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A Profitable, Low-Risk China Stock

By W.D. Crotty – Updated Nov 16, 2016 at 2:16PM

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Yum! Brands is booming in China and other international markets.

Check out this investment. It has China's best-known international brand. China is the company's biggest market outside the U.S. In the latest reporting period, revenue and operating profits each grew 25% in the Chinese division (which includes Thailand and Taiwan). The stock sells for 20 times trailing earnings and there is an 0.8% dividend.

Welcome to KFC, the fast-food company also known as Kentucky Fried Chicken, the operation that is spicing up the results at its parent Yum! Brands (NYSE:YUM) -- home to other well-known brands such as Pizza Hut, Taco Bell, and Long John Silver's.

KFC entered China in 1987, and it has more restaurants there than fast-food giant McDonald's (NYSE:MCD). Last quarter, Yum! opened 84 KFC restaurants in China; 87% of its restaurants in China are KFCs (there are 1,758 in all).

What should catch investor attention is the operating margin in China, where the company also has 261 Pizza Huts and four Taco Bells. Last quarter, it was 22.6%, up 0.3 percentage point from last year's comparable quarter. For another comparison, the U.S. margin was 12.1%, and the international one, which excludes the China division, was 19.4%. Not only is China booming, it also produces Yum!'s best operating margins.

The good news (or, if you are a pessimist, the bad news) is that the China division represents 11.4% of sales. That leaves plenty of room for growth with the proven KFC growth engine -- and a budding Pizza Hut operation.

The worldwide news at Yum! is good, too. The number of restaurants grew 2%, same-store sales (the key measure for any retail operation) were up 3%, and earnings per share before special items were up 14%, in spite of higher commodity costs dampening operating margins.

With 74% of the new restaurants in China company-owned, it might be expected that net debt (debt minus cash) would be growing, particularly given the fact that the company opened 111 restaurants in the past quarter. In fact, net debt decreased slightly to $1.53 billion.

The company is promising 10% or higher earnings growth for the future. Analysts expect earnings of $2.90 a share for 2006 -- pricing the stock at 16 times forward earnings. That's a very reasonable valuation for a company with a strong Chinese growth market and an improving balance sheet.

Fool contributor W.D. Crotty owns shares in Yum! and McDonald's -- and plans a KFC lunch today. Click here to see The Motley Fool's disclosure policy .

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Stocks Mentioned

McDonald's Corporation Stock Quote
McDonald's Corporation
MCD
$245.95 (-0.80%) $-1.99
Yum! Brands, Inc. Stock Quote
Yum! Brands, Inc.
YUM
$110.65 (-0.13%) $0.14

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