%. It is committed toward becoming at least 98% franchised and possess less than 1,000 company-owned restaurants by the end of 2018.
We note that refranchising a large portion of the system reduces the company’s capital requirements and facilitates earnings per share growth and ROE expansion.

Concerns

An increase in the cost of employee wages, benefits and insurance as well as other operating costs, such as rent and energy costs have dented the company’s margins significantly.  A competitive retail environment also puts pressure on the restaurants’ costs. Moreover, with relentless expansion, the company is prone to face margin pressure.

Yum Brands operates in the retail restaurant space, which is highly dependent on consumer discretionary spending. The industry is also highly competitive, with bigwigs like McDonald’s (MCD - Free Report) , Domino’s (DPZ - Free Report) and Starbucks (SBUX - Free Report) making pragmatic use of advanced technologies to innovate across value chains. Amid such stiff competition, Yum! Brands is continuously facing pressure to innovate and strategize its menu offerings.
Yum Brands has a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

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