Yum! Brands Has More Problems Than Just Chipotle



Yum! Brands (NYSE: YUM  )  , the global fast food giant boasting a  market capitalization of $34 billion, $13 billion in annual sales, and well-known brands like Taco Bell, KFC, and Pizza Hut has some interesting issues it must deal with. The U.S. is the company's largest single market, accounting for 25% of total sales, which have been pressured in recent years thanks to the rise of Chipotle Mexican Grill (NYSE: CMG  ) . Yet, while Chipotle remains a significant threat to Taco Bell, Popeyes Louisiana Kitchen (NASDAQ: PLKI  )  is also creating new risks for Yum!. Therefore, is Yum! too big to fail, or should investors start looking elsewhere? 

Taco Bell struggles against Chipotle
Investors have often considered Yum! Brands an investment of diversity and safety in an uncertain market. Because after all, global exposure to three very different types of large restaurants seems safe, as people all throughout the world have to eat.

Therefore, thanks to a five-year 121% gain, Yum! Brands' stock has become significantly more valuable regarding its premium. Specifically, it trades at a whopping 31 times earnings, which isn't cheap by any means but implies that Yum! is a strong company with measurable growth.

While Yum!'s first-quarter worldwide system sales did grow 4% year over year, the company continued to struggle in its largest segment, the U.S. Specifically, Taco Bell has been a major laggard, as its sales were flat and its operating profit declined by 14% in its last quarter. This flat performance ends a long term of year-over-year growth, which has been decelerating in recent years and is likely nearing negative numbers.

In contrast, Chipotle is as strong as ever. In the company's last quarter, revenue rose nearly 25%, and comparable sales posted a very impressive 13.4% gain. Granted, Chipotle did see some weakness in margins during its last quarter, as did Taco Bell, but according to RBC, Chipotle has been hiking prices in recent weeks. RBC estimates a 6.5% core-menu-item price hike and 7.3% for side items, yet no consumer backlash. Essentially, this shows the power of Chipotle, a luxury not seen with Taco Bell.

With that said, Taco Bell's problem with Chipotle is well documented. But with Yum! being so large, it has managed to weather the Chipotle storm fairly well. However, Yum! has yet to face the threat of a competitor stealing share from two of its restaurants in the U.S., which would consequently affect earnings to a greater degree.

Particularly,  Popeyes is really giving KFC a run for its money. Specifically, Popeyes' stock rose nearly 15% last Thursday after the company announced a 4.5% rise in global comparable sales. Meanwhile, KFC's U.S. operations saw a 4% drop during its last quarter.

As a result, Popeyes increased its market share in the domestic chicken quick-service restaurant segment to 22.3%, up 210 basis points. By contrast, we can assume that KFC's share dropped with a decline in U.S. sales.

Final thoughts
 In 2013, Yum! was negatively affected when avian flu-related fears crushed sales for KFC in China. Therefore, Yum!'s earnings might look good on paper in the first half of 2014, but if current trends with Popeyes and Chipotle continue, it does appear that a large chunk of Yum!'s U.S. operations will face increased competitive pressures.

At 21  times this year's estimated earnings Yum! is not cheap especially for a company with limited growth potential. In addition, Yum!'s 2% dividend yield does not provide enough downside protection for investors either. Therefore, investors might be beter served holding shares in Popeyes or Chipotle, which would be equivalent to investing in faster-growing versions of KFC and Taco Bell at nearly the same price to earnings.

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